Cryptocurrencies like bitcoin are notorious for eye-popping price swings. For example, the price of bitcoin can rise or fall over 10% in a single day. And these swings can be even more drastic for altcoins (non-bitcoin cryptocurrencies). Though Fidelity Digital AssetsSM research suggests that bitcoin’s volatility has declined overall, the price swings are likely here to stay for the foreseeable future.
Why is there so much volatility? Here are some of the factors that help drive crypto prices.
What affects the price of bitcoin and other cryptocurrencies?
One factor that’s common among almost all cryptocurrencies is that it's hard to identify their fair value. The reason is that many of the valuation methods that are used for traditional investments may not apply.
Unlike stocks, for example, cryptocurrencies have no cash flow and do not have the ability to pay dividends. And unlike commodities (like gold and copper), they have no industrial use.
The fact that traditional valuation methods aren't necessarily applicable contributes to the big price swings we see in the market.
The following factors can also play a role.
Adoption by companies, investment firms, or governments. Companies may announce that they’re accepting bitcoin or another cryptocurrency as payment for goods or services, or that they’re buying crypto to hold on their balance sheet. Investment firms and world governments may also announce that they’re buying crypto to hold as investments or reserves. Any of these scenarios can positively affect price.
Conversely, price can also be negatively affected if a company decides that they will no longer accept crypto as a form of payment, or if an investment firm or government decides to sell their bitcoin. A high-profile example of the former occurred when Tesla announced that the electric car company would start accepting bitcoin as a form of payment in March 2021.1 In the wake of that announcement, bitcoin's price went up about 5%.2 A couple of months later, when Tesla halted cryptocurrency payments due to environmental concerns over bitcoin mining, the price dropped about 5% in the immediate aftermath.2
Economic performance. Crypto is a high-risk investment compared with most traditional investments (e.g., stocks and bonds). Like other riskier investments, the price of crypto may have a tendency to perform better when the economy and/or market is generally thought of as doing well or expected to do well, and investors are willing to take more risk. Alternatively, price may go down when the economy or market is not performing well or is not expected to perform well, and investors are generally not as willing to invest in riskier assets.
Central banks. While central banks do not control cryptocurrencies, some crypto analysts have observed that the US central bank in particular may be indirectly influencing the price of crypto. The Fed does affect interest rates and, consequently, inflation. Some analysts think bitcoin's price may increase when the Fed lowers interest rates, and that its price may fall when the Fed raises rates.3 Of course, crypto is a relatively new asset compared to stocks and other traditional assets that have existed for much longer, and so there is relatively little historical data, and it may be too early to draw any concrete conclusions.
Regulatory actions. A significant source of uncertainty for bitcoin and other crypto prices is government regulation, along with any other actions that governments may take in regard to cryptocurrencies. Domestically, crypto supporters have been lobbying for more defined regulations for the crypto industry as a whole. News or rumors of potential regulations has been known to impact price.
World events. Similar to how geopolitical and macroeconomic news can affect stocks and other investments, they can also influence the price of crypto over the short and long term. For example, overseas wars can push investors to reduce the amount of risk they’re willing to take, which can negatively impact the price of bitcoin and other cryptocurrencies.
Accessibility. Crypto is relatively new (bitcoin was created in 2009) and new investment options are gradually coming to market. When new vehicles like spot crypto ETPs (including the spot bitcoin ETP and spot ether ETP) go live, their inflows and outflows can impact cryptocurrencies’ prices. Spot crypto ETPs can be particularly impactful because they hold actual bitcoin as their underlying asset.
Network updates. Every 4 years, the Bitcoin network is programmed to cut the amount of mining rewards in half. This is called a halving. The goal is to stabilize bitcoin’s ability to act as a store of value. Meanwhile, the Ethereum network periodically receives upgrades that seek to improve the way it operates. Events like these can positively or negatively affect the cryptocurrency’s price.
Crypto volatility and your portfolio
Buying bitcoin and other cryptocurrencies may not be appropriate for everyone. Before buying, remember that crypto is highly volatile, and may be more susceptible to market manipulation than securities. Also note that crypto holders don’t benefit from the same regulatory protections applicable to registered securities. Crypto holdings aren't insured by the Federal Deposit Insurance Corporation or the Securities Investor Protection Corporation, and the future regulatory environment for crypto is currently uncertain.
All these factors mean you should only buy with an amount you’re willing to lose.
Even if you are a believer in the future for crypto, it's critical to learn as much as you can about what factors influence its price before entering the market—including the big historical price swings that have occurred on a relatively frequent basis.
Those who are willing to take on the potential for both large gains and losses should only consider bitcoin and other cryptocurrencies after understanding the risks—including significant price volatility—and determining if it aligns with their overall investment strategy.