At the beginning of the year, cryptocurrencies were riding high. Bitcoin reached US$17,000 in early January, while Ethereum rose to just under US$1,400. But since then, it’s been all downhill. Last week, Bitcoin dipped to around US$6,200 while Ethereum went below US$200 for the first time since July 2017.
I must admit, I had been fairly bullish on cryptocurrencies at the start of this year. In a column in early January, I wrote that I expected to see “further institutional money pour into cryptocurrencies in 2018.” In my defence, I listed two caveats to that prediction. One was there might be a big hack (which there hasn’t been, so far at least). The other caveat was that “a lot depends on how the regulation of cryptocurrencies plays out this year.”
And that’s been the problem. Regulatory uncertainty has been the main cause of the crypto crash of 2018. Not the only reason (I’ll get to another couple below), but unquestionably it’s been the biggest factor in the bear market.
The world’s two largest economies, the US and China, have both cracked down on cryptocurrencies.
Last year China outright banned cryptocurrency exchanges and ICOs (Initial Coin Offerings), and this year it clamped down on Bitcoin mining operations. The US hasn’t gone as far as China, but its various (and sometimes overlapping) financial authorities have opened multiple investigations into crypto trading during 2018. Just last week, the New York Times reported that two Wall Street regulators have “announced a series of actions, including levying fines, against companies involved with cryptocurrencies.”
Even the so-called “Crypto Valley” in Switzerland – home of the ICO – is now feeling the pressure. In its latest Crypto regulation around the world report, Element Group noted that “businesses in Switzerland are facing heat as regulation in the country becomes more stringent and companies are looking to move to more crypto-friendly countries.”
Here in New Zealand, the main issue has been a continuing lack of clarity about how cryptocurrencies should be regulated. While the Financial Markets Authority (FMA) has published guidance documents, as I noted back in March their advice leaves investors with more questions than answers.
As for the IRD, it finally released its tax guidance in April. There were gaps (how to deal with ICOs being the main one), but the IRD did at least clarify that cryptocurrencies will be treated like property for tax purposes.
So more than anything else, cryptocurrency prices have plummeted this year because of regulatory crackdowns and uncertainty. As a result, institutional money has steered well clear of the crypto market.
There’s another key factor, which has affected Ethereum much more than Bitcoin. There have been reports that ICOs – most of whom used the Ethereum blockchain to raise money – have been dumping ETH as they run out of fiat money. The ICO boom of 2017 was the result of hundreds of startups essentially swapping their own tokens for ETH, or in some cases for tokens from Ethereum competitors like NEO. All well and good when ETH is worth US$1,200. Not so great when it’s worth $200.
Many of these ICOs have cashed out of ETH on its way down. Partly that’s due to their own fear and uncertainty, but it’s also because the products these ICOs promised to build have – for the most part – not eventuated. Or if a product did get developed, it’s nigh on unusable.
Lack of progress on blockchain products has perhaps been the biggest disappointment of 2018. I’ve tested a number of these products – such as a distributed Twitter called Peepeth and a prediction market running on Ethereum called Augur. In nearly all cases, the user experience (UX) has been truly awful. It’s no wonder user numbers are extremely low.
Even CryptoKitties, the most well known Dapp (distributed app) on Ethereum, failed to capitalize on its early momentum. CryptoKitties experienced a brief craze at the end of 2017, but since then its daily active user (DAU) count has dropped a staggering 96%. The analysis site Diar reported that at its peak, sometime in December last year, CryptoKitties had 14,194 DAU. Now it’s a measly 510 users per day.
Part of the problem of building blockchain apps is that the infrastructure technology is still under development. Both Bitcoin and Ethereum have scaling issues, meaning any product that attracts thousands of users immediately bogs down processing times on the blockchain. So even if you wanted to build a product like Twitter or Reddit on a blockchain (and there are multiple attempts to do exactly that), there’s currently a hard limit to how popular they can get without encountering processing issues. Even thousands of users is too many; and you can forget about having millions of users, like the most popular web apps.
For all the above reasons, the current low prices of cryptocurrencies are justified. The carnage has been especially heavy with the so-called “altcoins” – basically, any coin not named Bitcoin or Ethereum. Many altcoins have dropped anywhere between 80-95% from their all-time highs (ATH). Arguably, most of those coins are still over-valued. Ripple’s XRP, the third-ranked cryptocurrency, is down 93% from its ATH. Yet it still has a market capitalisation of US$11 billion, despite having few real-world customers.
Do I believe Ripple is worth twice as much as Xero, which has 1.38 million subscribers worldwide? No, I do not. But that’s what the cryptocurrency market says.
So prepare for more downward pressure on crypto prices. Although personally, I hope we also see the survivors of this crash keep working towards the dream of decentralized apps. As I’ve written elsewhere, there are good reasons to want blockchain technology to succeed.
Will there be many survivors of the current price rout? Well, just remember that Amazon and Google survived the Dot Com boom and bust. So I’m betting a few winners will emerge from the blockchain revolution too.