Amid Market Instability, Don’t Stuff Your Crypto Under Your Digital Mattress

News, Opinion | November 18, 2019 By:

Not a day seems to go by in global politics at the moment without some fresh new drama. Whether its escalating trade wars, Brexit or an impending recession, global markets just can’t seem to catch a break. And investors are starting to take notice. Rather than dip their toes in by investing in the stock markets, money is flooding into the “safe haven” assets such as precious metals.

While this is common behaviour whenever a recession looms, unstable markets have led to a rise in investment in another far less traditional asset: cryptocurrencies. Given the timing, some have theorised that as crypto prices are swinging less dramatically than normal, investors are categorising it alongside gold and silver as a “safe haven asset”. For those new to the market, this is an understandable assumption to make – the influx of new users, institutional capital, and other types of investor seem to have stabilised markets somewhat.

However, those who think that professional investors are using crypto as the digital equivalent of stuffing notes under the mattress could be in for a rude awakening further down the line. While the market downturn means that cautious investors are backing safer assets, it also means that there are fewer options when it comes to generating profits. This means that the influx of money into crypto is more symptomatic of investors abandoning the limited gains to be made in the traditional markets and turning towards more speculative investments which can generate returns.

This is an understandable approach; cryptocurrencies have always been prone to periods of both relative stability and sharp volatility. And while the increase in institutional and regulatory involvement may have served as a temporary stabiliser, we are far away from having the infrastructure to prevent dramatic rises and falls in the future.

It all boils down to the fact that the asset simply isn’t as mature as those in the traditional markets. It is certainly less susceptible to announcements than it was – Bitcoin’s price didn’t crash after Bakkt’s lackluster launch, for example – but there are still a myriad of factors which can cause dramatic swings in price. Take the uncertain regulatory climate for example; moves from regulators like India banning cryptocurrency can mean Bitcoin suddenly finds itself with a significantly diminished userbase. There is also still a large amount of Bitcoin held in stockpiles by small groups referred to as “whales”. Should a “whale” choose to transact, it can have a major impact on the markets.

Finally, and most importantly, it still has nowhere near the same volumes as traditional currencies. The number of dollar or sterling transactions per day dwarfs Bitcoin. This means that the market is comparatively still quite illiquid. Any transactions which take place are far more likely to be large sweeping moves as there is a limited number of buyers, so we tend to see large transactions which have a dramatic effect on prices. As a result, until the market grows and a regulatory consensus is reached, we are a long way away from “safe haven” status.

It’s essential that we accept that crypto is not a life boat which will carry you through the current storm of market instability. This doesn’t mean that it shouldn’t be considered as an important part of a varied portfolio. It is still a uniquely volatile asset, meaning there are profit opportunities to be made for those who take a sensible approach. You need to understand the market rather than rush in all guns blazing. What you can do is have a solid hedging strategy in place which takes historical market volatility into account rather than optimistically viewing the recent lull in volatility as a new era of stability. Those who get this right will be able to both ride out the lulls and capitalise on the highs.