If you believe cryptocurrencies have been in a bubble driven by speculative gambling, you’ll be largely right. But that doesn’t mean cryptos are dead, it just means they were temporarily overpriced.
The word “bubble” describes a situation where speculators buy an asset at a price way above its fundamental value, with the expectation of a subsequent capital gain.
Put simply: If your hair stylist, the taxi driver and too many of your office colleagues have invested in Bitcoin, but don’t even know what a blockchain is, it’s time to disinvest.
Exactly that had happened in late 2017. Crypto prices soared, reaching $19,666 in December, and nearly everybody was onboard.
Determining fair value
Going back to the definition of a bubble, determining the fundamental or “fair” value of cryptocurrencies is not that easy.
“You really have to stretch your imagination to infer what the intrinsic value of Bitcoin is. I haven’t been able to do it,” said former Fed Chair Alan Greenspan in 2013.
If we consider Bitcoin a commodity, its fair value should be around $7,000. That is the approximate cost of mining one bitcoin.
However, things get more complicated when pricing in the future value of Bitcoin. The technology is early in its growth cycle. Who knows what Bitcoin will be worth in five years? It might be worth $19,666, there are experts saying it could go up to well over $30,000 in the next few years.
But those voices are in the minority. The common opinion in the crypto community is that December 2017 was an exaggeration that we won’t see again anytime soon.
There is a use case for cryptos
The fair value of cryptos largely depends on their technological adoption. As long as there is a real use case, cryptos will have intrinsic value.
Cryptos come with various advantages. They make trading everywhere in the world easier. They are decentralized, borderless and independent of central banks. Transactions can be executed more quickly and at lower costs.
Looking at the wide range of advantages, cryptos are here to stay. But considering that there are already more than 2,000 cryptocurrencies available, the question is which currencies are going to mature and reach a wider adoption.
The price correction that is happening right now will help to answer this question. Investors have become more aware of the risks of cryptos and are very cautious which assets they invest in.
Furthermore, cryptos have appeared on the radar of regulators, who are aiming at introducing legislation to put a framework around the asset class. This will provide ground for institutional investors to move into cryptos.
The dotcom comparison
Comparing the current crypto crisis to the dotcom crisis in the year 2000 helps to put things in perspective. When the internet became widely accessible to the general population in the early 90s, online startups popped up everywhere, and their stock prices grew way over their fair values.
When the bubble finally burst, the NASDAQ lost 78% in value within two years. Many internet companies had to shut down. What remained were those companies that had solved real problems, instead of providing a product or service that was of no value for their customers.
In other words, the market had separated the wheat from the chuff, whipping out unsustainable business models.
Sounds familiar? The entire crypto market has lost about 70% in value since December 2017, with some cryptos performing better than others. It’s fair to say that a dotcom-like reality check is happening in crypto markets.
As the market is maturing, those cryptos that will adjust and be able to proof their worth to the real economy will turn out to be the winners, the others will eventually fall off the cliff.
If you want to know what Blockchain is at all, look at this post >Blockchain explained<