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What affects cryptocurrency prices

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7 months ago

Although the cryptocurrency market has been around for a while, it is still closely associated with high volatility, overnight gains and losses, and new cryptocurrencies being introduced every day. In fact, 2022 has seen both – the market capital of the world's leading cryptocurrency, Bitcoin, drop by around $150 billion in 24 hours, and also Dogecoin soar over 17% with a single tweet.

Such events leave retail traders with a question – is it possible to predict cryptocurrency price movements by monitoring the same factors that influence other financial markets like forex, commodities, or stock indices? The answer to this question is yes as well as no. Some of these factors apply to the crypto market too, but there are also a number of crypto-specific events that influence the price movements of this market.

Let's take a closer look.

Common factors

1. Supply and demand

The law of supply and demand can be a good indicator of cryptocurrency price movements.

Now, the availability of cryptocurrencies depends on how many are in circulation at a particular time. So increased coin circulation leads to supply becoming bigger than demand, causing the price to decrease.

On the other hand, when the demand for a cryptocurrency surpasses its supply, its price increases and can continue to have an upward momentum until there is a drop in supply or one of the other factors kicks in.

2. Cost of production

The cost of production plays an important part in determining the price of any product or service, and cryptocurrencies are not an exception. But first, let's understand how cryptocurrency coins are produced.

Cryptocurrency coins are generated through a process called mining, which is carried out by verifying crypto transactions on the blockchain. The miners' network is essential to creating new crypto coins, maintaining the blockchain, and making decentralised cryptocurrency work. In order to succeed at mining, miners need powerful computers and electricity, which of course, increases their investment cost. Naturally, miners will only invest their efforts and resources to produce cryptocurrencies if the end reward covers their expense and includes a profit.

In other words, for miners to make a profit, the value of cryptocurrencies needs to be high enough, and this is how the cost of production affects their value.

3. Competition

The cryptocurrency market is quite populated, and many new cryptocurrencies are being introduced every day. This makes the market more competitive. Suppose traders feel a new or upcoming cryptocurrency has potential, their demand might shift, resulting in a drop in demand for the usually popular cryptocurrencies. While popular coins like Bitcoin and Ethereum have secured top positions, their prices could take a hit or rise depending on how other cryptocurrencies perform. Additionally, the prices of the top cryptocurrencies could also affect other cryptocurrencies.

4. Market conditions

In uncertain times or during inflation, traders tend to turn to safe-haven assets such as gold, US dollar, or Japanese yen; generally preferring to avoid risky investments. If this happens, traders, in particular, might prefer to sell or avoid investing in cryptocurrencies, which is known to be a volatile and risky market. Needless to say, the drop in demand could result in a price fluctuation.

Crypto-specific factors

1. Availability on exchanges

A crypto exchange is a place where you can exchange your cryptocurrencies for other digital currencies or fiat money. Availability on exchanges determines how much a particular cryptocurrency is bought or sold, thereby influencing its price movements.

Popular cryptocurrencies are available at many exchanges, while smaller coins may be available only at a few exchanges. In this case, if traders want to swap a popular cryptocurrency for a cryptocurrency that’s not widely available, they will need to carry out multiple exchanges and pay a fee each time they swap.

For example, a trader wants to exchange Avalanche for Polkadot, but cannot find an exchange with both cryptocurrencies. He will have to convert Avalanche to USD at one exchange and pay a fee. Then he will have to convert the USD to Polkadot at another exchange and pay a fee. Naturally, this doubles the trader’s investment cost and could discourage his demand, which might affect the price later on.

2. Speculation

Regulations

The cryptocurrency market is both unregulated and decentralised. Since it has gained popularity, governments across the globe have discussed ways to regulate it or tax the money people use to cash it out. Any announcement from government bodies is likely to affect the demand and investment, finally resulting in a fluctuation of cryptocurrency prices.

Social media

Social media and digital forums have also come to influence cryptocurrency price movements significantly. Along with providing information on blockchain updates, social media has also become the go-to for opinions of cryptocurrency influencers. Since it has a way of directing general public opinion, it also influences the way traders feel about the current market situation and their buying or selling decisions, which affects demand. In this case, too, a drop or spike in demand influences cryptocurrency prices.

Although cryptocurrency prices are likely to fluctuate, there are some factors that allow you to make educated decisions before you place a crypto trade. However, none of these factors can give you a guaranteed prediction of a price movement. A safer way to develop a crypto trading strategy is to test and try different options and see which one is working for you.

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