What Crushed Bitcoin?
Investors who have been paying close attention to the correction of high-technology sectors in the last couple of days have been missing the crush of Bitcoin.
Unlike high-technology shares, which corrected from near all-time-high levels, Bitcoin continues to correct from levels well below its all-time highs. That's why its precipitous decline can be characterized as a crash rather than just a mere correction.
The crash of the digital currency comes when the U.S. and the world economies are experiencing a resurgence of inflation, which undermines the value of national currencies.
So, shouldn't Bitcoin be rising rather than falling in value? What's driving Bitcoin's crash?
Mikkel Morch, executive director of Bitcoin and cryptocurrency hedge fund ARK36, attributes Bitcoin's crash to technical factors, exacerbated by the release of the Fed minutes, which indicates that the U.S. central bank is getting serious about fighting inflation.
"We have recently seen a steep rise in open interest to levels that in the past were conducive to setting off a cascade of liquidations [that] should cause the price drop below a key support level," Morch said. "This is precisely what happened this time around as well. After the release of the Fed's December meeting minutes, hinting at a more decisive move to scale back its expansionary monetary policy to tackle inflation, negative investor sentiment caused Bitcoin to lose the key $46K level. Once that support was breached, liquidations followed within minutes."
Robert R. Johnson, professor of finance at Heider College of Business at Creighton University, attributes Bitcoin's crash to fundamental factors, like the rise in interest rates, which turns risk-off for highly speculative assets.
And Bitcoin is on the top of the list of such investments.
"Bitcoin is falling because it is the ultimate speculative asset in an environment in which it is clear that the Fed is going to increase interest rates and reduce the amount of liquidity in the markets," Johnson said. "Unlike gold, which has a plethora of industrial uses, Bitcoin has no intrinsic value as its price is simply determined by the greater fool theory."
This theory often captures the minds of traders and investors at the time of easy money chasing after elusive investment instruments on the belief that there always will be other investors to pay ever-higher prices for them.
"Bitcoin is a risk asset," said Johnson. "The popularity of the asset has been driven by momentum speculators who are attracted to the asset simply because the price has been going up."
Johnson noted that it has been said that it is "the Fed's job to take away the punch bowl just as the party gets going." He noted that "the raging Bitcoin party is ending and many speculators are likely to get hurt."
In the early 2000s, speculators in the dot-com and networking stocks saw similar trends when the Federal Reserve pulled the punch bowl away, leaving them still partying until some of their favored stocks disappeared from Wall Street's screens.
Of course, history doesn't repeat itself, but often it rhymes, as Mark Twain put it nicely more than a century ago.
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