The Retired Investor: The Bitcoin bounce

This week, Bitcoin broke the $30,000 level. The cryptocurrency has doubled since its low in November 2022. Does this mean the crypto winter has finally passed and it is now safe to jump back in?

 

The short answer depends on how much risk you want to take. Cryptocurrencies, in general, suffered through a difficult 2022. The digital currency world lost much more than the stock market. Late in the year, most digital currencies were in freefall. Company after company in the sector collapsed. In the end, only those who were crypto die-hards remained faithful to the concept and Bitcoin in particular.

 

Bitcoin is the granddaddy of crypto currencies. It accounts for 45 percent of the total market capitalization of cryptocurrencies, which now hovers at around $1.29 trillion. That is down by more than half from its peak back in November of last year. The venture capital industry has also pulled the plug on investing in the area as well.

 

Some of the same combinations of events that sank the stock market spilled over into the crypto markets. The war in Ukraine, inflation, and higher interest rates drove crypto prices lower, which in turn, crippled many of the young company start-ups in the space. The Luna crypto network, for example, collapsed in May 2022, wiping out $60 billion in customer investments. This was followed by the TerraUSD stable coin failure. Both calamities caused a liquidity crunch throughout the industry.

 

 From a high of $69,000 in 2021, Bitcoin fell to below $20,000 by June 2022. That is when Celsius network, a major U.S. cryptocurrency lending company, froze withdrawals and transfers, citing extreme conditions. In subsequent months, several other exchanges and crypto lenders either filed for bankruptcy or paused customer withdrawals.

 

That created an atmosphere of fear, which fueled a further slump in the digital markets. Major cryptocurrencies experienced severe selloffs. That in turn decimated consumer confidence in the area and propelled the downward spiral further.

 

The industry's coup de grace occurred when a relatively new crypto exchange, FTX, founded by Sam Bankman-Fried, the so-called "Crypto Robin Hood" and CEO, filed for bankruptcy. The FTX collapse brought down even more crypto lenders along with it. At its peak, Wall Street valued the firm at $32 billion. Today, it is worthless. His arrest by the U.S. Justice Department on charges of wire fraud, securities fraud, and money laundering (among other civil and criminal charges) triggered calls throughout the nation for accelerated regulation of the industry.

 

And the fallout continues. The largest crypto exchange to survive, Binance, and its CEO Changpeng Zhao, was sued last month by the U.S. Commodity Futures Trading Commission (CFTC). The CFTC alleges Binance offered derivatives to U.S. customers without a license. The lawsuit follows another enforcement action against the company as well as Paxos, a blockchain platform entity. Observers believe this may mean that government regulators are finally going after unregulated crypto service providers.

 

With all this financial carnage, you may wonder how the top 100 digital assets climbed 48 percent beating gold, stocks, high-yield bonds, and oil so far this year.

 

Two answers — the decline in the dollar, and the fear of financial contagion in the banking sector. The uncertainty generated by the collapse of several banks, and the bailout of others, has convinced some investors that digital assets might be a safer haven than their neighborhood banking institutions. That is a huge leap of faith, in my opinion, and extremely risky.

 

In addition, the decline in the U.S. dollar has also caused some to hedge their bets in the cryptocurrency markets. Cryptocurrencies, such as Bitcoin seem to have an inverse correlation with the dollar as well as with interest rates — at least in the short term. However, those correlations could easily change.

 

Thus far, the bounce in Bitcoin seems to be the result of traders chasing price momentum. It may also be a function of diversification away from the dollar into other risk assets. As readers should know by now, cryptocurrencies are extremely volatile. It is a speculative asset that thrives best in bull markets, and we are not in a bull market. Regulatory risk is real, and it is debatable whether additional government regulations will help or hinder the future of Bitcoin.

 

On the positive side, the death of Bitcoin and cryptocurrencies has been predicted more times than I can remember, but it is still alive and kicking.    

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.