The recent sell-off in cryptocurrency has been eye-watering. BitcoinBTC -5.2% lost more than 70% of its value since November highs and Celsius, a lending platform, announced that it would be pausing a significant portion of its activity. The broader market volatility seems set to continue, and the digital currency ecosystem is bracing itself for more pain. Although the fluctuating environment is far from over, there are lessons to be learned from what we have experienced thus far.
Past performance is not indicative of future results
Few phrases encapsulate the ethos of investing as well as this. This sentence is stamped as frequently as the “sell by” date on milk, and yet, is often tossed to the wayside when evaluating performance. Pattern recognition is a powerful tool in financial analysis, however, even the most skilled investors fall into the anchoring trap of thinking that “this time will be like before.” We see evidence of this in liquidity provisions for institutions. While rationally it is understood that no recession is like the one that came before it, the vast majority of downside planning is based on the global financial crisis of 2008.
But what happens if the next recession lasts twice as long? It is impossible to predict whether the next downturn will have similar magnitude and longevity characteristics. Similarly, much of the activity around cryptocurrencies was catalyzed by short-term jumps. As prices would increase, so too would the volume of investment. Per the Wall Street Journal, “Crypto’s total market capitalization… peaked in November at nearly $3 trillion.” The drop in crypto pricing is by no means inevitable. However, it is a prudent reminder that we should not hang our hats on yesterday’s results.
Do not abandon healthy skepticism
I attended the Wharton School at the University of Pennsylvania. I have an MBA from Kellogg. My day job is in financial services. On paper, I have all of the qualifications of an individual who should conceptually understand cryptocurrency and decentralized finance. And yet, I will admit that I often had difficulties contextualizing and indeed, truly understanding the intricacies of the digital currency universe.
In conversations with acquaintances, whether or not one was invested in digital currencies suddenly became an invisible marker of those who were “in the know.” Somewhere in the excitement of the new, a healthy skepticism was pushed aside. This is not to say that doubters were completely silenced. However, this market selloff is a prudent reminder of the importance of cultivating a well-reasoned contrarian point of view.
It can be OK to sit on the sidelines
In a landscape as quickly evolving as that of fintech, products, definitions, and metrics, are constantly evolving. It is perfectly reasonable to be a patient observer, rather than an active participant. You do not have to form an opinion immediately, or indeed, at all. You can take your time learning, asking questions, and reaching your own conclusions.
This is potentially the tip of the iceberg for the decline in cryptocurrency pricing. The effects have been far-reaching: last week, Coinbase COIN -3.5% announced that it would be reducing headcount by 18%. As volatility continues to seep its way into every crevice of the broader market, each of us must ask difficult questions of ourselves, and start preparing for new realities.