It's funny how cryptocurrency always seems to make its way into the financial headlines when prices soar or sink. When the prevailing sentiment on digital assets is extremely bullish or bearish, suddenly trading volumes and social-media buzz ramp up.
So at a time like this, amid signs of interest in buying cryptocurrency at discounted prices, prospective investors are often left with more questions than answers. There are thousands of cryptocurrency tokens on the market to choose from, and dip-buying any of them can be a scary proposition when prices are cratering.
As always, research will be your ally and knowledge is your best weapon in the quest to capitalize on the current fire sale in cryptocurrency. After surveying the history of crypto crashes and how they were eventually resolved, investors can leave their emotions at the door and, hopefully, make better-informed decisions.
Fed fears and Luna losses
Even as temperatures rise in the summer of 2022, there's been a chilling effect in the cryptocurrency market, with some tokens losing 50% or more in a matter of months. It's enough to shake even the most hardened, experienced traders out of the proverbial tree.
Amid the wreckage, the first step toward reason and prosperity is to figure out why crypto prices crashed. An easy scapegoat would be Terra (LUNA -0.71%), which lost more than 99% of its value in May. However, this wasn't due to any problems with the broader cryptocurrency market. Rather, the Terra/Luna collapse happened because sister stablecoin TerraUSD (USTC -1.44%) lost its peg to the U.S. dollar. This might warrant skepticism toward certain stablecoins, but it's not reflective of all cryptocurrencies.
A more likely crypto-crash culprit is the U.S. Federal Reserve's pivot to increasingly hawkish policy this year. As the Fed aggressively hikes interest rates, risk-off sentiment now prevails, and traders are engaging in wholesale dumping of assets previously perceived as high growth. This phenomenon helps to explain why valuations of high-flying technology stocks are coming back down to earth and why the tech-infused hypergrowth names in the crypto-verse are suddenly out of favor on Wall Street.
Expect the unexpected
When it comes to volatility and sharp drawdowns, even fast-moving tech stocks can't compare to cryptocurrency. If you were raised on megacap stocks and are expecting digital tokens to behave similarly, you'll be in for the shock of a lifetime.
Using Bitcoin (BTC -0.54%) as an example because it's the most widely recognized cryptocurrency, old-school investors might expect it to be low in volatility due to Bitcoin's high price and large market cap. Yet Bitcoin stunned neophyte traders when it tumbled from almost $69,000 in November 2021 to less than $20,000 in June 2022.
The antidote to crypto-market anxiety, in this case at least, is perspective and an understanding of Bitcoin's history of crashes and recoveries. A half-dozen drawdowns of 50% or more occurred from 2012 to 2021, and three of them exceeded 80% in depth. Each and every time, Bitcoin eventually staged a full recovery; "eventually" meant waiting months or maybe two to three years, but not a decade.
Stick with the blue chips
As the old caveat goes, past performance isn't a guarantee of future returns. Still, cryptocurrency's historical tendency to recover after crashes does lend credence to the idea that at least some crypto coins will revisit their prior peaks sooner or later.
If you're on board with this, then I've come up with a simple rhyme to guide you amid the crypto chaos: When asset prices drop, go with the cream of the crop. It's a safety-first principle that should serve investors well over the long term, irrespective of asset class. Some smaller cryptocurrencies might post huge returns, sure, but they're also more prone to failure, as the bust that followed the boom in initial coin offerings in 2018 demonstrated.
A great point of departure, then, is to start with what might be called the blue chips of the crypto-sphere. These are the most famous names with the biggest market caps, the most obvious candidates being Bitcoin and Ethereum (ETH -0.63%). After those two, there's a sizable drop-off in name recognition and market cap, so be sure to conduct your due diligence when delving into the wild West of altcoins, which are anything other that Bitcoin and to some, Ethereum.
The final word here is that there's no one right answer for everyone, but it's fine for risk-tolerant, strong-stomached investors to take a moderate-size position in Bitcoin and Ethereum, and perhaps a few other crypto coins as well. Just be ready to make friends with volatility, as it's an ever-present force in the still-evolving cryptocurrency ecosystem.
