Why Bitcoin's meltdown is testing investor optimism

The cryptocurrency could face its next key challenge at $30,000, analysts say

A Bitcoin mural in Miami, Florida. The cryptocurrency market has lost $1 trillion since its most recent peak in November. AFP

With the blink of an eye, more than $1 trillion in cryptocurrency market value has evaporated.

The jarring downturn that has been a hallmark of digital assets in recent weeks continued to play out at the weekend, with Bitcoin at one point losing more than 15 per cent during that stretch.

The coin, which is the largest digital token, has dropped more than 50 per cent from a recent peak and many other cryptocurrencies have lost just as much, if not more.

The carnage superlatives have been easy to come by: last Friday’s decline led to the liquidation of more than $1.1 billion in crypto futures positions and, overall, more than $1tn in market value has been destroyed since the last peak. In other words, the meltdown is pouring salt on an already-deep wound.

“Digital currency markets in total have been challenged this month,” said Jonathan Padilla, co-founder of Snickerdoodle Labs, a blockchain company focused on data privacy. “There is definitely some pain there.”

Even long-time bulls are starting to wonder out loud at what point the battering might end. Famed cryptocurrency investor Mike Novogratz mused on Twitter that “this will be a year where people realise being an investor is a difficult job”.

However, cryptocurrency fans have an infinite supply of optimism and many are confident that with Bitcoin already spending two thirds of the year in the red, better times could come soon.

At some point, sellers will become exhausted and there could be some capitulation in the market soon, said Matt Maley, chief market strategist for Miller Tabak + Co.

“When that happens, the institutions will come back in a meaningful way,” he said. “Once the asset class becomes more washed out, they will have a lot more confidence to come back in and buy them. They know that cryptos are not going away, so they will have to move back into them before long.”

The news cycle has been relentless. Regulators from Russia, the UK, Singapore and Spain all announced interventions that could undermine cryptocurrency companies looking to grow in those regions, while tightening US monetary policy left traders expecting several interest rate increases this year.

Meanwhile, US President Joe Biden's administration is preparing to release an initial government-wide strategy for digital assets as soon as next month, with federal agencies expected to assess the risks and opportunities that they pose, according to sources.

That weighed on Bitcoin enough to send it to within a whisker of $34,000 on Saturday.

Bitcoin’s decline since its November high has wiped out about $600bn. More than $1tn has been lost from the aggregate cryptocurrency market.

While there have been much larger percentage drawdowns for both Bitcoin and the aggregate market, this marks the second-largest decline in dollar terms for both, according to a Friday note from Bespoke Investment Group. The largest occurred last summer, when a decline that peaked at the end of July wiped out $646bn for Bitcoin.

About 290,000 traders had their positions closed over the 24 hours through to Friday evening in New York, with liquidations totalling more than $1.1bn, according to data from Coinglass.

It remains to be seen if Bitcoin’s tumble below the psychological level of $40,000 will serve as an inflection point. Cryptocurrency proponents say heavy liquidations often serve to cut out the froth in easy-win asset speculation, helping to solidify new bottoms in the market.

“Fear and unease among investors is palpable,” said Antoni Trenchev, managing partner at Nexo. “If we see a bigger sell-off in equities, expect the Fed to verbally intervene to calm nerves and that is when Bitcoin and other cryptos will bounce.”

As the dust settles, key technical indicators show things could be about to look up for Bitcoin. The fall in the cryptocurrency’s price on Friday triggered a drop below the lower band of its trading envelope.

Traditionally, this has been a sign that the sell-off might be overdone and a reversion to the mean is in play. However, Saturday’s nudge lower suggests the bears remain in charge.

“For now, Bitcoin is up against the wall after falling below $40,000. A swift bounce above that key technical and psychological level can’t be ruled out,” said Mr Trenchev.

“Failing a quick reversal, I am not excluding Bitcoin retests $30,000 before the Fed changes tack, but that ought to be the bottom, at least in the midterm. And from there, I think we can have a nice leg up.”

Bitcoin has been trading largely in tandem with the Nasdaq 100, whose members include high-growth technology stocks that have been dinged during this year’s sell-off.

That makes sense to Art Hogan, chief market strategist at National Securities, who said that it is useful to think of cryptocurrencies as living in the same space as other speculative sectors, including special-purpose acquisition companies (Spacs) and electric-vehicle makers.

“When we are in an environment where all of those riskier assets are selling off, crypto is going to find itself doing the same,” Mr Hogan said.

“When the Nasdaq 100 or any of the other more speculative, rapid-growth, momentum-type asset classes start to gain some traction, so will cryptocurrencies.”

Updated: January 25, 2022, 4:00 AM