If you're looking to invest in a major cryptocurrency player, Ethereum (ETH 1.47%), the world's second-largest cryptocurrency, may have already caught your attention. Developers have flocked to the blockchain to create projects. And last year, when the crypto rose more than 400%, it proved its popularity with investors, too.
This year, though, Ethereum has suffered along with the rest of the crypto market. It's dropped more than 50%. Will Ethereum rebound, or are its best days in the past? Motley Fool contributors Adria Cimino and Keith Noonan look at the bull and bear cases.
A key moment just ahead
Adria Cimino: Ethereum is heading for its big moment, part of an update that may solve the crypto leader's biggest problems. The entire upgrade includes a few phases. Ethereum already completed one -- the creation of the Beacon chain, the first move toward a more energy-efficient way of validating transactions.
Coming up around Sept. 15, the Beacon chain will merge with Ethereum's mainnet. That will complete Ethereum's transition to the proof-of-stake validation method.
This will cut energy use by more than 99%. Prior to this, Ethereum used proof of work. That method requires complex computations and have led to Ethereum consuming as much energy annually as the Netherlands.
"The Merge," as it's called, sets the stage for the next part of the Ethereum upgrade, which is sharding. This splitting up of the database will result in higher transaction speeds and lower costs.
Through these updates, Ethereum will become greener, faster, and cheaper. It already is a major presence in the areas of decentralized applications (dApps) and non-fungible tokens (NFTs). After the merge, and next year after sharding is introduced, Ethereum could attract even more users -- and investors.
Considering the economic context, Ethereum probably won't rebound overnight. But it has already given us more than a glimpse of how the blockchain can reshape the way business is done. After the upgrade, Ethereum truly may have what it takes to dominate in the world of cryptocurrency over the long term.
CRYPTO: ETH
Key Data Points
Macroeconomic and geopolitical conditions don't favor Ethereum
Keith Noonan: While the switch to proof-of-stake system will make the Ethereum network significantly more efficient from an energy-usage perspective, it's not clear that it will actually result in a reduction of gas fees to process transactions and run apps. Investors should also consider what the current economic backdrop and uncertainty on the horizon means for Ethereum and other crypto tokens.
Most of the projects and applications built on Ethereum are either cryptocurrencies or related to cryptocurrencies. Continued bearish pressures for the broader crypto market will likely translate to pricing declines for the Ether token.
Cryptocurrencies were once touted as a hedge against macroeconomic volatility, but it seems clear that this thesis no longer holds. Valuations in the crypto market have been heavily affected by high levels of inflation for fiat currencies and rising interest rates, and this will probably continue to be the case going forward. Inflation is still running hot, and it's likely that the Federal Reserve will continue serving up substantial rate hikes.
The overall macroeconomic and geopolitical backdrop is fraught right now, and challenging conditions could continue to depress prices in the crypto space. Sanctions and energy policy decisions related to the ongoing war between Russia and Ukraine are causing energy prices to skyrocket in many parts of the world, and the situation could get worse before it gets better.
Not only will rising energy costs lead to more inflation and encourage interest-rate hikes around the world, but the trend will reduce incentives for mining proof-of-work cryptocurrencies -- a development that could further dampen enthusiasm for the broader crypto space. Tensions between the U.S. and China also appear to be heating up.
Ether has strong fundamentals, compared to most other cryptocurrencies, but it's still a somewhat speculative investment. Its valuation could be depressed if investors continue to become increasingly risk averse.
One of the strongest players
Current economic conditions aren't the best for Ethereum or cryptocurrencies, in general. So Ethereum may be stuck in the doldrums until economic headwinds die down.
It's unlikely we'll see gains like those of last year any time soon. That said, Ethereum is among the strongest players in the industry. And once the economic environment improves, it could be one of the first cryptocurrencies to take off.
