Crypto has had big moves in May. Here are some perspectives
The big fall in crypto prices on May 19th followed by a very large rebound the next day has kept markets busy and made global headlines. And since the initial bounce back, trading remains volatile and new lows are being made. Regardless of whether you have a position in crypto or are simply considering owning bitcoin or other cryptocurrencies, here are some perspectives to consider.
Leverage in crypto is a risky business, and can have negative consequences
While the initial catalyst for a fall in crypto prices seems to have been Elon Musk’s announcement that Tesla would no longer accept bitcoin as payment for its products, leverage in the market and comments from China around proposed restrictions for Bitcoin further exacerbated the large falls.
On Wednesday 19th May (Australia time), Ethereum fell by over 40% and Bitcoin by 25%. The abrupt and sharp selloff saw many leveraged positions closed globally, close to $10bn of margin in a matter of hours, meaning that these accounts were forced to sell low because they could not afford or did not want to maintain their positions. Those who were forced sellers at the recent lows missed the positive rebound in the following 24 hours.
Total returns are relative to your buy price
The falls in crypto were extreme for a one day move. However, for investors who had been investing periodically in these assets over time, they have enjoyed exceptional returns in recent months, and over the course of several years. While it was a bad day for any crypto investor, many of those who had held for longer periods can still report healthy returns on their accounts. This does not suggest that they should enjoy losing on that day, but that during their investment lifecycle, there are going to be negative days, some of them larger than others.
It appears the investors who may have got hurt the most from these falls were the ones with leveraged positions buying aggressively near the recent highs, meaning that they were buying with money they did not have to provide upfront, but then needed to find the money when markets fell, therefore being left with little or no choice but to sell and create a feedback loop amongst others that were faced with similar predicaments.
This means they were the ones forced to sell low, possibly lower than they bought, because they may have purchased more than they could afford at the time, a common reason to use leverage. It also means because they may have done their buying in one go, they may have lost the ability to dollar cost average on the way down over time.
Saying all this, there is limited information about the amount of leverage in the crypto market. Given these are not monitored by the regulator, we are basing these statements on recent analysis by various news outlets, which can be highly inaccurate.
Timing is everything for a short-term trader, whilst time in the market is everything for a long-term investor
There are many investors who have a strong conviction when it comes to crypto, but the prices are very volatile. Historically, crypto has shown itself to be much more volatile than equities. Crypto does not have anywhere near the same amount of regulatory oversight as equity markets and it is much more susceptible to “fake news” due to the lack of regulatory environment.
The trick is to invest only what you can afford to lose entirely, and ideally not to buy all in one go, because you never know when the crypto market will go up or fall. If you strive to invest with a longer-term focus, then big moves in either direction hopefully will not define your investment performance over its lifetime. Check out our blog on time in the market to further understand why attempting to time the market can prove both difficult and costly.
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