Crypto has been a hot topic in the investment space for some time now. Even during COVID-19, cryptos like Bitcoin, Ethereum, Dogecoin, and more have only seen multifold growth. A majority of the cryptos hit their all-time high last year, and with that, people making millions and even billions by crypto investments have become hit news. However, if we compare this data with other such events, it appears very similar to the dot-com bubble of the 2000s and the housing bubble of 2005. It is hard to gauge an idea of whether the rising prices of cryptocurrencies have fundamental values or whether they are fueling a crypto bubble that can burst at any time.
As an investor, you need to put effort into analyzing the existing market conditions and also understand that not every crypto price hike is a profitable opportunity. The question is, what is a crypto bubble, and how can you identify one? Let’s find out.
What Is a Crypto Bubble?
The cryptocurrency market is highly volatile, with unexpected price fluctuations. When the market value of a crypto asset exceeds a level at which there is no core fundamental justification or value to back that up, we can call it a crypto bubble.
With a constant price hike during this bubble stage, investors are likely to fall into the FOMO of buying such cryptos, only to lose value at a later stage. The high value attracts investors, but there is no core value to back it up. As an investor, you should know that cryptocurrencies are digital assets, and their value is directly affected by different factors, including demand, global or government policies, market sentiment, and more. And as always, it is vital to understand that price does not mean value.
Also, many times, an uptrend in cryptos is a result of the influence of prominent personalities via different mediums, such as a tweet or some announcement at an event. These create a false sense of potential for the particular coins. However, people still invest in them following the advice of influencers, which fuels price hikes but with no fundamentals. This gives birth to a crypto bubble. Eventually, the bubble bursts and people lose their optimistic outlook on the market.
Thus, it is better to research the market and invest prudently. Analyzing the value and vision of the crypto project is key here to save your investments from going southward. Note that not every price hike is a bubble.
How Does a Crypto Bubble Work?
A crypto bubble happens due to an unjustifiable craze of investors for the particular crypto or the market as a whole. With so many crypto tokens available today, it is hard to evaluate which one is genuine. Additionally, their hype on social media and other channels dictates the decisions of many investors in today’s digital-centric world.
Here are a few steps that can help you identify a potential crypto bubble phase. However, you should combine it with different technical indicators to conclude your decision.
1. Displacement
This stage happens when crypto investors see a revolutionary change in tech or accommodative stances like low interest with the potential to make a profit. We can take an example of the invention of Bitcoin and blockchain; they can be placed in this stage.
2. Boom
The hype period is when the prices grow frantically because everyone is investing in them. For crypto, this hype comes from news about uptrends and how people are making millions. As a result, instead of a calculated approach to the crypto market, people invest just for the sake of profits, driving the prices even higher.
3. Euphoria
Prices reach an unbelievable level, and people flock in to buy with the herd and hold cryptos. This period makes the investors think that this high value will sustain forever, and they’ll keep making profits from it.
4. Profit-taking
Several seasoned investors fear that the values will fall, so they assess the exit movement and start selling their positions regardless of the value. Their followers also absorb the feeling of fear and follow suit. This is where the bubble starts to burst, and the price starts to fall.
5. Panic
Bam! This is the final stage, where the crypto bubble bursts, havoc is at its highest, and investors start pulling back the money, trying to retain most of their profit and, in the worst cases, the principal amount. Prices falter rapidly, and at last, the bubble leaves many people with losses.
How to Identify a Crypto Bubble?
You can define bubbles in crypto by anomalous movement in the price and the extent of volatility. To do this, you need to understand the sentiment in the market and the psychology behind the market behavior. In crypto, this can be a complex task as compared to the traditional stock market.
In traditional markets, you can read the changes in the market forces with their demand and supply and define the reason behind the price movements. However, for cryptos, you need more measures due to their dynamic pricing, such as investor triggers, price trends, social media analysis, etc., to see if a bubble is forming or if it is a genuine opportunity.
For example, a hike in crypto value due to a viral social media post can be an indicator of the displacement period, where everybody is just excited to see change and want a taste of it. Once you learn to fan out the fluke from a genuine increase or fall in price, you can prevent yourself from entering the bubble and make decisions that bring long-term profits.
Sometimes crazy valuations of crypto startups or exchanges and their funding also lead to bubble-like situations. We can take the Bahamas-based crypto exchange FTX, for instance. Amidst the market crash, between October 2021 to February 2022, FTX’s valuation increased by a solid $8 billion with its funding round. This can result in a market frenzy and may end up like the bubbles we talked about at the beginning of this article.
The only solution here is to ask why the prices of the cryptos you want to invest in are rising, find reasons to support that rise via technical, fundamental, and sentimental analysis, and if you find it genuine, go for the investment.
Have We Entered a Crypto Bubble?
It’s difficult to say if we are in a crypto bubble as it is hard to justify the crypto valuations. From November last year, when the crypto market was at its all-time high, to February 2022, the market has shed over $1.2 trillion, revealing its volatile nature.
However, this is not new. If we take examples of past crashes of Bitcoin, we can see a pattern.
1. Crash of April 2013
Bitcoin became quite popular in 2013 around, with a huge number of investors investing heavily in this asset. However, the surge was unexpected, and a Japan-based exchange called Mt. Gox failed to facilitate such a volume. This led to a crash, and Bitcoin lost 83% of its value.
2. Crash between December 2017-18
2017 was the first golden era for Bitcoin, with its value reaching near the $20k mark. However, on December 27, 2017, investors started to sell their positions to book profit, and that busted this crypto bubble with its value falling below $12K.
3. Crash of 2020
During this period, with the overall crypto market falling due to COVID fear, Bitcoin being the original crypto, fell harder and lost 50% of its valuation. From $10k in February 2020, it was <$4k in the following month.
The recent example is, of course, related to Bitcoin’s value between last year and till date. Bitcoin was at an all-time high, trading above $65k in November 2021, but this year, it’s barely keeping up at the $20k level. The reason? Nothing concrete, just market frenzy, and heavy sell-offs.
This reflects how the crypto market can drive you to invest in high prices with FOMO, impacting your returns. The pattern for other cryptos is more or less similar to Bitcoin. Thus, rather than saying that we are in the crypto bubble, it seems like the bubble has already burst with the 2022 market valuation slump. However, according to some experts, the current value of different cryptos still lacks core fundamentals, and we might be in a bubble.
What Is the Future of Cryptocurrency?
The cryptocurrency market is expected to triple in size by 2030, reaching $4.94 billion. Many governments, like Hong Kong, the U.S, etc., are welcoming this new investment asset with open arms. El Salvador even declared Bitcoin as a legal tender in September 2021. However, some countries are still suspicious of its effect on the economy. For example, countries like Bangladesh, Nepal, Bolivia, Morocco, etc., have gone so far as to ban cryptocurrency. While in India, the government is figuring out rules and regulations that can develop a safe ecosystem for the usage of cryptos, as well as investing in the same.
There are no doubts about the future of innovative implications of cryptocurrencies for expanding the payment landscape globally; they also serve as a great alternative investment option. However, what the future of cryptocurrency holds cannot be predicted precisely, given the current predicament over a crypto bubble, tightening interest rates, and positive recognition by global governments.
As an investor, all you can do is include cryptos in your investment portfolio according to your goals and risk appetite and do your homework before making an investment decision. You can check out Mudrex’s Coin Sets to start investing in cryptos with better risk mitigation.
Conclusion
There is no proof to confidently say that we are in a crypto bubble right now. However, if we are, you need to be mindful of each step that you take while investing. While choosing a crypto token, do comprehensive research about its origin and if it’s genuine or just has a frothy layer that will fade away with time. Follow news updates from reputed channels, and learn to read market sentiments. While you can not predict a crypto bubble, you can always safeguard your investments, so focus on that part.
FAQs
1. What does bubble burst mean in crypto?
In crypto, when a bubble bursts, people see a sudden fall in the value of the crypto asset that was at an all-time high. This occurs when the value of cryptos increases without any fundamentals to back it up. Once the bubble bursts, investors indulge in massive sell-offs at losing rates, which leads to a market crash.
2. What happens when a bubble bursts?
When a bubble bursts, investors panic. Crypto whales would have already sold off their positions. But during a burst, retail investors would also follow that pattern of whales and sell off their holdings. The result is market contraction and loss of valuation. The crypto market starts reaching a crash phase after a euphoric high.
3. Is crypto going to recover?
There is no doubt that cryptos will recover; look at its price trajectories of the past years. When Bitcoin fell, it didn’t reach its high price level from 2017 to 2021. This can be the same case now, and we might see the market return to its 2021 high market prices by 2025 end or early 2026. The key is to invest prudently and develop a long-term vision.
