update 19 August 2021

6 Main Factors Responsible for Cryptocurrency Volatility

The volatile and unstable nature of cryptocurrency makes it a great investment opportunity. When correctly harnessed, cryptocurrency investments can be very profitable. There is a wide variety of cryptocurrencies in the market, and some cryptocurrencies are more volatile than others. The more volatile it is, the higher the investment risk.

The risks and uncertainty brought about by this volatility constitute a significant setback as it makes some people hesitant to embrace cryptocurrencies. This constant shift in price and value also makes it challenging to integrate cryptocurrencies as a medium of exchange in retail markets. So, what makes the cryptocurrency market so volatile? Here are some of the most significant factors responsible for volatility in the crypto scene. 

1. Laws of Supply and Demand

Demand and supply are not constant factors and sometimes not even predictable. Like in a regular product market, when the demand is high, and supply is low, the scarcity leads to a rise in prices and vice versa. Similarly, cryptocurrency prices rise and fall depending on demand and supply. If demand increases and supply is constant, the prices increase. In the cryptocurrency world, a fluctuation of demand adds to its volatility.

2. The Lack of Regulation

Unlike fiat money, cryptocurrencies are independent and unregulated by the government. When it comes to fiat, governments ensure money’s stability mostly by controlling their availability and access. When there is inflation, measures are put in place to control the amount of money circulated in public. This is easily done by increasing interest in loans to discourage people from borrowing, thus reducing the banks’ cash flow. 

In the case of deflation, the government also intervenes with appropriate measures. The lack of such regulation in the cryptocurrency market leads to a lot of instability and possibilities. Meaning cryptocurrencies are very volatile as they can gain and lose value very quickly and without regulation.

3. Speculation

The trading business entirely relies on the speculation of the masses. When people foresee a potential decline in the value of the cryptocurrency, they try to sell as fast and as much as possible to avoid losses. When progressive events and positive changes are expected, people tend to buy, leading to higher demand. This affects the market demand and supply. Cryptocurrency value will be driven by how many willing sellers and buyers there are.

Most people rely on the media to know the most recent and probable future status of the cryptocurrencies they are interested in. Therefore, the media is a core driver of speculation. For example, if a country or two were to launch CBDCs, the regular cryptocurrencies would be shaken, and such news might encourage the sale of cryptocurrencies. 

4. Usability and Adoption by the Market

The more accepted a cryptocurrency is, the higher its value. When companies and businesses express more interest in cryptocurrencies, the value of cryptocurrencies rises. For instance, online businesses and firms have begun to accept cryptocurrency as a means of payment. Such developments always lead to an increase in the value of the specifically approved cryptos. 

Well-known companies getting involved in specific crypto as a means of trade completely changes the dynamics by increasing interest among people. It is impossible to predict which cryptocurrencies will be relevant and accepted by the markets in the future. This adds to the uncertainty, and cryptocurrencies remain very volatile as their usability and adoption are subject to change.

5. Large Shareholders

Some cryptocurrencies are made in such a way that there are only a limited number of them created. This means some people hold a huge percentage of the total coins. When such large shareholders, known as whales,  make decisions, the decisions affect the whole market. For example, if they were to sell, the market will be flooded, and prices will spiral down. Also, if they were to buy and hoard, the supply would be low, and prices would spike. Furthermore, people will be interested in cryptocurrencies if influential people and successful companies are larger shareholders. Cryptocurrencies remain very volatile as they depend on such influence.

6. Blockchain Scalability

The current blockchain technology has had congestion issues, which causes delays in transactions and verification of transactions. Over the years, there has been a significant advancement in the blockchain system to improve on scalability. There is still more work to be done on the blockchain system to make it more efficient. When system issues arising are not quickly dealt with, the cryptocurrency markets are negatively affected. Mistrust leads users and investors to sell and leave a specific cryptocurrency and move to another digital currency or back to regular fiat. Switching affects cryptocurrency prices and makes it volatile.

Parting Shot

The volatility of cryptocurrency comes with both advantages and disadvantages. Despite all the possible benefits of adopting cryptocurrency, it is yet to be embraced as a mainstream medium of exchange. Other than trading, most cryptocurrencies are only important as an investment plan and store of wealth. Storing money in the form of cryptocurrency is better than having it in the bank as it is free from the effects of inflation, political, and economic instability. 

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Understanding the forces behind crypto volatility is essential. It is only through this way that crypto enthusiasts and investors can harness digital currencies’ advantages and learn how to make significant profits. If more people in the crypto scene can leverage cryptocurrency volatility, perhaps there will be an influx in people showing interest, leading to mass adoption. 

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