What causes a cryptocurrency crash?

In Insights

The sky is falling. Markets are looking bleak. All you can think is, “Why is Bitcoin dropping?”

Welcome to the show. In cryptocurrency, prices fly high and fast like a rocketship 🚀, but it seems like they can crash back down just as quickly.

A cryptocurrency crash can be breathtaking for traders. If you’ve been in the market for long enough you’ll have experienced at least one yourself.

Why is crypto crashing?

Prices rise. As the green candles climb, investors become euphoric and traders feel like geniuses. The amount of green on the chart seems healthy but unsustainable at the same time. The market is balancing on the edge.

Then suddenly, a turning point is reached. Prices crash back down and put a halt to the prevailing trend.

It looks something like this:

Brutal. But what causes a cryptocurrency crash like this? What can you do to protect yourself?

Read on to find out. 

Why cryptocurrency is falling

Profit taking

After such a long price run up, corrections are bound to happen. Markets don’t just go straight up or down, there has to be movement in both directions.

In a strong uptrend you will see smaller corrections, but the clear prevailing trend is upwards. That’s how it works. Next time you’re asking ‘Why is Bitcoin dropping?’ - you may notice that the ‘crash’ is just part of the natural market cycle. 

Traders and investors taking profit can be one of the causes of a correction. Once they have reached a target they will close their trades, creating selling pressure. If enough profit taking happens, it can have a knock-on effect.

The knock-on effect

When a trade is closed, selling pressure is put on the market. If there is enough profit taking at one point, the larger selling pressure could scare others to panic sell and cause a cascading sell off.

Many times, this is the main reason for a cryptocurrency crash. Panic spreads fast. 

Break of support

Support is a technical analysis term used for a level on a chart that ‘supports’ the price and stops it from falling.

This happened when Bitcoin broke the key support level of about 6,000 USD in 2018.

Notice how the price continually bounced off this yellow level. Once it broke, it broke with force.

Upon the break of this line holders sold and traders shorted. This caused immense selling pressure that bottomed the market.

Change of trend

Markets aren’t going to trend in one direction forever. An up-trend will always end at some point and be superseded by a downtrend.

When an uptrend ends and a downtrend begins, buyers are exhausted. There is no more buying pressure. This often ends with one last push up in price, before a large crash down.

The death of a project

Most crypto projects are start-ups. Naturally, not all start-ups survive. A cryptocurrency crash will happen if a project closes for good, or even if some bad news scares the market enough.

Similarly, if a project is identified as a scam, the market is likely going to crash. See Bitconnect for an example of this.

Protecting yourself

The markets are ruthless, so you’ve got to do everything you can to protect yourself. There are two things that will really help you avoid a cryptocurrency crash: risk management and learning to trade. 

Risk management

If you’re in control of your risk, you’re on top of the world. Risk management is like an emergency parachute - you hope you won’t need it, but you have it ready to save you in case things go wrong.

Basic risk management is all about ensuring your position isn’t carrying too much risk and you will exit any position once the risk becomes overwhelming. This protects your capital and allows you to continue investing or trading. 

Imagine you bought a token near a high point, before a crash happened. You didn’t know the crash was coming. Just in case, you placed a sell order to protect yourself against a crash. If a crash happens, you sell before the worst of it. If it doesn’t, you keep your tokens. You’re all set either way. 

Learning to trade

Even if you don’t want to start trading, you can learn the basics of trading and it’ll help your investment strategy.

Trading is incredible. It is essentially studying human psychology to predict how the masses will react to the market. If you can figure out what someone else is thinking, you’re set. 

Interested?

Learn to trade crypto

 

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This content is not financial advice and should not form the basis of any financial investment decisions nor be seen as a recommendation to buy or sell any good or product. Trading cryptocurrency is complex and comes with a high risk of losing money, particularly if you trade on leverage. You should carefully consider whether trading cryptocurrencies is right for you and take the time to learn how trading works and decide how much money you are prepared to lose.

WRITTEN BY

Liquid

Providing liquidity for the crypto economy.