Volatility In The Cryptocurrency Industry: What Determines Heightened Price Fluctuation?

There was a kind of rush towards cryptocurrency at the start of this year. Most investors were flocking to the market, although cautiously. The market welcomed them by giving them handsome returns on their investment. But towards the end of April and early May, the market crashed massively and most investors' wealth depleted. The magnitude of the crash can be understood by the fact that Bitcoin, the world's largest cryptocurrency, touched a low of $31,000 (roughly Rs. 22.8 lakh), losing more than 50 per cent from its all-time high of $64,000 (roughly Rs. 47.14 lakh) in mid-April. The market has recovered since, but the volatility persists.

Why is cryptocurrency so volatile?

A simple answer could be – because it is still at a very nascent stage compared to other forms of investment tools and currency. The result of this newness is high volatility in the industry. In a bid to build wealth quickly, investors are attempting to experiment with their money and also to figure out how cryptocurrency prices fluctuate or whether they could influence its prices.

Take for example Bitcoin. Its price has moved almost wildly this year so far. At the start of this year, it was trading below $30,000 (roughly Rs. 22.09 lakh) but suddenly started peaking in February and by April it almost doubled. Later that month, it crashed to where it was in January. Its recovery started in June and by August it had crossed $50,000 (roughly Rs. 33.83 lakh) mark. But it again crashed below that threshold. The case is more or less similar for most other currencies.

Some other factors that play a role in deciding price movements are:

1) Utility

How many people use crypto coins and for what purpose influences their price. If more people spend them for buying goods and services instead of merely holding them, the price will move upward. With restaurant chains, online stores gradually warming up to the idea, the coins are likely to grow.

2) Scarcity

This refers to the finite mechanism of cryptocurrencies. The total number of Bitcoins that can be mined is pre-determined in the protocol at 21 million. So, when more people join the industry, there is bound to be scarcity for Bitcoin and its price may skyrocket. Some coins also use the burning mechanism, which is destroying a part of the coins in supply, to raise their value.

3) Whales

Sometimes accounts that hold large amounts of a coin start selling, leading to a crash in prices. These accounts are called Whales, for they have a large holding and can influence the market if some of them come to an understanding.