Bitcoin Bubble Bursting? Price Plummets Towards 50% in Losses

Bitcoin’s price on one popular exchange, Coinbase, cascaded downward yesterday — dropping nearly 50% in one month from its earlier price of nearly $19,000 in mid-December of 2017, before slightly rebounding to about 35% of its mid-December value. The rapid decline has led some to wonder whether the Bitcoin bubble is finally bursting, or if the downward turn is simply a market correction reflecting Bitcoin’s equilibrium price (the price where the quantity of Bitcoin is equal to the demand for Bitcoin).

Sensing that the bubble could be close to bursting, we recently warned about the dangers of Using Debt to Buy Bitcoin and the riskiness of investing in an asset that can experience wild price fluctuations while technological glitches prevent investors from accessing their accounts to stem losses.

Bitcoin’s dramatic fall comes barely a month after the Commodities Futures Trading Commission approved limited Bitcoin futures to be traded on the Chicago Mercantile Exchange and CBOE Futures Exchange. Conversely, the Securities and Exchange Commission recently nixed a series of proposed Bitcoin ETFs (exchange-traded funds) due to liquidity and volatility concerns.

Bitcoin and other cryptocurrencies’ unexpected rise (and recent decline) may be explained away by pure investor speculation during a bullish market. Yet, we are left to wonder whether this recent decline is a signal of something worse — that the “music has stopped.” Presently, the vast majority of Bitcoin is held by mining operations who have staggering unrealized profits. Likewise, a number of relatively early investors in Bitcoin have a greater incentive to cash out now and still receive extraordinary returns on their investments.

I’m inclined to believe that the recent price drop is partially attributable to both some investors with large Bitcoin reserves selling their Bitcoins and the first Bitcoin futures contracts expiring. In a market with virtually no regulation or safeguards against price manipulation, however, it is not outside of the realm of possibility that at least some of those large investors who are selling their Bitcoin may have also purchased futures contracts betting that the price of Bitcoin would fall. If so, those investors could realize even greater profits, albeit potentially unlawfully and all at the expense of smaller investors. Of course, there were surely plenty of legitimate, skeptical futures investors out there who now stand poised to cash in on their belief that Bitcoin was indeed a bubble.

No one can truly know with certainty if one of the most exciting investment waves in recent memory is coming to an end. But, we must remember that Bitcoin’s recent turmoil is not a reflection of any underlying deficiency in the value of blockchain technology. Rather, worldwide interest in Bitcoin — the “crypto tulip,” as one Manhattan hedge fund analyst recently described to me — may just be fading away.

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