Many well known and highly respected financial analyst and heavyweights have accused Bitcoin of being in a bubble. The Wall Street Journal published an article where they interviewed 53 economists about the future of Bitcoin. And 51 of them said yes, it’s in a bubble. But what exactly is a bubble, and are cryptocurrencies in one right now?
If cryptocurrencies are in a bubble, does that mean that they will be doomed once the bubble pops? In this article, we’re going to go over what a bubble is and go through some of the facts available to see if there is more evidence suggesting that cryptocurrencies are, or are not in a bubble.
Brief Review – What is a Bubble?
Not to be confused with the kind of bubble you might encounter while doing the dishes or taking a bath, the term bubble is often short for the concept of a speculative bubble.
In simple terms, speculation is when someone invests in or buys something expecting to be able to sell it later for a higher price and make a profit in between. Typically, speculation is targeted towards making a quick profit. Often it does not necessarily rely on a deep understanding or belief in what the person is buying.
Bubbles typically form around very hot and exciting new markets. These hot markets attract tons of attention, and speculators will start to buy up millions of dollars worth of assets in hopes of making a quick turnaround profit. The classic example of a bubble is the dot-com bubble which burst after a few years of growth. The dot-com bubble occurred in the late 90s to early the 2000s when internet companies started gaining attention as being the new type of business that everyone wanted to invest in. The problem is, the rampant speculation caused many of the tech companies in the market to become vastly overvalued.
Here is a highly useful infographic that gives a good representation of bubbles and how they fit into the context of normal market movements:
Psychology of a Market Cycle, Image by Wallstcheatsheet
Once the contents of a bubble become vastly overvalued, and the investing public at large becomes aware of this, a quick selloff occurs. This is because all the investors want to get as much of a return as possible, so they will all try to sell at the highest price they can, even if prices are dropping rapidly. When this happens, the bubble has burst. Forbes writer Clem Chambers describes the movement of a bubble as “up like a rocket and down like a rock.”
This is another famous graphic which shows the stages of a Bubble:
Now see how it lines up with the Bitcoin price chart from the last 12 months :
Bitcoin Price, Image from Coinmarketcap.
Is Cryptocurrency in a Bubble?
In order to answer this question, we need to consider what are some of the conditions necessary for calling the market a bubble.
Generally speaking, if a market is in a bubble, it will have most of the following traits:
It is a hot market that is quickly becoming very popular in seeing new investors join every day. Prices will be highly volatile, and will generally be moving up at an incredible pace. Individuals investing in the market will start to expect to earn double or triple returns in just a few months or less. The underlying assets that are being invested on may not have a proven business use case, income, or new innovations on which to rely on.
That isn’t a complete list, but generally speaking, most bubbles will have these traits, among others.
Based on this information alone, there is a good chance that cryptocurrency is in a bubble. What’s different about cryptocurrency is that it is entirely unlike any other investment class that has ever existed before it. Therefore, it may be difficult or impossible to compare it to other economic events such as the dot-com bubble that led to such market conditions and an eventual massive downswing.
However, let’s assume for a moment that cryptocurrency is in a bubble. Let’s also assume that it will follow the same trajectory that other bubbles have followed in the past, including the dot-com bubble. What’s going to happen when it eventually pops?
Popping the Bubble – A Post-Bubble Cryptocurrency World
It’s impossible to predict what exactly the market will do if a cryptocurrency bubble exists and it pops. Let’s pretend that it follows along a similar trajectory that other asset prices see when a bubble pops. That being, prices drop rapidly and deeply.
Imagine that tomorrow, the supposed cryptocurrency bubble pops, and bitcoin prices drop to about $500 each. The events that follow such a drop in price would be very important for determining the future of cryptocurrency as a whole.
Quite likely what would happen is cryptocurrency investors would split into two groups.
One group is the speculators. Speculators will realize that their opportunity for a quick profit is over, and so they will have already sold out of their investments that led to the price drop. The speculators will effectively lose all interest in cryptocurrency and will fully divest.
The second group of investors will be what will call the “true believers”. The true believers have not only a complete or at least a fundamental understanding of what cryptocurrencies are, and what they represent, but they also understand that bubbles popping and market corrections are inevitable. This group will see the post-bubble pricing as an amazing opportunity to purchase cryptocurrencies for a low price.
With only the true believers in the market, and no speculators dumping millions of dollars in, prices will not recover in a short period. Instead, prices will go up slightly from their lowest point and probably stabilize around the $1000-$2000 range. Over time, the public will increase their awareness of cryptocurrencies as they become more widespread and more adopted. This will lead to more organic and steady growth over time. This is in contrast to the rapid and crazy growth that was seen in, for example, 2017.
For some smaller projects that don’t have their act together, and don’t have an MVP (minimum viable product), they could quite likely fall to the wayside and be quickly forgotten. The same thing happened in the wake of the dot-com bubble.
A Burst Bubble Wouldn’t Kill Crypto
Simply put, a crypto bubble bursting would not be the end of the world, and it certainly would not be the end of cryptocurrency. Bitcoin and other cryptocurrencies have seen massive drops in prices similar to the one described here. For example, following the Mt. Gox catastrophe, bitcoin prices dropped massively, before recovering to eventually hitting their all-time highs seen at the end of 2017.
To draw another parallel, the dot-com bubble’s burst was not the end of all internet companies as we know it. Instead, companies like Amazon.com, Facebook, and Google are now worth nearly uncountable billions of dollars. They are also some of the biggest companies in the world now. Their current valuations and earnings did not appear overnight though. It took nearly a decade of steady growth, innovation, and well-executed plans for them to reach where they are today.
No one knows for certain if cryptocurrencies are in a bubble or not. But if they are, much like the survivors of the dot-com crash, they will have every chance to not only survive but to rebuild themselves in a way that it is stronger than it ever was before.