Several factors can contribute to a crypto crash. Generally speaking, the performance of the crypto markets reflects that of the S&P 500 and Nasdaq. The stock market is sensitive to global events. Global lockdowns, money printing, inflation, referendums, and elections can all affect the stability of any given market. Accordingly, the crypto market is undergoing an extensive period of downward price movement. However, the causes of the 2022 crypto crash are still in question. While some believe the recent crash is due to natural market dynamics, others believe that specific events may have triggered the market-wide downturn.
In this article, we’re going to explore the 2022 crypto crash and the events that lead to it. We’ll explore some of the common causes of crypto crashes and what investors can do to protect themselves in the future.
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What is a Crypto Crash?
Crypto markets follow similar cycles to traditional asset markets. When the price of assets continually rises, investors often say we are in a “bull market”. Conversely, a continuing downward trend is what we call a “bear market”. Now, a crypto crash occurs at the end of a bull market.
Token prices go parabolic, with a newly formed all-time high after an all-time high. Investors get greedy, 10x gains are commonplace, and people discuss Bitcoin at family gatherings and work events. Then, suddenly, seemingly out of nowhere, the bubble bursts.
After months or years of price inflation, the tables turn, and asset prices take a huge hit. Market sentiment quickly shifts, and the “bullishness” of yesterday turns to fear. A mass exodus of liquidity ensues as the crypto markets receive another round of obituaries from mainstream media outlets claiming that the end is nigh for the crypto world.
Anyone who’s been in the crypto space for more than a few months will likely be familiar with this scenario. Furthermore, these situations often coincide with an increasing number of stories highlighting losses from unfortunate or reckless investors who put their life savings into the latest meme coin three weeks after it went parabolic. However, a crypto crash is what many investors have come to expect following a long-term bull trend. But, what are the causes of the recent crypto crash?
Major Causes of Crypto Crashes
A crypto crash is often the culmination of multiple factors converging into a broader economic downturn. Furthermore, the crypto markets have a high correlation with the stock market. Accordingly, any major global events that affect traditional markets will likely have a similar, if not exaggerated, effect on the crypto market. Moreover, the crypto markets rely heavily on sentiment.
As with most markets, fear, uncertainty, and doubt play a huge role in perpetuating a crypto crash. From interest rate announcements to elections and referendums, political and financial uncertainty tend to make people less likely to invest in speculative assets. Also, uncertainty breeds uncertainty, especially in volatile markets.
Furthermore, when a crypto project fails and lots of people lose money, the crypto market has a tendency to panic. Often, the knock-on effects result in a sell-off and a crypto crash. Below, we’re going to explore some of the potential causes of the 2022 crypto crash.
What Caused the Crypto Crash in 2022?
The Covid-19 pandemic caused most of the world to close down for significant periods. During this time, the global economy effectively ground to a halt. Only a small handful of essential businesses were able to operate, leaving millions out of work and forcing businesses to close down sector-wide.
In an attempt to remedy this, central banks across the globe implemented unprecedented stimulus packages. These packages came in several forms, including one-time payments for individuals, furlough schemes, and various business support packages. However, the underlying principle of these unprecedented measures is what some economists call “quantitative easing” (QE).
QE is a monetary policy strategy that central banks use to buy securities during times of economic and financial crisis. In an attempt to minimize interest rates, increase the money supply, and encourage businesses and consumers to borrow more. The desired effect of QE is to stimulate economies. While most of the world was in lockdown, businesses struggled to be productive and profitable, meaning many businesses faced imminent collapse.
Fortunately, governments and central banks were on hand to print extra money and keep the cogs turning. However, this printing of money from thin air had ripple effects that we are now feeling the effects of. As the US and other countries began receiving their first stimulus packages, the stock market began to pump like never before. Tech stocks went parabolic, and companies like Tesla, Google, and Facebook experienced significant gains.
In March 2020, there was a mass exodus of liquidity from stocks, crypto, and other investment vehicles. During this time, the price of Bitcoin fell by around half, as did many stock investments. Indeed, this would be a catalyst for a major bull run lasting until late 2021 in both stocks and crypto.
War in Ukraine
The war in Ukraine has been an unthinkable hardship for millions of displaced Ukrainians. However, the knock-on effects of the war can be felt globally. The instability in international relations creates a ripple effect in all asset markets. Furthermore, the war results in a global shortage of wheat, fertilizer, and other essentials. Despite the negative effect this has on asset markets, they were declining long before Russia invaded Ukraine.
Although cryptocurrencies play a critical role in financing and providing aid for both sides of the war, the crypto market is just as susceptible to uncertainty as to any other market. Save our “Ukraine and Cryptocurrency” article to learn more.
Cost of Living and Energy
The war in Ukraine highlights how many major European countries rely on Russian gas and oil. Several nations are experiencing price increases for energy and everyday essentials such as food and medicine. In some parts of the world, people are forced to choose between heating and eating. As such, there are simply fewer people with disposable income to invest in cryptocurrencies and stocks.
Following the stock market crash in March 2020, investors enjoyed a significant bullish run that saw asset prices become inflated. Many people were at home with cash they might not have had in other circumstances. Job losses and lockdowns encouraged retail investors to make the most out of their disposable incomes, and many turned a handsome profit trading stocks and cryptocurrencies. However, the economic fallout of the pandemic was yet to unfold.
Fast forward to late 2021, and the cost of living crisis became apparent globally. Today, food shortages, supply chain problems, a lack of affordable housing, and surging electricity prices restrict retail investors from capitalizing on market downturns. Moreover, most people cannot afford to speculate in the way they might have at the start of the pandemic.
The LUNA Crash
Terra is a smart contract-enabled blockchain powered by the native Terra (LUNA) token. LUNA is the governance token of the Terra ecosystem and serves as a counterweight to the TerraUSD (UST) algorithmic stablecoin. In May 2022, UST lost its dollar price peg. Bitcoin was trading at around $40,000, down 40% from the all-time high of around $69,000 in November 2021. Furthermore, some investors anticipated a market upturn after several consecutive months of downward price movement. However, many view the LUNA crash as the nail in the coffin that would ultimately confirm a prolonged bear market.
Following the de-pegging of the UST stablecoin, the LUNA token began losing value. Just a month before, the LUNA token reached an all-time high of around $119. However, the rebranded Terra Luna Classic (LUNC) token is now worth only $0.00011802. At the time of writing, the new Terra (LUNA) 2.0 token is trading at around $14.80, according to CoinGecko.
The LUNA crash was not a direct cause of the broader crypto crash of 2022. However, it did signify that hopes of a near-term recovery were unlikely. Furthermore, the LUNA crash made many investors lose confidence in the stability and sustainability of emerging blockchain projects. Save our “Stablecoins Explained” article to learn more about stablecoins such as UST.
How to Protect Against a Crypto Crash
One of the simplest ways to navigate a crypto crash is never to invest more than you can afford to lose in the first place. The crypto markets are notoriously volatile and sensitive to world events. As such, you can mitigate the effects of a crypto crash by employing a robust investment strategy. Some investors like to take profits throughout a bull market cycle to offset any losses that occur after a sudden slump in price action. Furthermore, ensuring that you recoup any initial investments during a bull market will help to safeguard against future losses.
Another way to approach a bear market or a crypto crash is to embrace short selling. Short selling is a trading strategy that profits from a fall in the price of an asset. It involves speculating on negative price movements and is often used as a way of hedging against long positions that profit from positive price movements. Short selling is an advanced trading strategy that poses a significant risk to investors. However, experienced traders often use short selling to minimize losses during a bear market.
Furthermore, the tail end of a crypto crash is when a great deal of innovation takes place. A bear market is often considered the best time to build and create new exciting products. Crypto projects put less emphasis on the performance of their tokens and marketing. Instead, they can spend more time focusing on what really matters in the technologies and products they create.
For many, education is the best way to navigate a bear market. Understanding the technology and the trends that affect the markets could put you in a better position for the upcoming bull market. Also, learning how to trade without emotions could help you to maximize your gains. If you want to learn how to make better decisions when trading, check out the Technical Analysis 101 course at Moralis Academy.
In this course, we teach students how to read chart patterns and trading indicators. Furthermore, this course teaches students how to create robust trading strategies that can be profitable in all market conditions. Take your trading game to the next level with Moralis Academy!
Understanding Crypto Crashes – Summary
It’s difficult to pinpoint the exact cause of a crypto crash. While some believe it is an inevitable part of a broader market cycle, others claim that a chain of global events can trigger a market-wide sell-off and bring the bear market forward. However you view it, crypto crashes ultimately boil down to a lack of investor confidence. When more people want to sell assets than people are willing to buy, asset prices inevitably fall.
Following a crash, those who sell at a loss may be permanently or temporarily discouraged from participating in the crypto markets. That said, many view the post-crash period as an ideal time to invest.
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