If there’s one word that describes Bitcoin and cryptocurrency, it’s volatile. Crypto prices soar and then seem to crash almost as quickly, while rumors, sentiment, and fundamental developments are quickly factored into the market. In just a four-day period in early June, Bitcoin fell from $30,500 to about $23,500 – a decline of nearly 23 percent. Over the same time, Ethereum plunged more than 31 percent, and seemingly the whole crypto market has been sinking this year.
That volatility attracts traders looking to make a profit — but it’s nerve-wracking, especially for new investors looking to get started. And traders can expect plenty more of this volatility in the future, as new cryptocurrencies emerge and others fall by the wayside.
With cryptocurrency so extremely volatile, what should investors be doing to manage their risk?
Top things to do when cryptocurrencies plummet
Whether you decide to sell your cryptocurrency or see a dip as an opportunity to buy more, you need to act with a cool head. Making emotional decisions, especially when trading, rarely results in anything good happening. So, before you rush into the market in a panic, you’ll want to reflect on why you’re trading crypto in the first place.
Are you investing because you believe in long-term opportunities?
Or are you here to make a quick buck on short-term trading?
The answer to these questions can help guide you to the proper decision. In either case, you’ll want to act in accordance with your own goals. In other words, if you believe in a long-term opportunity, think with that mindset. If you’re here for a quick trade, think with that mindset.
Assess the situation
Is there news driving the trading price of Bitcoin and other cryptos? It’s possible that there’s fundamental news that’s shifted the market’s sentiment and it’s not just price action or rumor-driving sentiment.
In 2021, actual developments hurt prices. China’s move to ban financial institutions from providing crypto-related services was a further clampdown since the country had already banned crypto exchanges in 2017, though it hadn’t prohibited individuals from owning cryptocurrencies. Then late in 2021, the Federal Reserve decided to reduce liquidity in the financial system, and many cryptos have been on a significant downturn well into 2022.
In May 2022, the stablecoin TerraUSD plummeted as traders engaged in an old-fashioned “bank run,” as they feared that it didn’t have the crypto assets to back its peg to the dollar. This news spilled over into other crypto markets, as traders worried that selling would beget more selling.
So, these moves have been further significant blows to the burgeoning market, which had been enjoying significant capital inflows.
Crypto is volatile
Cryptocurrency is volatile by nature. Because crypto generates no cash flow, traders have to rely on changes in sentiment to drive the price. That means the market can swing from rabid optimism, as it did in early 2021, to pessimistic despair, as it did a few months later. The furor around the Coinbase IPO in 2021 helped drive positive sentiment to crypto, while the reduction in monetary stimulus drove pessimism at the end of 2021 and the start of 2022.
So when you have an asset that’s driven by sentiment, the emotions of traders propel the market. That’s true in the case of stocks, too, but they also may have a real stream of growing cash flows from their issuing company to accelerate them higher.
This volatility is exactly what draws professional traders, who use high-powered algorithms to make sophisticated trades, something that “mom-and-pop” traders don’t typically have the advantage of using. Traders like volatility since it gives them a chance to make money – that’s Wall Street’s game.