In the first half of 2022, the price of each major cryptocurrency the fall. Today, several cryptocurrency-related businesses are facing severe financial difficulties, including bankruptcy. This period of market cooling is known as “crypto winter”.
Unlike terms such as “market correction” or “bear market”, crypto winter is not well defined.
“Overall, this is a period of steady price decline,” says Raihaneh Sharif-Askari, head of investor relations at Grayscale Investments, an asset management firm specializing in digital currencies.
Whatever the threshold, it is clear that we have passed it. That’s why:
The fall in value was strong: The total value or market capitalization of the top 100 cryptocurrencies as of July 24, 2022 was $1 trillion. This is 62% less than the market capitalization of $2.7 trillion on November 7, 2021.
The slowdown was widespread and continues: As of July 24, 2022, 100 of the top 100 cryptocurrencies are worth less than nine months ago.
This crypto winter is different from the last
The last crypto winter was in 2018, when the price of bitcoin fell over 50% from its all-time high amid a bull market in traditional finance.
Difference between yesterday and today? “This is the first time we see cryptocurrency trading drop. [than before] in a traditional bear market,” says Joel Krueger, market strategist at LMAX Group, which specializes in crypto services for institutional investors. A bear market could make it difficult for the cryptocurrency to recover.
” As [crypto] gained momentum, there was more sensitivity to the intersection with the traditional financial market and fundamentals,” says Krueger.
The current drop in cryptocurrency prices is part of a global sell-off in almost all asset classes, and not something specific to cryptocurrencies. However, there are a few instances of crypto-related issues, such as the collapse of the TerraUSD algorithmic stablecoin (known as the ticker UST) and its supporting child coin, called Terra (known as the ticker LUNA). Since Terra is very similar to TerraUSD, we will refer to Terra as LUNA in this story. (Note: TerraUSD and LUNA have since been renamed TerraClassicUSD and Terra Classic respectively. Fortunately, these new but similar names do not appear in this article.)
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The collapse of TerraUSD and LUNA
The collapse of TerraUSD and LUNA resulted in a $40 billion loss for investors and had a domino effect throughout the crypto industry.
The two coins are linked: TerraUSD is a so-called algorithmic stablecoin which promised stability with a reliable price of $1. And LUNA, its companion coin, was expected to act like a more traditional cryptocurrency with the potential for significant price appreciation.
An algorithmic stablecoin combines economics and technology to ostensibly bring stability to an asset class known for its high volatility. In theory, LUNA’s 1:1 convertibility with TerraUSD, as well as TerraUSD’s redemption value set at $1, meant that TerraUSD’s price would remain stable. This would be a safe haven for crypto investors, just like cash is a safe haven for traditional investors.
In May, this project collapsed. In April, LUNA cost $116. Since May, the price has fluctuated around $0.0001. In a July speech at a Bank of England conference, Federal Reserve Vice Chair Lael Brainard compared it to a classic bank run. LUNA’s quick demise dismayed both individual investors and companies whose business models relied on the project to deliver on their promises.
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Frozen customer accounts and sudden bankruptcies
While the technology behind crypto is new, the financial dilemma that some crypto companies have recently faced is eternal: if you borrow large sums of money to make investment bets that don’t materialize, you’ll have a hard time repaying that initial loan.
“In particular, we have seen failures in organizations that have focused on centralized lending,” says Sharif-Askari. “So, like any market, you had leverage to exacerbate market fluctuations. Or, as Warren Buffett wrote, “You only know who’s swimming naked when the tide goes out.”
The stories below show how quickly the fortunes of companies that seemed to be basking in success just a few months ago have changed.
Celsius network opened in 2017 and operated much like a bank. Users could deposit crypto and earn interest – up to 17%, according to the company’s website – and Celsius issued loans on those deposits. (Last year, regulators in several states questioned the legality of Celsius products.) In June 2022, the company banned its 1.7 million users from withdrawing or transferring funds, one of which was worth $20 billion at its peak. The company filed for bankruptcy in July. In the lawsuit, the company said its assets fell by 80% between March 30 and July 14, 2022.
Capital of the Three Arrows, a crypto-currency hedge fund, managed about $10 billion in assets at its peak before falling cryptocurrency prices made it unable to repay billions of dollars of loans. Its founders went into hiding after filing for bankruptcy, and their whereabouts are still unknown.
digital journey, a crypto brokerage service, filed for bankruptcy in July. Prior to this deposit, he was suspending customer withdrawals. The company cited the failure of Three Arrows Capital to repay a $350 million loan as the main reason for its financial problems.
Krueger says the challenges these companies face “are governance issues, not representative of the asset class. These are people trying to take advantage of a market that is doing well and overpriced.
But these developments highlight the fact that some of the consumer protections available in traditional financial products, such as FDIC insurance that protects savers in the event of their bank failure, are missing in cryptocurrencies.
What awaits us in the future?
A popular saying is that the collection takes place approximately every four years. For some, this pattern inspires optimism.
“I think a lot of the investors we talk to see this as an opportunity,” Sharif-Askari says. “This is a reminder that leverage in the system can exacerbate losses. This reinforces the importance of diversification.
The shock of the initial price decline may have dissipated, but winter has not yet turned into spring. Sharif-Askari points to a grayscale white paper published in July that indicated that bitcoin, a proxy for the crypto market, could “see another five to six months of downward or sideways price movement.”
At the same time, according to Krueger, news about the freezing of client accounts of some companies is a good reminder of the need to exercise due diligence when choosing companies to work with, and not a reason to completely write off the industry. If you see promises of extremely high returns, he says, “Warning bells should be ringing in your stomach. »
Disclosure: The author and publisher had no positions in the above investments at the time of original publication.