Stock Market

The blowout rally in Bitcoin (CCC:BTC-USD) continues. As I write this, the best-known and most-valuable cryptocurrency trades above $47,000, down modestly from an all-time high set on Thursday morning.

Source: Shutterstock

Bitcoin now has roughly tripled since November, and rallied more than 50% this year. And the optimism makes some sense.

Notably, corporations are increasingly comfortable with adopting Bitcoin. BTC saw a big catalyst this week when Tesla (NASDAQ:TSLA) said it would buy $1.5 billion of the crypto. The electric vehicle giant follows earlier adopters like MicroStrategy (NASDAQ:MSTR) and payment companies Square (NYSE:SQ) and PayPal (NASDAQ:PYPL).

The run over the last four months continues what has been an incredible rally. Bitcoin only launched in 2009. It cleared $1 (yes, one dollar) for the first time almost exactly a decade ago. Give or take, BTC has appreciated 4,700,000% in ten years. There have been few assets in the history of mankind to show that kind of appreciation. Simply put, Bitcoin has created millionaires.

But the rally hasn’t been without volatility. In fact, volatility and crashes both have been a key part of the Bitcoin experience. Many of those crashes started in environments similar to this one: when all seemed well, and further upside appeared almost guaranteed.

That history suggests another reversal is almost certain to occur. That doesn’t mean investors need to rush to sell their BTC immediately, but at the least they should be on their guard.

The History of Bitcoin Crashes

For skeptics (and I remain one of them), early 2021 looks an awful lot like late 2017.

At that time, Bitcoin similarly was soaring. Bitcoin cleared $1,000 on New Year’s Day 2017. By December, it was over $18,000. $20,000 and beyond seemed guaranteed. Cryptos of all kinds were rallying. Initial coin offerings were all the rage.

But as good as 2017 was, 2018 was nearly as bad. In U.S. dollars, Bitcoin had been halved by February. By the end of 2018, it was back below $4,000.

As an article at the time noted, the 2018 decline was not the first huge drawdown the cryptocurrency had seen. Not even close. In 2012, BTC dropped 49% twice, with one of the declines a three-day, 57% punishment. Another three-day period the following year saw an incredible 83% plunge.

On Nov. 19, 2013, BTC lost half its value. Later that month, it began a stretch of over a year in which it went from $1,163 to just $152.40.

Even in 2017, a banner year, Bitcoin fell 30% or more five different times. And then there was the roughly 80% plunge that began toward the end of that year.

Admittedly, of late the volatility has eased somewhat relative to early trading. Wider adoption and a larger investor base should continue that moderation going forward.

Still, we’ve seen this before. Bitcoin can move north in a hurry, but it also can move, and has moved, south at roughly the same pace.

Three Catalysts

And there are a pair of catalysts that could trigger another decline in 2021.

The first is simply the parabolic gains not just in BTC, but across asset classes. We’ve seen a number of stocks go crazy. That doesn’t just include miners like Riot Blockchain (NASDAQ:RIOT) and Marathon Patent (NASDAQ:MARA). It even goes beyond the so-called “Reddit stocks” like GameStop (NYSE:GME) and AMC Entertainment (NYSE:AMC).

Commodities have taken off. Even in cryptos, DogeCoin, which started as a joke, now has a market capitalization of $9 billion.

There are going to be crashes elsewhere, whether in cryptos, stocks, or commodities. And those crashes may well read across to Bitcoin. Surely there is cross-ownership between Bitcoin and other ‘hot’ assets. Those owners that see losses elsewhere are likely to de-risk by converting BTC to USD.

There’s also the regulatory environment. Treasury Secretary Janet Yellen has repeatedly and publicly raised concerns about cryptocurrencies including Bitcoin.

Certainly, Yellen can’t ban BTC trading and send its value to zero. But she can impact potentially bullish catalysts, like the long-awaited launch of an exchange-traded fund (which would need to be approved by the U.S. Securities and Exchange Commission).

Finally, there’s the possibility that Bitcoin itself simply has run too far. It stands to reason that at least some of the incremental buyers since December are not diehard crypto adherents, who believe Bitcoin can disintermediate large financial institutions. They’re just joining in the fun.

In modern trader parlance, there may be some “weak hands” that have jumped on board. They’re not necessarily the type to ride out volatility longer-term.

The Case for Staying

It bears repeating: these risks don’t mean an investor needs to rush to cash in their Bitcoin. In fact, for a couple of reasons, an investor can believe that both a) Bitcoin will crash again and b) Bitcoin still is worth owning right now.

First, the crash may still be a long ways off — and more upside may follow. An analyst could have correctly predicted in early 2017 that BTC was going to crash within a year. A trader who listened to that advice still would have missed out on gains of at least 200%-plus. This rally doesn’t have to end immediately.

Second, there’s a case that trying to time the crash (assuming it arrives) is a fool’s errand. Timing the stock market is a notoriously impossible strategy. Bitcoin’s history suggests it isn’t any different.

Long-term bulls on Bitcoin (or any other cryptocurrency) can reasonably argue that immense volatility simply is a fact of life, at least for now. But if the long-term bull case plays out, the ability to ride out that immense volatility will pay off, even if there’s some short-term pain along the way.

Neither is an unreasonable argument. But crypto holders need to at least understand that we’ve been here before. Short-term bursts of optimism like we’re seeing now almost always are followed by a reversal. I don’t believe this time will be any different, though it remains to be seen how steep that reversal is, and from what point it begins.

On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article.