Crypto loans, particularly those in decentralized finance applications that bypass intermediaries such as banks, often require borrowers to post more collateral than the loan is worth, given the risk of accepting such assets. But when market prices deteriorate, once-over-collateralized loans suddenly become at risk of liquidation, a process that often happens automatically in DeFi and has been exacerbated by the rise of traders and bots looking for ways to earn. Easy money.
John Griffin, a finance professor at the University of Texas at Austin, said the rise in cryptocurrency prices last year was likely driven by leveraged speculation, perhaps more so than in the previous crypto winter. An environment of low interest rates and a very accommodative monetary policy helped set the stage.
“With interest rates rising and a lack of confidence in leveraged platforms, this deleveraging cycle has the effect of driving these prices down much faster than they rose,” he said. Although traditional markets often rely on a slow and steady amount of leverage to grow, that effect is apparently amplified in cryptocurrencies due to how speculation is concentrated in the sector. Regulators are circling the industry, on the lookout for signs of instability that could threaten their childish plans to control cryptocurrencies. Even recently announced rules had to change in the wake of the Terra collapse, with some jurisdictions preparing rules to alleviate the systemic impact of failed stablecoin systems. Any additional crypto glitches could ultimately pave the way for stricter rules, making a near-term market rally less likely.
Bitcoin hovers around US$20,000, having lost around 35 percent in June alone.
“There may be some bearish rallies, but I don’t see a catalyst to reverse the cycle anytime soon,” Griffin said. “When the Nasdaq bubble burst, our research found that smart investors got out first and sold when prices dropped, while people bought until the end and continually lost money. I hope history doesn’t repeat itself, but it often does.”
Now at around $1 trillion, the cryptocurrency market is only marginally above the roughly $830 billion mark it reached in early 2018 before last winter kicked off, sparking a downdraft that sent the market to a minimum of $100 billion in its depths. , according to data from CoinMarketCap. Back then, digital assets were the playground of dedicated retail investors and a select number of crypto-focused funds. This time around, the sector has created a broader appeal to both mom-and-pop investors and hedge fund titans, prompting regulators to frequently intervene with statements warning consumers of the risk of trading. these assets. As an infamous (now banned) ad on London’s transport network put it in late 2020: “If you’re looking at Bitcoin on a bus, it’s time to buy.”
Unlike early crypto believers, mass adoption means that most investors now see crypto as just another asset class and treat it the same as the rest of their portfolio. That makes cryptocurrency prices more correlated to everything else, like tech stocks.
Unfortunately, that doesn’t make most crypto betting any less complex to understand. Although most of the financial world is taking a beating in 2022, the recent crypto market crash was amplified by its experimental and speculative nature, wiping out small-town traders who poured their life savings into unproven projects like Terra with few resources. And the industry’s advertising machine is blaring louder than ever, using tools like Twitter and Reddit that have been empowered by new generations of crypto acolytes. Exchanges have also done their part, with FTX, Binance, and Crypto.com all spending on high-profile marketing and sponsorships.
Sina Meier, managing director of crypto fund manager 21Shares AG, said that the extreme level of risk demonstrates exactly why cryptocurrencies are not for everyone. “Some people should definitely stay away,” she said during a panel discussion earlier this month at Bloomberg’s Future of Finance conference in Zurich. Many retail investors “are lost, they just follow what they read in the papers. That is an error.
Before the previous crypto winter, many startups had used initial coin offerings, or ICOs, to raise capital by issuing their own tokens to investors. They suffered when coin prices crashed because they had held most of their value in that same pool of assets, plus Ether, and made worse when regulators started cracking down on ICOs as offering unregistered securities to investors. .
“It has a different flavor this time.”
Jason Urban, Co-Head of Commerce at Galaxy Digital
This time, the financing landscape is very different. Many startups born out of the latest freeze, such as non-fungible token and gaming platform Dapper Labs, have sought venture capital funding as a more traditional route to raising cash. Giants like Andreessen Horowitz and Sequoia Capital have collectively pumped nearly $43 billion into the sector since the end of 2020 when the last bull market began, according to data from PitchBook. This means that rather than relying on crypto wealth, some of their biggest players actually have large reserves of hard currency stored to weather the blizzard while they work on growing new blockchains or building platforms. of decentralized media. On the other hand, the recent end of the bull market means that they have been spending that cash much faster than it has been coming in.
This month, Coinbase, Crypto.com, Gemini Trust and BlockFi are among the crypto firms that have announced a large number of layoffs, citing the general macroeconomic downturn for derailing their ever-expanding plans. Coinbase, which had hired about 1,200 people this year alone, is now laying off the same number of employees in an 18 percent cut in its workforce.
But thanks to the heights crypto reached in the last boom, there is still a large amount of funds allocated to Silicon Valley coffers compared to previous seasons. Andreessen alum Katie Haun debuted her $1.5 billion crypto fund in March, while Coinbase co-founder Matt Huang launched a $2.5 billion vehicle in November. And while venture capitalists may now be more careful about where they put their cash, they still have to spend it somewhere.
“None of these companies mature for many years,” said Alston Zecha, a partner at Eight Roads. “We’ve been spoiled for the last two years to see companies get these amazing breakthroughs after six or nine months. As the tide goes out, there will be a lot of naked people.”
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