The volatility of cryptocurrencies is sometimes shocking when you first encounter it. How could the price of anything possibly sway so much? It brings up feelings of fear and astonishment. But the truth is that for most currencies, it’s nothing more than the aggregate of individual investors making decisions in their own self-interest. For the purpose of this article, I will be referring only to currencies that have a limited supply.
This ties in with the way cryptos are often portrayed in the mainstream media – unreliable bubbles that will most certainly lead to disappointment. But cryptocurrencies are so much more. It’s a new way for the whole world to do business on a level playing field. The systems in place to keep your money secure also do the same for everyone else. You can transact in complete privacy without the fear of your data being mined. It’s a permissionless, decentralized system that gives you complete access to your funds at any time.
This is not stuff that you would hear very often on the news and not all currencies are at the same level of reliability. There are of course scams in the crypto world as well and that’s why its important to do our own research before we get into anything. We will cover things to look out for while researching crypto investments in a future article.
Coming back to our original topic – why do the prices of various cryptocurrencies fluctuate so much?
· A globally traded asset
The price of cryptocurrencies swings widely because for the first time in history we have an asset that can be traded anywhere in the world, 24 hours a day, with absolutely no restrictions of any sort. If the shares of a company were traded in a similar way, we would probably see similar price fluctuations as well.
· No centralized control
We see a great deal of control being asserted to ensure that the fiat currencies that we use today generally hold their price. Banks today use a system called fractional reserve banking – banks work on the expectation that only a proportion (or 'fraction') of depositors will seek to withdraw funds at the same time, keep only a fraction of their liabilities as reserves. This means that they don’t have all the money that has been deposited with them – in fact, they have probably loaned out several times more money than was ever deposited in the bank in the first place. This can only occur within the fiat system – would be impossible with cryptocurrencies that are limited in supply.
Fractional reserve banking is possible within custodial crypto services like exchanges. The information in this article pertains to non-custodial, decentralized services.
The world of crypto trading is a free market with people bidding either higher or lower for various currencies. The price changes are completely determined by the people holding those coins and there is no central authority determining what coin should be sold at what price.
· Small Market Cap
The world of cryptocurrencies is still in its infancy and the overall market cap of cryptos is still small compared to that of mainstream currencies and other assets. This means that the actions of a few big investors can have a massive ripple effect on the whole market. Once more people start to hold cryptos, things will definitely change, and we will see fewer and fewer big changes in price.
Cryptocurrencies have been making waves lately after surging past a combined $2 trillion market cap. Crypto is still at a nascent stage and is much smaller than other asset classes despite seeing huge growth in the past 10 years.
Market information 2021
Total Market Cap
Crypto
$2 trillion
Stocks
$89 trillion
Money Supply
$90 trillion
Bonds
$253 trillion
Real Estate
$280 trillion
· Pump and Dump schemes
A pump and dump scheme is one wherein a group of people boost a company’s stock price by sharing positive, but fake, information. The people behind these schemes buy up the shares cheap in advance of spreading information that in turn drives the stock price higher and higher and encourages other investors to get in on the supposed windfall. When the stock hits a high point, the scammers dump their shares, leaving unsuspecting investors holding an empty bag.
This happened with the shares of the company GameStop in early 2021 -
” After the meteoric rise of GameStop stock, from about $4 a share six months ago to $483 a share on Thursday morning, Robinhood and other trading platforms restricted trades on certain securities, including GameStop and AMC.
“Amid this week’s extraordinary circumstances in the market, we made a tough decision today to temporarily limit buying for certain securities. As a brokerage firm, we have many financial requirements,” Robinhood said in a statement. “These requirements exist to protect investors and the markets and we take our responsibilities to comply with them seriously, including through the measures we have taken today.”
This is a common occurrence in the world of cryptocurrencies as well and unfortunately this part of human behaviour isn’t going anywhere. In a decentralized system, there is no person or committee that can place restrictions on others. People need to take ownership for their own actions and behave in a way that is responsible. In time, when more people have access to cryptos, and people start to use them for conducting day to day transactions then pump and dump schemes will fade away.
