Sceptics were vindicated this week as crypto valuations were hit by a trifecta of hype-dispelling headlines.

Down almost 54% from its high in April, bitcoin bottomed out at $30,002 on 19 May. Following suit, the other mega cap crypto, ethereum, tumbled as much as 48% between its high on 12 May and its recent low on 20 May.

Meanwhile, fabled ‘meme’ crypto, dogecoin, fell more than 58% between its peak on 8 May and its recent low of $0.31 on 20 May.

With these sharp drawdowns came erratic trading activity from retail investors, with many cutting their losses while others stuck to their guns and acted out the ‘buy the dip’ platitude. In total, combined transactions for the three cryptos came to $60bn in the 24 hours between Wednesday and Thursday.

Three-pronged drawdown

Already on shaky footing following criticism of digital currencies’ ESG credentials and mining disruption in mid-to-late April, the first catalyst of this week’s crypto horror show was a change of heart by Tesla technoking, Elon Musk.

Having sent bitcoin and its peers into a frenzy in February – when Musk said his company would accept bitcoin as a form of payment – the billionaire took to Twitter to double back on his earlier decision and argue with scores of disgruntled bitcoin supporters.

The subsequent price movements reignited many of the earlier criticisms of bitcoin, with pundits pointing to its ability to rally and dive on the whims of a single – very widely-followed – individual.

Elon Musk’s bitcoin criticism underlines the fragility of crypto market

Unfortunately, cryptos’ woes did not end there, as the Chinese Communist Party (CCP) hardened its tough stance on digital assets. Having outlawed domestic crypto trading on anti-money-laundering grounds in 2019, the government still allowed investors to trade in alt currencies online.

This week, Beijing banned banks and payment firms from providing services related to crypto transactions.

Accompanying this, state-backed groups such as the National Internet Finance Association of China, the China Banking Association and the Payment and Clearing Association of China all issued warnings on social media, stating consumers would have no protection if they incurred losses from crypto investments.

While undecided on whether to allow crypto exchange-traded products (ETPs) to list across the pond, US regulators also illustrated their uneasiness about digital assets by bringing in new controls on large crypto transactions.

As demanded by the Treasury Department, all transactions worth $10,000 or more will now have to be reported to the Inland Revenue Service (IRS), with lawmakers citing concerns about criminal activity as the justification for the new measure. 

Crypto crunch?

While Musk’s bitcoin backtrack might have damaged short-term valuations, any possibility of cryptos gaining mainstream acceptance likely hinges on their ability to become less volatile – and part of this means being less sensitive to headlines and individuals’ vanity projects.

What is more concerning is the rock-and-a-hard-place scenario alt currencies face regarding their relationships with governments.

If they get too close, they risk alienating the vanguard of coders with libertarian sympathies, who have proven to be some of the asset class’s loudest advocates and major participants. If they stay too far away, they will face further regulatory pressure – so far including the Financial Conduct Authority’s ban on crypto ETPs being accessed by UK retail investors, the CCP’s ban on crypto trading and the US Treasury Department’s transaction monitoring.

Also not helping is the news that crypto lender, BlockFi, accidentally sent ‘fewer than 100’ users payouts in bitcoins rather than dollars, with one recipient receiving as much as 701 coins worth $28.7m at Thursday close. This is a timely reminder of the lingering safety concerns surrounding cryptos, though less dramatic than other incidents such as the 2014 Mt. Gox collapse.

From an investment standpoint, the COVID-19 hedge narrative is inevitably less appealing than it was a year ago, and cryptos’ still relatively frothy valuations mean they’re overly sensitive to both positive and negative sentiment to offer effective protection from this year’s leviathan – inflation.

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