Cryptocurrencies are expected to stay volatile in the coming week and beyond as speculators weigh the impact of China’s crackdown and Tesla’s U-turn against the recent growth in institutional interest, analysts reckon.

“Tesla’s decision to suspend Bitcoin payments on environmental concerns is a hammer blow for the digital currency and there is a risk that other big companies who have adopted Bitcoin may follow suit,” said Fawad Razaqzada at ThinkMarkets.

“China is obviously trying to dampen risky speculative trading and at the same time maintain capital controls by forcing people to use its own currency and its digital yuan. But the fact that it is China – the world’s second largest economy – makes a big difference.”

‘Long bitcoin’, ie betting the price it is going up, is the most crowded trade, according to a survey of money managers by the Bank of America, and that unwinding of these positions either willingly or by forced liquidation could see strong downward pressure being exerted on prices, Razaqzada said.

Concerns over tighter regulation may come to the forefront of investors’ minds, he added.

On that note, Monday will see the start of the four-day Consensus 2021 cryptocurrency conference, with Fed policymaker Lael Brainard kicking things off with a speech, her first on the subject of cryptos since last August.

Former Treasury Secretary Lawrence Summers, hedge fund manager Ray Dalio and rock star investment manager Cathy Wood will also be speaking at the conference.

“Perhaps [Brainard will] give us some clues on where the Fed stands with regards to central bank digital currencies,” said market analyst Marshall Gittler at BDSwiss, following comments from Fed chief Jerome Powell in the past week that cryptocurrencies may “carry potential risks to those users and to the broader financial system” leading to a need for greater regulation.

As the market for digital currencies grows, “so must our attention to the appropriate regulatory and oversight framework”, Powell said.

This came after a week when the entire crytpo market lost around a quarter of its value on one day, topping off a 40% decline over a month.

“This week’s action shows two of the headwinds facing cryptocurrencies,” said Gittler. “On the one hand, most people aren’t buying them to use as payment methods but rather as a ‘store of value’.

“I got an intensive lesson in this fact recently when I wrote an article about cryptocurrencies and tested some of my ideas out on Twitter. Crypto advocates ridiculed my observation that Bitcoin is not an efficient means of payment. That function isn’t at all important in their assessment of Bitcoin, rather, they are focusing on Bitcoin’s use as a store of value insulated from government interference,” he added.

Crypto’s recent price movements might make people wonder what kind of a “store of value” acts in such a way, Gittler added.

“I’m sure this won’t dissuade retail speculators, but professional money managers can ill-afford such volatility in their P&Ls.”

It’s not only the Fed that sees regulation looming, with the Bank for International Settlements, the G7, and the G20 all have their eyes on the field, with the US government having already taken numerous regulatory actions, the Biden administration expected to do more and the UK having just started the consultation process.

“Governments are not going to surrender their monopoly on the monetary system without a fight. In that respect, we should pay attention to next Monday’s speech,” said Gittler. “She seems to be the point person for digital currencies on the FOMC.”

But the introduction of regulation is no bad thing and the long-term outlook for cryptocurrencies remains positive, says Anatoly Crachilov, CEO of Nickel Digital.

“We will continue to see significant swings in valuations of crypto assets, hence this space is best suited for investors with a long-term view, and who are able to tolerate interim volatility,” Charchilov said.

“This volatility can be mitigated either through appropriate sizing (Nickel would argue directional exposure should not exceed 1-3% of investors’ portfolios) or through dedicated market-neutral implementations.

“Indeed, while such price corrections are damaging for some investors, for an investment manager running a market-neutral arbitrage strategy, armed with proper risk management systems and resilient trading infrastructure, this level of volatility offer incredible opportunity.”

He pointed out that there are several factors that make Bitcoin attractive to institutional and other professional investors, which bode well for its long-term prospects, including:

  • Inelastic immutable monetary policy – the supply of Bitcoin is capped at 21mln and its issuance schedule is hardcoded and completely uncorrelated with changing demand, “which makes it a powerful hedge against currency debasement and inflation as governments and central banks are engaging in multi-trillion-dollar stimulus packages”.
  • Diversification qualities – Bitcoin price movements have exhibited a low correlation to equity market moves over the last 10 years, according to Nickel’s analysis, with major S&P 500 drawdown periods seeing Bitcoin demonstrate an independent behaviour pattern. “This makes Bitcoin an important diversifier for portfolio allocation purposes,” Charchilov says.
  • Powerful recoveries – whilst Bitcoin is known for its major implosions, such as seen in March last year when the currency’s price tumbled in unison with the S&P 500, it has staged an impressive powerful recovery, far outstripping the Wall Steet equity benchmark’s recovery in terms of speed.
  • Engagement of large payment platforms – PayPal, Square, Revolut have all started to make Bitcoin available for purchases, whilst Visa is offering a credit card linked to bitcoin. 
  • Improving infrastructure – Charchilov points to established financial institutions such as Fidelity and BNY Mellon now offering crypto custody services, while banks including Goldman Sachs, Morgan Stanley and JPMorgan are providing access to this market to their clients.