Remember the spectacular crash of TerraUSD and Luna stablecoins at the beginning of 2022? Sure, it seems like it was a lifetime ago but it was an event that led to a significant cooling in the cryptocurrency market. While the industry was coming to terms with what was essentially a case of a classic bank run, the cryptocurrency exchange FTX collapsed and days later, BlockFi filed for bankruptcy as well.
But why are we talking about these events? Because they led to a period of price cooling in the market known as a crypto winter. Crypto winter is the equivalent of a bear market in the stock world though unlike the latter, it doesn’t have a precise definition. It is said that crypto winter has started whenever there is a steep and sustained fall in the prices of cryptocurrencies particularly Bitcoin.
Now, you may be wondering when does this crypto winter thing get over. Honestly, no one can accurately predict that. But while we may not have the answer to that particular query, this article will answer all your other questions about crypto winter. Read on if you too want to know the history of crypto winter and whether a crypto winter is good or bad.
What is a Crypto Winter?
The term Crypto Winter is used to describe the situation of a prolonged bear market in the cryptocurrency industry. It is characterized by a drastic reduction in cryptocurrency prices and a reduction in the market capitalization of cryptocurrency firms. This is a time when investor sentiment is negative and people are not generally enthusiastic about buying cryptocurrencies.
The “winter” in Crypto Winter is believed to be a reference to the HBO series Game of Thrones where a prominent family’s motto was, “Winter is coming.” This phrase is considered a warning about the prolonged conflict that would eventually come to plague the land of Westeros.
The first crypto winter was experienced in 2018 when the price of Bitcoin dropped by about 65% in just one month between January to February 2018.
Is Crypto Winter Good or Bad?
Like everything else, a crypto winter is not completely good or bad. Crypto winter means that prices of digital currencies are going to be on the down low for quite some time. This leads to financial losses for both retail and institutional investors. Another major consequence of prolonged crypto winters is job losses and business shutdowns.
Mass layoffs are common during times of bearish conditions in the crypto industry. For example, Coinbase which is one of the largest cryptocurrency exchanges laid off more than 15% of its staff in mid-2022. Similarly, Crypto.com cut its global workforce by 20% in January 2023 to weather the rough conditions.
Crypto values remaining on the lower side for a prolonged period may eventually cause smaller crypto firms to go bust while the larger ones may survive with a significant reduction in their workforce and market capitalization.
However, many experts feel that crypto winter is not a completely negative event. Crypto winter conditions can often weed out the projects that were just betting on the “digital gold rush” or the hype surrounding cryptocurrencies to make it big. It is sort of like the survival of the fittest where only serious crypto projects with a real potential for growth manage to weather the storms.
Causes of Crypto Winter
Inflation and Rising Interest Rates
A downturn in crypto prices can often be linked to an increase in inflation in the economy in general and a subsequent hike in interest rates by the Federal Reserve and other central banks to counter the inflation.
A rise in interest rates causes investors to move their money from riskier assets like cryptocurrency to more stable and predictable ones like bonds. This in turn leads to a fall in the prices of cryptocurrency.
Scandals and Investor Sentiment
Untoward incidents and scandals have a big impact on investors’ sentiments regarding cryptocurrency. A major negative event can bring chaos to the crypto market. For example, the crypto winter of 2022 was started by the crash of TerraUSD and Luna stablecoins and exacerbated by the collapse of FTX in late 2022.
Herd Mentality and Capitulation
When the value of a cryptocurrency starts falling, a herd mentality may take over investors and they start selling their crypto investments at a loss to avoid a bigger loss in the future. This triggers a further fall in the prices of cryptocurrencies until demand and supply stabilize to establish a new equilibrium.
Regulatory Uncertainty
Often, regulatory uncertainty regarding cryptocurrencies can also trigger a downturn in prices. Since cryptocurrencies were created as a certain group of people was distrustful of fiat money, new regulations for better control over the crypto industry or even rumors of a complete ban can lead to doubts about the prospects of cryptocurrency.
For instance, rumors of China, Korea, Japan, and other Asian nations banning crypto trading triggered a negative investment outlook and precipitated the crypto winter of 2018.
How Many Crypto Winters have there been?
The cryptocurrency industry is still developing and hence, there is no precise definition of crypto winter and there is no metric to determine when it starts or ends. In practice though, a crypto winter is believed to have set whenever there is a sudden, steep, and sustained drop in crypto prices.
Going by this definition, we can say that there have been two instances of crypto winter till now- once in 2018 and once in 2022.
The Crypto Winter of 2018
Cryptocurrency prices were at their peak in 2017. The situation started reversing at the beginning of 2018. In just one month, Bitcoin prices fell by more than 60%. The Bitcoin price crash had a domino effect and subsequently, prices of other cryptocurrencies started falling too. By November 2018, Bitcoin prices had plunged by nearly 80% and at one point, it was trading for as low as $3,100.
If 2017 saw record amounts of capital being thrown into the crypto space, 2018 saw the bubble burst. In a phenomenon similar to the dot-com bubble burst, the excessive capital put into random crypto startups soon became unsustainable leading to an Initial Coin Offering(ICO) bubble burst.
Though some projects like Decentraland survived, it was practically an ICO blood bath. It is estimated that 90% of the crypto projects launched during this era failed within six months.
During this period, rumors that East Asian nations like South Korea and Japan were going to ban cryptocurrency trading exacerbated the situation. The situation was exacerbated when Japan’s biggest crypto OTC market Coincheck had to suspend trading after a major hacking incident.
The value of Bitcoin was in a free fall the whole year and its market capitalization fell below $100 billion in November 2018 for the first time since October 2017.
The Crypto Winter of 2022
2021 was a good year for crypto. 2022 not so much. There was a chain of events in 2022 that triggered and then exacerbated the chaos in the crypto market. Even by the end of 2021, Bitcoin had started coming down from its peak and Ethereum had also started losing its value.
In early 2022, the US Securities and Exchange Commission(SEC) announced its intentions to implement tighter regulations for crypto agencies sparking negative sentiment and a broad selloff in the market. The situation was exacerbated when the stablecoin TerraUSD’s value fell to $0.10 in May 2022 and Luna’s value came down to almost zero.
This event led to a loss of $45 billion for investors within a week. The most unprecedented and damaging event, however, was the collapse and bankruptcy of the cryptocurrency exchange FTX.
Reports of mismanagement of funds by FTX and its sister firm Alameda Research started emerging in November 2022. Binance, which was set to acquire FTX, called off the deal a few days later citing mismanaged customer funds and US agency investigations as the reasons for this decision.
Soon, FTX filed for bankruptcy which had a cascading effect on not just traders but also other exchanges that had exposure to FTX and its native token FTT.
Though things started looking up for cryptocurrencies in 2023, prices of most coins are nowhere near the 2021 levels and the chills of the year-long crypto winter can still be felt.
Are We Currently Experiencing a Crypto Winter?
At the time of writing this article(almost mid-2023), Bitcoin prices are hovering near the $30,000 mark though they have mostly remained below it. This is a positive development considering the crypto industry experienced in 2022 with rising inflation, increasing legal crackdowns, and the implosion of a whole exchange in the form of the FTX scandal.
While the total market cap of all cryptocurrencies has risen by 50% since the beginning of 2023, prices are nowhere near the peak of 2021. Relative to the situation prevailing in 2022 though, things seem to be looking up. However, investors are still cautious and the outlook towards the crypto industry is not exactly positive.
Many crypto firms have seen a financial slowdown and laid off a significant chunk of their workforce. Therefore, we can say that while crypto spring has not arrived yet, it is not full-on winter either.
Surviving a Crypto Winter
Don’t Panic
The foremost rule of surviving a crypto winter is to not panic. Crypto prices have gone on a downward trajectory many times and they have bounced back too. During this time, while many crypto-related startups had to shut down, many have survived too, and continued to flourish. Bearish conditions have prevailed in the traditional stock market as well after which things started looking up. The same applies to the cryptocurrency market.
Be Vigilant
While this tip may sound like an antithesis of the previous one, it is an extension of it. When chaos prevails in the crypto market, it is important to be vigilant and steer clear of crypto projects that sound too good to be true. Thoroughly investigate and evaluate each crypto project before investing in them.
Focus on Your Goals
Beware of the herd mentality during trying times. While social media can be a great place to discuss news and prospects, it can also become a breeding ground for needless fear-mongering and develop into isolated echo chambers. You need to focus on your financial goals to survive the crypto winter.
Short Selling
Don’t apply the sunk cost fallacy to your crypto investments. It is okay to sell your crypto holdings at a loss if you feel the money is already lost and is not coming back. You need to be flexible and make adjustments in your portfolio as per the situation.
Dollar Cost Averaging(DCA)
A common strategy adopted by certain investors is to buy securities(here, cryptocurrencies) even in times of bearish conditions to lower the average cost of each security purchased. With this, they hope to reap profits when the security starts recovering its value.
Manage the Risk
A piece of sage advice given to crypto traders even during times of relative stability is to not put in money that you cannot afford to lose. This is all the more applicable during situations of crypto winter where the markets are all the more unpredictable.
The Bottom Line
Like any other industry, the crypto market is subject to boom and bust cycles too. Crypto winter represents a sustained period of decline in the value of cryptocurrencies but it is not a permanent state. Sooner or later, the market starts recovering. A crypto winter can be triggered by several events including the general state of the economy itself.
These can be troubling times for both investors and firms due to large financial losses and loss of jobs. Till now, we have seen two or three crypto winters(depending on how you define it) and the crypto industry has always managed to bounce back. The latest crypto winter was in 2022 and while 2023 shows signs of recovery, the after-effects of last year’s events can still be felt.
What is important here is to remember that while a crypto winter can be a trying time, it does not last forever. You should focus on your own goals and adjust your portfolio as per the situation instead of getting caught up in social media echo chambers and rumor-mongering.