There is no denying that Bitcoin is a volatile asset. With an annualized volatility of over 50%, it has huge price swings. This not only incentives traders but also dissuades the risk-averse from investing.
But you may be wondering. Why does bitcoin fluctuate so much?
Don’t worry in this article I will be answering that question. So without further ado, let’s jump right in
1. Small Market cap
All in all, Bitcoin has a market cap of just $350 billion. When compared to golds market of $11 trillion this is significant. Not to mention there are even several companies with market caps over $1 trillion including Apple, Microsoft, and Google.
As a result, it takes less capital to move the market which leads to extreme volatility. To put it into context, for Bitcoin to move 10% it would need $35 billion whereas for gold it would need over $1 trillion.
2. Investor sentiment
The overall sentiment has a huge influence on the market. After all, emotions are one of the main drivers for whether investors buy or sell. With an asset like Bitcoin that is primarily traded by retail investors rather than institutions, the general sentiment perpetuates price swings.
Ultimately, the average Bitcoin investor is less experienced when compared to other assets such as gold or stocks, and therefore they are less likely to stick to their investment plan and be more impulsive with their trading.
In other words, they are speculators rather than value investors.
3. Media influence
It is not uncommon for media outlets to create hype in Bitcoin bull markets and spread fear in bear markets. When the price is high the general news cycle is positive with obscene price predictions.
Whereas in bear markets Bitcoin is referred to as being a scam or declared dead. This media influence perpetuates the overall trend and sways investor confidence.
4. New asset class
All in all, Bitcoin is an extremely new asset. Only being around for less than 15 years it has not had time to develop and mature. As a result, the correct market value has not yet been determined.
Not to mention, its technological value and adoption are rapidly changing and therefore the underlying value of Bitcoin also changes rapidly.
When Bitcoin first started trading at less than $5 it was traded by a niche underground community. Therefore, it did not have the network effects and this was reflected in the price.
Whereas now, it is traded by millions of people across the world and is widely adopted both as a store of value and a medium of exchange. Therefore, this increase in development and adoption has increased volatility to the upside.
5. Regulatory uncertainty
One of the primary external factors that can influence Bitcoin’s price is government regulation. For instance, the 2021 announcement by China’s government for making Bitcoin transactions and mining illegal led to extreme volatility to the downside.
Therefore, until there is more clarity from governments across the world on regulation, the price will not stabilize. After all, how can it, if investors are not confident in the government’s stance? Ultimately, stability is determined by confidence in the asset.
If you want to view this article in a more visual format then please check out my video below:
Conclusion
As you can see, the price swings of Bitcoin are largely determined by its immaturity. Ultimately, it is still uncertain whether it will become a viable currency or store of value.
Not to mention, its market cap is significantly smaller than other assets and as a result, less money is needed to move the market. However, as time progress and people agree on its true value the price will likely stabilize.
At that point, it will be an established asset with widespread adoption. I hope you found this article useful and thanks for reading it. Want to know why Bitcoin uses proof of work? Click here to read my previous article.
