August 6, 2017    6 minute read

The Crypto Bubble Will Burst and It Will Be Ugly

Approaching Volatility?    August 6, 2017    6 minute read

The Crypto Bubble Will Burst and It Will Be Ugly

Cryptocurrencies are having a rough week. Total market cap is down about 35% since the peak in June and about 25% since I wrote my article Crypto bubble will burst and it will be ugly. What’s next?

They can (and probably will) go even lower.

Lessons from 2013 crash

Source: Google Finance

Yes, Bitcoin crashed before. Even though I got tons of comments on the first article saying cryptocurrencies and blockchain, in general, are different and that they will never crash, we were last there before in 2013, and many times before that. From November 2013 to December 2013 total crypto market cap rose from around $2.5bn to almost $16bn. After the inevitable crash, prices continued to fall for about a year and a half, and it took the prices exactly 3 years to recover to the level seen in December 2013. Will it be the same this time?

Speculative Price Adoption Theory

There is a great theory called Speculative price adoption theory, that basically goes like this:

The growth of adoption of Bitcoin (and cryptocurrencies as a whole) and therefore bitcoin price is following an S-Curve of Technological Adoption, which is itself characterized by fractally repeating, exponentially increasing Gartner Hype Cycles.

What is a Gartner Hype Cycle? It is a branded graphical presentation developed and used by the American research firm Gartner, for representing the maturity, adoption and social application of specific technologies. It can be described best by a statement in Amara’s law coined by Roy Amara which states that “We tend to overestimate the effect of a technology in the short run and underestimate the effect in the long run.”

Source: Wikipedia

Basically, for anything new there is a mad flurry of excitement over potential applications, followed by the realization that most of them don’t work, followed by a slow learning of what does work, followed by sustained progress.

Source: Wikipedia

Bitcoin price is moving in cycles.

  1. Slow, but steady rise
  2. Volatilic rise
  3. Bull run
  4. Irrational exuberence
  5. Crash
  6. Boring low

Repeat

  1. Slow, but steady rise

Source: Speculative Bitcoin adoption price theory

Unlike a typical Gartner Hype Cycle, a bitcoin bubble does not reach a steady state of gradual increase. As mentioned before, it must continue to follow the exponentially increasing path of the S-curve. Why then does it follow the hype cycle at all? This is because the nature of bitcoin investment is almost entirely speculative. Speculation is driven, in large measure, by hype.

This has already happened 5 times so far and it will probably happen again.

Source: Speculative Bitcoin adoption price theory

Source: Google

Google searches for “Bitcoin in the last 5 years

First high point: April 7-13 2013

Second high point: November 24-30 2013

Third high point: May 21-27 2017

As we can see, the peak interest points almost perfectly match peak price points, further proof that Bitcoin price is really driven by hype.

After each crash, the price and hype stabilizes above the pre-bubble level, but many multiples lower than the peak.

Why the Recent Volatility?

There is a “civil war” raging in the Bitcoin community. To be short, there are 2 competing sides with different interests. On one hand there are the miners, who verify transactions and are proposing increase to the block size limit currently capped at 1MB, which would reduce transaction times and transaction fees.

The other side, Bitcoin Core developers, are proposing moving some of the data out of the Bitcoin’s main network in order to decrease congestion and allow smart contracts to be built on Bitcoin (as on Ethereum). The miners don’t agree with that, because it effectively diminishes their influence over Bitcoin’s block chain.

The compromise proposal called Segwit2x would increase the block size limit from 1MB to 2MB and move some data out of the Bitcoin’s main network, thus satisfying both sides. If more than 80% of miners will deploy it consistently, the proposal will be accepted and the Bitcoin will avoid the split. If less than 80% of the network accepts it, things will get messy. There will potentially be 2 different versions of Bitcoin, and the price is expected to crash dramatically. However, if there is no split, the prices are expected to get a short term boost.

Timeline as per Bloomberg:

  • By July 21: SegWit2x software is released and supporters begin using it.
  • July 21 to July 31: The community monitors how many miners deploy SegWit2x:If more than 80 percent deploy it consistently, that should signal community-wide adoption of SegWit and the avoidance of a split, at least for now.
  • But if a majority do not deploy, expect anxiety within the community to grow as the focus shifts to the Aug. 1 deadline.
  • Aug. 1: UASF is deployed by its supporters, who begin checking if bitcoin transactions are compliant with SegWit.If a majority of miners still do not deploy SegWit2x or otherwise accept SegWit, and if UASF supporters do not back down, then two versions of bitcoin’s blockchain could come into existence: a UASF-backed one where only SegWit transactions are recognized, and another where all trades — SegWit and non-SegWit — are recognized.
  • If a split occurs, bitcoin will likely begin existing on both blockchains in parallel, resulting in two versions of the cryptocurrency. Expect traders to quickly re-price the value of both, likely leading to massive volatility.

You can check how many percentage of Bitcoin mining pools intent to support Segwit2 live here.

Conclusion

If the history is any guide, it is a bad time to invest into cryptocurrencies. Prices most likely still have further room to fall, and the Bitcoin civil war is still raging. High chance for further price decrease and increased volatility means that it is probably not a perfect time to invest at the moment. All the new crypto coins are even more volatile than the Bitcoin and if there is a Bitcoin crash they will most likely fall even more. Wait for a few months, and the chances are you can join the crypto bandwagon for a lot less.

 

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