Cryptocurrency Check: Why Are Bitcoin Prices so Volatile
Bitcoin prices have recently risen to new historic highs. Some have invested in it out of fear of missing out, while others are unsure of its future. Whatever side one takes, it is prudent to proceed with caution before investing large sums.
Bitcoin, which became publicly available in 2009, rose to prominence around 2010 when the price of one token rose from fractions of a dollar to $0.09. Its price has risen by tens of thousands of dollars since then, sometimes by thousands of dollars in a matter of days.
There are several reasons why Bitcoin’s price history has been so volatile. Understanding the factors that influence its market price can help you decide whether to invest in it, trade it, or keep an eye on its progress.
Supply and Demand for Bitcoin
Most commodities’ prices are influenced more by supply and demand than by any other factor. The market value of Bitcoin is primarily determined by the number of coins in circulation and the amount of money people are willing to pay. The cryptocurrency is designed to be limited to 21 million coins; as the circulating supply approaches this limit, prices are likely to rise.
It is difficult to predict what will happen to prices when the limit is reached; mining Bitcoin will no longer be profitable. As large financial players compete for ownership in a dwindling supply environment, Bitcoin’s price will most likely fluctuate in response to any actions they take.
Bitcoin Investing Activities
Bitcoin demand is increasing as supply becomes more limited as the most popular cryptocurrency. Wealthier investors hold their Bitcoins for the long term, preventing those with fewer assets from gaining exposure. According to the National Bureau of Economic Research, the top 10,000 investors held one-third of all Bitcoins at the end of 2020.
Brokers and other financial institutions are frantically attempting to obtain SEC approval for Bitcoin-backed securities; the number held by institutions and large investors will grow as more securities are designed. These investors, to some extent, drive Bitcoin volatility. It is unclear how Bitcoin whales—investors with tens of millions or more in BTC holdings—would liquidate their significant positions into fiat currency without affecting the market price of Bitcoin. If the whales suddenly started selling their Bitcoin holdings, prices would plummet as other investors panicked.
Most exchanges have daily limits on the amount that can be liquidated, usually in the $50,000 range. Investors with thousands of Bitcoin may be unable to liquidate their assets quickly enough to avoid massive losses. If Bitcoin prices remain around $50,000, a larger investor could only sell one coin per day. Other investors would start selling, and prices would fall before anyone with more than $50,000 in coins could sell them all, resulting in large and rapid losses.
Bitcoin volatility is also influenced by differing perceptions of its utility as a store of value and method of value transfer. A store of value is a function of an asset that allows it to retain value in the future with some predictability. Many investors believe Bitcoin will retain and grow in value, serving as a hedge against inflation and an alternative to traditional value stores such as gold or other metals.
Reasons for the Increase
One major reason for the massive increase in its price is that established institutions such as pension funds and investment trusts have begun to invest in it. Individual investors invested in bitcoins until 2017. With greater acceptance, however, many billionaire investors and financial institutions have come out openly in support of bitcoin and its future. JP Morgan, for example, began offering bitcoin funds to its wealthy clients and also created JPM Coin, a digital coin that can be used to make payments using blockchain technology.
Elon Musk’s Impact
When Elon Musk’s Tesla purchased $1.5 billion in bitcoins in February 2021, the price of a bitcoin reached an all-time high of $44,000 (approximately Rs. 33 lakh). Later, Musk resisted allowing Tesla to accept bitcoin payments, citing environmental concerns about bitcoin mining’s high energy consumption. However, in July 2021, he announced that Tesla will most likely accept bitcoin payments for Tesla, causing bitcoin prices to rise once more.
Bitcoins are now accepted by vendors and merchants. PayPal, Starbucks, BMW, Expedia, and Zinga, among others, now accept bitcoin transactions. Any positive statement from a central bank in support of blockchain technology is likely to tip the scales in bitcoin’s favor. In June, El Salvador became the first country to accept bitcoin as legal tender beginning in September 2021. In fact, almost no institution or country is opposed to blockchain — the technology that enabled the creation of bitcoin.
As a result, bitcoin prices have recently risen to new historic highs. Some have invested in it out of fear of missing out, while others are unsure of its future. Whatever side one takes, it is prudent to proceed with caution before investing large sums.