The Bitcoin (BTC) price recently plunged below the $20,000 mark for the first time in almost two years after record-high inflation and fears over a potential economic recession spooked crypto investors.
The world’s largest cryptocurrency fell 9% to less than $19,000 recently, the same level it traded at in November 2020. Bitcoin price slumped more than 56% since the start of the year and remains down more than 70% from its peak of nearly $69,000 set in November 2021.
The decline expanded to other crypto assets as well, with the second-largest Ethereum (ETH) also tumbling notably to hit levels below $1,000. Elsewhere, Ripple (XRP) price is down over 60% year-to-end while Litecoin (LTC)—which is based on Bitcoin’s code—is trading roughly 65% in the red YTD.
What Is Behind This ‘Crypto Winter’?
The sell-off emphasizes significant volatility in the crypto sector due to turmoil in broader financial markets as investors offload their risk assets following aggressive interest rate hikes to curb inflation.
The drawdown has wiped tens of billions of dollars of investors’ crypto assets over recent months, shaking their confidence in the industry and its regulatory framework.
Earlier this month, crypto lender Celsius Network temporarily halted all crypto withdrawals and transfers, preventing its 1.7 million customers from accessing their assets until further notice.
The crypto market has suffered severe losses due to several factors including the collapse of the algorithmic stablecoin TerraUSD (UST) last month.
Furthermore, crypto firms Coinbase Global (NASDAQ:COIN), BlockFi, and Gemini have recently announced plans to reduce their workforce as investors continue to sell risk assets.
Crypto investors have had a difficult year as significantly high-interest rates are now battering assets that have thrived during the period of ultra-loose monetary policy.
At the previous Federal Open Market Committee (FOMC) meeting last week, the U.S. central bank raised benchmark interest rates by 75 basis points, marking its largest rate hike in nearly 30 years.
Other central banks including the Bank of England and the Swiss National Bank followed up with similar hikes. This, coupled with geopolitical tensions and fears over a potential global economic recession, has erased over $350 billion off the crypto market in recent weeks.
In May, algorithmic stablecoin TerraUSD (UST), meant to maintain a 1:1 peg to the U.S. dollar collapsed in a matter of hours, sending shockwaves through the crypto industry.
Stablecoins are crypto assets that are typically pegged to real-world assets. In contrast to other stablecoins like tether and USD Coin, which are backed by assets like fiat currencies and government bonds, TerraUSD was governed by an algorithm.
After losing its peg to the U.S. dollar, UST’s sister coin LUNA also crashed in a matter of hours to $0.
Recession Chances Increasing
Citigroup economists believe that the global economy has a nearly 50% chance to fall into a recession as central banks raise interest rates and demand for goods and services continues to fade.
The bank’s economists, led by Nathan Sheets, recently wrote that supply constraints continue to drive inflation and weigh on growth, while central banks tighten their monetary policy and consumer demand weakens.
“The experience of history indicates that disinflation often carries meaningful costs for growth and we see the aggregate probability of recession as now approaching 50 per cent,” the economists wrote.
The bank expects the global economy to grow by 3% in 2022 and 2.8% in 2023. In case of a recession, Citigroup said it expects unemployment to rise by several percentage points and output to see multiple weak quarters.
“We see this as a reasonable expectation, but the wildcard - as we have emphasised - is how stubborn inflationary dynamics ultimately prove to be,” the economists added.
Another Leg Lower Coming?
Ian Harnett, co-founder, and chief investment officer of Absolute Strategy Research, believes that Bitcoin could continue tumbling to as low as $13,000. The strategist bases his view on past crypto rallies, which have shown that Bitcoin tends to plummet up to 80% from its all-time highs.
"We would still be selling these kinds of cryptocurrencies into this environment," Harnett said. "It really is a liquidity play. What we've found is it's neither a currency, nor a commodity and certainly not a store of value."
The strategist recalled the time when Bitcoin dropped to nearly $3,000 in 2018, shortly after peaking at almost $20,000 in late 2017.
Now, a similar drop would push Bitcoin down to around $13,000, which represents a “key support area” for the cryptocurrency. He continued that “bitcoins of this world” tend to perform well when there is substantial liquidity.
If this proves to be the case then Bitcoin bulls will likely have to wait for a new QE campaign around the globe before the prices could turn substantially higher.
Meanwhile, enterprise analytics and business intelligence firm MicroStrategy (NASDAQ:MSTR), which has bought a substantial amount of Bitcoin using debt and cash over the past two years, is yet to face a margin call.
MicroStrategy’s CFO Phong Le said the company would have to deal with a margin call situation if Bitcoin dropped below the $21,000 mark but that has not yet happened despite the cryptocurrency’s drop below $20,000 over the weekend.
A margin call is generally received when the borrower is required to invest additional money after the value of the mortgaged asset decreases. Saylor says the firm is 10x over collateralized however, and that the talk of a potential margin call is “much ado about nothing.”
Summary
Bitcoin price is trading sharply lower this year in response to lower liquidity and aggressive rate hikes delivered by central banks to curb inflation. It has become clear that when liquidity is “taken away”—which is what is happening right now due to hawkish policy by central banks—Bitcoin and similar assets face severe pressure.