Written by Andrew Button at The Motley Fool Canada
Cryptocurrency is in a bear market this year. Bitcoin (CRYPTO:BTC) is down more than 52%, and Ethereum is down even more. Other alt-coins have given investors a variety of different experiences, most of them negative.
It may seem scary, but we’ve been here before. In 2018, Bitcoin fell 80% from the top to the bottom. It was a much more severe correction, but it eventually reversed. In late 2019, Bitcoin started recovering from the prior year losses, by 2020 it was soaring to new highs.
Investing in cryptocurrency is always risky. Cryptos have no intrinsic value, and investments in them are therefore a leap of faith. However, cryptocurrencies are sometimes used to buy and sell things, and that may give them a use case. In this article, I will explore three lessons from the crypto correction of 2018 and how they can apply today.
Lesson #1: Higher interest rates take a bite
One big lesson from the 2018 bear market was that interest rate hikes take a bite out of crypto valuations. Nothing fundamentally “bad” was happening to cryptocurrency in 2018 that would cause its price to go down. The most prominent macroeconomic development that year was the Federal Reserve raising interest rates.
In 2018, the Fed raised rates by 25 basis points four quarters in a row. The schedule of interest rate hikes corresponded to Bitcoin’s price moves almost perfectly: BTC peaked in the first quarter and bottomed in the fourth. Correlation doesn’t imply causation, but interest rate hikes are known to make risky assets less desirable. So, one could hypothesize that high interest rates caused Bitcoin to crash in 2018. If so, the rate hikes occurring this year may be causing the current bear market.
Lesson #2: The bottom may not be in
A second lesson from the 2018 crypto bear market was that prices can take a long time to find a bottom. It wasn’t until November of 2018 that Bitcoin bottomed out. That’s nearly a year from when it started falling. The current crypto bear started in November, so we have a few months to go if things follow the 2018 timeline. But it’s no guarantee that we’ll be out of the woods after a year has elapsed.
The Federal Reserve has signaled that it could keep hiking interest rates well into 2023. If that happens, and if the inverse crypto/interest rate correlation holds, then we could have a long way to go before we see a bottom.
Lesson #3: The recovery can take a long time
A final lesson from the 2018 crypto bear market was that it can take a long time for crypto to re-take its previous highs after a crash. Bitcoin bottomed in November 2018 after less than a year of selling, but it wasn’t until 2020 that it was setting new highs again. This time, BTC could take even longer to find a bottom, because the Federal Reserve is hiking interest rates even more this year than in 2018 and is planning to continue the hikes for a longer period of time. Investors who went all-in on crypto at the top may need to show extreme patience in order to recoup their losses.
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Fool contributor Andrew Button has no position in any of the stocks mentioned. The Motley Fool recommends Bitcoin and Ethereum.