A research paper published by the University of Warwick concluded that a large part of the price swings we see in cryptocurrencies have more to do with the way investors feel about the market rather than the complex series of factors that affect fiat currencies.
Authored by Daniele Bianchi, an assistant professor at the university’s finance group, the paper analyzes various cryptocurrencies, their price fluctuations, and how they correlate with sentiment.
“Consistent with existing theoretical models in which trading activity is primarily driven by investors’ sentiment, I show that traded volume is primarily driven by past returns and by a short-lived effect of aggregate market uncertainty,” he wrote.
He admits, however, that some of the volatility inherent in cryptocurrencies is due to drastic changes in trading volume, which is normal in smaller ecosystems:
“Market activity, as proxied by the average traded volume, significantly correlates with the volatility of cryptocurrencies.”
Still, this doesn’t negate the substantial effect that sentiment can have on the value of a cryptocurrency. We’ve seen it firsthand when rumors of a ban in South Korea and the approaching Chinese New Year started a wild sale of Bitcoin that led to a 50% drop from the massive rally it achieved in December.
Prices are also influenced by the faith that people have in the technology and projects associated with a cryptocurrency, Bianchi’s research finds:
“Just as the value of a US dollar investment fluctuates based on countless factors such as national interest rates, trade deficit with other countries and government policy, cryptocurrencies trade at prices which are based on the perceived value of the platforms and projects they are associated with.”
We’ve seen this happen to Bitcoin Cash as it prepared for a hard fork last month and ended up in an extraordinary rally due to the amount of support the coin received.
These dramatic crests and troughs may be fun for spectators, but the irony here is that cryptocurrencies are ultimately what people feel they are. If they’re treated like speculative instruments, they won’t act much like money, and vice versa.
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