Columnists

Why virtual currencies aren’t immune to market volatility

bitcoin

The ongoing meltdown in the cryptocurrency industry could push an estimated four million Kenyans who hold the digital assets deeper into losses. FILE PHOTO | NMG

Sometime in the 2000’s, one television house decided Kenyans needed a good dose of anything David E. Kelley produced. Remember Ally McBeal, Boston Public, Boston Legal, Chicago Hope, Picket Fences, The Practice? Yes, they were all masterminded by this man.

And then there was a long television pause until April when Netflix brought him back with another (already hit drama series) show called; Anatomy of a Scandal.

I'll spare you the details (go watch), but one thing, just as the show was garnering rave reviews, exactly 30 days from its launch, a crypto crash happened.

You ask, what's the connection? Sorry, there’s none. It’s just another quirky introduction to my article today; Anatomy of a crash.

In markets, there’s turbulence, then there’s whatever you call the past week. Bitcoin crashes below a crucial level at Sh3.5 million (its lowest since January), Ether shed more than 23 percent (48 percent year to date) and more shockingly, stable coins suffer the same fate - remember stable coins (such as TerraUSD and luna) were touted, as the name suggests, as most stable during market volatility.

They were meant to be tied to a flat currency and meant to maintain a one-to-one peg with the US dollar. But all this seems to be true only on paper. TerraUSD (or UST) crashed almost completely at one point in the week and lost its dollar peg.

Its sister coin, luna, also fell a massive 97 percent due to its algorithmic stablecoin UST de-pegging from the dollar and subsequently falling for the first time below one dollar (fell to as low as 22 cents).

Luna started trading in 2019 at roughly Sh300 and touched an all-time high of around Sh14,000 last month.

As the price of UST crashed, large luna holders crashed out, causing the supply of luna tokens to jump, and its price to crash, wiping billions off their value.

Things were made even more complicated after Terra’s creator Do Kwon purchased Sh406 billion worth of Bitcoin to support UST in the event of a crisis. The crash prompted cryptocurrency exchanges to delist the coin.

Before this capitulation, I truly believed that stable coins were the saner version of the volatile crypto world. But I have since changed my mind. No amount of billions of assets backing up the likes of Tether is ever enough. No complex algorithm can hedge against extreme volatility. No asset is safe from a market run.

What’s more troubling, experts are now observing a stronger correlation between crypto assets and traditional assets. In other words, if one plunges, the other will most likely follow suit or vice versa.

Note: Most major markets have lost over 20 percent since the year began. These events prove once again these crypto assets are nothing special - they are just another asset class.

But if you like this crypto game, just make sure it does not get in the way of other investment priorities, such as having a diversified portfolio with stocks and ensuring you’ve got some yield coming through.

The writer is managing director, Canaan Capital