Cryptocurrency's rally has stirred some concerns of a bubble
Credit: Koji Sasahara/AP
To most it remains an enigma — a highly volatile investment class which remains difficult to understand, even for hard-nosed investors 12 years after its creation.
A few early buyers of Bitcoin have become multi-millionaires of course, but millions of others have been left scratching their heads over what all the fuss is about.
Either way, as Bitcoin powered to a fresh record of more than $34,000 (£24,870) this weekend, enthusiasts claimed it offered fresh evidence that cryptocurrencies were going mainstream. The rally, they said, was being driven increasingly by purchases made by corporates and investment managers as well as daredevil private investors with a strong stomach.
That glee was short-lived, however. On Monday, Bitcoin plunged 17pc wiping almost $100bn from its total market value, prompting a flurry of fresh warnings about the risks and fears of an impending regulatory crackdown.
“Almost nobody will be able to cash out without massive losses,” according to cryptocurrency sceptic David Gerard, author of Attack of the 50 Foot Blockchain, calling the run “a completely fake Bitcoin bubble”. He adds: “This is a pool full of sharks. You can totally make money in crypto, but beware.”
In fairness, the latest losses have done little to dent Bitcoin’s broader rally over the past 12 months, with the coin rising around 280pc in 2020.
What has been driving Bitcoin and other cryptocurrency assets higher? And is the sector ripe for a regulatory onslaught as the Financial Conduct Authority, Securities and Exchange Commission and others fight to rein in one of the world’s raciest and rapidly evolving financial markets?
Cryptocurrencies are digital coins that are traded and recorded using blockchain technology, a digital ledger of all past transactions. Despite its origins at the fringes of computer science and finance, many believe Bitcoin represents a credible and legitimate alternative to gold to hedge against currencies including the dollar.
Markets in 2020 — Bitcoin
The latest run on Bitcoin, the largest cryptocurrency with a market cap of around $550bn, has echoes of the infamous 2017 rally where the value of a coin to jump from $900 to just under $20,000 within a year.
After reaching a high of $19,783 — fed by thousands of speculators and interest from celebrities and influencers — the bubble burst and Bitcoin collapsed to a low of $3,212 a year later.
‘Fear of missing out’
This time around, however, the profile of the average Bitcoin investor has changed. Increasingly, it is companies more than individuals that are fuelling the rally by scooping up billions of dollars in digital currencies.
One example is US software company Microstrategy. Run by entrepreneur Michael Saylor, Microstrategy says it has acquired as much as $2.5bn worth of Bitcoin during the latest run on the currency, with many of its purchases around the $20,000 mark.
Meanwhile, Square, the payments company founded by Jack Dorsey, bought $50m of Bitcoin late last year, while insurance company Mass Mutual invested $100m in the cryptocurrency in December. Ruffer, a UK fund, also acquired £550m in Bitcoin shortly before the new year.
“The corporate inflows have been very significant,” says Jason Deane, of Quantum Economics. “We are seeing a spiral of ever increasing demand on an asset that has an ever dwindling supply — a sort of institutional fear of missing out.”
Not everyone is convinced, however, that buying cryptocurrency assets is any safer or more sensible than it was a few years ago. Analysts at Citi, for example, issued a sell rating on Microstrategy shares after its Bitcoin buying spree.
“We are concerned that the company would be losing focus on execution with Saylor’s disproportionate focus on Bitcoin vs running the business,” the bank’s note said.
There have also been high profile corporate misses when it comes to Bitcoin before. Masayoshi Son, the chief executive of Japan’s SoftBank, previously made a $130m Bitcoin investment when the digital coin was near its 2017 peak. When the coin crumbled, the investment was almost totally written off.
Cryptocurrencies remain largely unregulated, and a handful of anonymous trades can cause the market to sink or soar.
One sale of 150 Bitcoin late on Saturday night, worth around $4.5m, caused the market cryptocurrency to wobble and wiped $3,000 off its value.
New rules imminent
Around the world, regulators are sharpening their pencils, amid fears that the industry could pose a growing risk to financial stability.
The UK’s Financial Conduct Authority warns “cryptoassets are considered very high risk, speculative investments” and that buyers should be “prepared to lose all your money”.
However, new rules are being introduced to combat money-laundering and illegal financing. Firms that trade in the UK could be forced to stop trading as soon as January 10 if they fail to comply with the new rules, according to the FCA.
Meanwhile, from Wednesday, companies trading cryptocurrency derivatives, such as options or futures, will be banned from selling to non-professional investors, saving them around £53m per year, according to the regulator.
Regulators in the US also now have a keen eye on digital coin schemes. In December, the Securities and Exchange Commission declared it would sue Ripple, the company that created XRP, the world’s third-largest cryptocurrency. The SEC lawsuit alleges Ripple had sold more than 14.6 billion XRP as unregistered securities over the past seven years, accruing $1.38bn in exchange.
In an interview with CNBC, chief executive Brad Garlinghouse said the SEC’s claims were incorrect and that XRP should be viewed as a currency instead of a security.
Despite the proposed crackdowns, there remain considerable differences over how cryptocurrencies are treated across different jurisdictions.
Bitcoin value 2017-2021
Deane, of Quantum Economics, said that rules over taxation and use can be dramatically different.
“I fully expect that as Bitcoin continues to grow that we will see new and different regulatory challenges that we will simply have to manage as the space evolves,” he said.
“The best analogy is that of the internet itself. It was so revolutionary, that even 20 years after its modern form evolved, we are still adapting to the changes it brings, both in terms of use and legal framework.”
Digital coin trading has become increasingly popular as new consumers are introduced to the coins, especially as consumer-facing apps like Revolut and PayPal offer the options to buy Bitcoin. Downloads have also soared at pureplay cryptocurrency apps. Coinbase was downloaded 875,000 times in November, up 61pc, according to figures from SensorTower.
‘Thin and manipulated’
Over the past 30 days , Bitcoin’s average trading volume stood at $39.1bn, which is more than the volumes at Apple, Microsoft, Amazon, Facebook, and Alphabet combined, which recorded $37.7bn, according to figures from trading simulator Crypto Parrot.
“Bitcoin’s trading volume has taken off” says James Dice, a data analyst at Crypto Parrot.
While many believe there is money to be made at a retail level, some warn buyers to beware of being bitten.
“Taking out any substantial quantity of coins can cause a flash crash, as we saw on Saturday and the price crash on Monday from $34,000 to $27,600,” says Gerard. “The Bitcoin market is very thin and manipulated.”
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