Chad Arroyo


Decrypting Crypto Volatility

Photo by Chris Liverani

Making heads or tails of short-term activity in the crypto markets is the equivalent of trying to understand chaos theory. While it may be futile to try to understand what caused crypto assets to experience intraday volatility the macro volatility cycle is much more predictable. Not surprisingly, people tend to ask the hard questions when the markets are crashing and less so when they are on the rise.

Most crypto investors are fully aware that crypto is a volatile asset, and while difficult to bear, these investors are relatively insensitive to 10–30% volatility swings on their respective holdings. But once that downside figure increases towards 40–80%, even the most devout of crypto-evangelists tend to scratch their heads and question reality.

The Great Crash

This past December 2017, we saw Bitcoin cascade from its all-time high of $19,783 to $6,953 in 50 days. That’s a staggering loss of 65% of its value over this relative time period. Commensurately, the overall crypto market capitalization fell from an all-time high of $813 billion and fell to approximately $332 billion, representing an approximate 60% loss of value for the entire market. Simply put these are non-trivial losses of notional value. Presently we are sitting just above $450 billion.

And while it may be a bit comedic to include Alex Millar’s YouTube video Don’t Buy Bitcoin. It’s Going To Crash!!! here, he does a great job of succinctly depicting the sensationalism around Bitcoin’s ups and downs. Mind you he posted this in 2015.

Bitcoin Market Dominance

Aside from Bitcoin’s individual price action, an important piece of the story is Bitcoin’s overall market dominance. It has historically been and still is to a large degree the Grandfather of all things crypto, but is its grip on the market is changing? Up through January 2017, Bitcoin maintained a market dominance just above 85%. Since then it’s market dominance has plummeted and even today reflects just under 40% of the total crypto market which is consistent with where the chart below trails off in July 2017.

It is important to note that from July 2017 through present time February 2018 Bitcoin is maintaining a high degree of pull on the overall market. One of the indicators of this that even with the continued growth of the Initial Coin Offering (ICO) market, which is soaking up more and more crypto funds every week, Bitcoin has managed to hold steady at this 40% mark.

There are a lot of hypothetical reasons why this is true, but if all else was holding equal, the flood of crypto money into ICO tokens would generally create a further dilutive effect on the market dominance for Bitcoin and that has not occurred even in the wake of the Great Crash of Late 2017/Early 2018.

The Psychological Piece

Markets tend to be rationally irrational. The Psychology of a Market Cycle graphic below is a reminder that we are emotional beings and our decision-making in the wake of financial gains and losses, consistently reflects that.

Price movements, analyses, qualitative inputs and even the algos that are executing transactions on this global market have humans behind their execution processes (that is until the advent of strong AI). The Market Cycle chart shows both micro and macro cycles of market activity as aggregate participants time and time again realize their own relationship with price action.

One may try to look at this chart and try to place where we are. The challenge is that we can be at multiple places on the curve at once, especially when considering individual assets, blockchain verticals, the crypto market as a whole, and the overall macroeconomic picture. What I can say for sure is that with crypto being a 24-hour global market, the micro cycles tend to occur very fast. No sooner than when we believe we are finished with the cycle altogether does something occur that triggers it to repeat itself.


Finding Ourselves on the Adoption Curve

Next, locating ourselves on the Adoption Curve is another fun exercise. Per the chart below adoption typically takes place in phases. Innovators and Early Adopters get involved. They are followed by the Early Majority and then the Late Majority. And just as the market is reaching peak adoption, the Laggards come into play, namely the last 10% of market participants.

Subject to both philosophical and ideological debate, it is rare to be able to have a logical discussion with those who want to cite anecdotal evidence regarding their perception of the Adoption Curve. They claim that when their Mother, grandparents, Uber driver etc.. are talking about crypto that the party is over! If they were correct, we would most likely be at the late majority stage of the Adoption Curve. Well, I took a ride home from a Crypto meet-up this evening in Brooklyn, New York and my Uber driver held his own in a conversation about Litecoin. He was definitely knowledgeable of its recent price action. Now allow me to tell you why we are likely still in the Early Adopter and Early Majority phase of the S-curve.

Let’s consider what true crypto adoption looks like. Estimating the total number of holders of crypto is a difficult task. We do have some data points though. At the end of November 2017, just 3 months ago, Coinbase reported having over 13 million customer accounts, a number that surpasses the total number of Charles Schwab account holders. Hong Kong-based Binance, the world’s largest cryptocurrency exchange, reported onboarding 240,000 people in just one hour and that millions more are signing up just a few months ago. Now even if we stretch some estimates here, I think we would be hard-pressed to say that the amount of holders of crypto globally is substantially more than 30 million, if even that.

The world population is approximately 7.6 billion and as of 2015, Gallup reported that 62% of the world population has a bank account through a formal financial institution or through a mobile device. By those figures, that would indicate that 4.7 billion people globally have a bank account. This insinuates that 0.64% of the banked global population are crypto holders. I would argue that that is hardly a figure that would take us past the Early Majority part of the Adoption Curve.

The Impact of New Retail Investors

Now we must consider the impact of that estimated 0.64%. As much as we’d like to tout the power of the recent masses adopting crypto, I would argue that their adoption in the short term is not as significant as everyone believes it to be.

Assume that an average account holder deposits $5,000 and we are on-boarding 1 million new people a week. We would essentially be adding $5 billion of fiat capital to the crypto markets every 7 days. On paper that sounds like a substantial number considering the current market cap is approximately $450 billion. But even if that were true, it doesn’t account for money that is being taken out of the system and the effects of rapid asset sell-offs.

Photo by Cory Schadt

My intuition tells me that the average account holder is depositing much less than $5,000 and while mainstream exchanges are advertising a lot of user growth, a number of retail investors are setting up accounts on multiple exchanges. In this case, we have a lot of overlapping crypto user populations that are difficult to tabulate.

In Search of Institutional Cash

Photo1 by Hunters Race & Photo2 by Benjamin Child

The crypto markets are chomping at the bit for the green light for institutional money to be deployed into crypto. This is so pertinent to the space that there is pure speculation occurring on the mere possibility of this occurring at scale. In aggregate, companies have billions of dollars that they can invest. If a strong grouping of companies starts to put capital to work in crypto, there is very likely to be a domino effect driving up asset prices.

And while we can investigate individual company balance sheets and plot the figures, there are numerous examples of corporations with a lot of cash or cash equivalents sitting on their balance sheets. For example, in the wake of the recent Trump corporate tax cuts, these companies have even more cash accessible to them. The following article Tax cut scoreboard: Workers $6 billion; Shareholders $171 billion conveys that companies are seeking to buy back company stock with cash accessible, generally enriching shareholders. Furthermore, with efforts to facilitate the repatriation of funds from overseas, it is estimated that when that money comes back another $450 billion will be placed towards stock buybacks. What if just a fraction of this capital were deployed towards crypto assets, even as a hedge? That could make a huge difference.

But I wouldn’t get overly excited about institutional adoption, at least not in the beginning. There are healthy Over-the-Counter markets and Dark Pool trading activity that have been developing in crypto. Essentially, these are peer-to-peer or quasi-peer-to-peer transactions. In the case of Over-the-Counter and in the case of Dark Pools, they can be thought of aggregate order flow that is being transacted with outside of on exchange order books.

Namely, these transactions tend to transfer ownership of the underlying crypto assets without creating price action. If you were an institutional player wanting to acquire large amounts of crypto you would likely go through a myriad of channels to both acquire and divest your holdings, in an attempt to minimize your influence on price. Regardless, the involvement of institutional capital is a critical part of the mainstream crypto adoption and will inherently drive up asset valuations.

Media Mania

The media has gone bonkers for blockchain and crypto. Blockchain is confusing, disruptive, elegant, and has made a lot of people rich. Its mysterious beginnings are rooted in the story of Satoshi Nakamoto and Bitcoin. Its follow-on evolution has ties with the Dark Web, and one of the first prominent illicit marketplaces called Silk Road. The adoption of cryptocurrency threatens the establishment of money and the systems that govern it as we know. What’s there not to love from a narrative standpoint?

And while most people couldn’t name the first 10 Presidents of the United States, let alone explain the difference between Proof of Work (PoW) and Proof of Stake (PoS) blockchain consensus algorithms, there is a lot of room to fill with appeals to human emotion. The media is very very good at that!

Whether it’s Jamie Diamond — CEO of JPMorgan Chase, Warren Buffet — CEO of Berkshire Hathaway, Christine Lagarde — Head of the IMF, or a number of other financial public figures, it has become taboo not to have an opinion on digital assets. Even Blackrock’s Global Chief Investment Strategist, Richard Turnell, went on the record on Feb 27th, 2018, indicating “We see cryptocurrencies potentially becoming more widely used in the future as the markets mature. Yet, for now we believe they should only be considered by those who can stomach potentially complete losses.” For a firm that has $6.28 trillion dollars under management, these are no small words…

The hype and fear that mainstream and alternative media, as well as market influencers, have on the crypto market is substantial and plays to the high volatility that crypto holders embrace on a daily basis.

Bitcoin Futures + Follow-on Crypto Derivatives

The onset of crypto derivatives is in its early stages, but has created a cash-settled channel for retail and institutional participants to gain exposure to crypto without actually holding any of the underlying crypto assets. While futures, options, and other derivatives are being created primarily on behalf of the Bitcoin markets, it is only a matter of time before other cryptos are bundled into derivative instruments providing for wider crypto market exposure from potential non-holders of crypto.

Personally, I am conflicted on the true market impact of these derivatives. While there are a number of reasons to trade derivatives, one reason is that participants may be looking to hedge their crypto positions or perhaps even their traditional investment portfolios with these crypto derivatives.

On a conspiracy theorist note, I want to believe that some really smart illegitimate actors are finding ways to take out Bitcoin derivatives contracts in a manner that suits their interest and seek ways to drive the price up or down making their contracts more valuable and timing this movement in lockstep with their contract expirations. While this behavior would be fraudulent and illegal, it’s not outside the realm of possibility.

It is important to note that no crypto Exchange Traded Funds (ETFs) have been approved to date. This matters, because if and when ETFs are actually approved, there could a requirement to accumulate crypto to serve as the underlying for these funds (if their plans are not to be synthetic instruments — meaning they have no underlying assets behind them)

Generally speaking (with the exception of the ETF market), I look at the current crypto derivatives as net-neutral on the crypto markets. The participants do not want to custody crypto and deal with the challenges of transacting with them on a crypto exchange, but they are interested in trading both the upside and downside of these assets. By participating in the derivatives space they are not directly affecting price action on crypto exchange order books and hence I believe their effects on the overall market are fairly insignificant in practice.

The Whales

The Whales are an interesting group in the crypto. They are high net worth holders and have the ability to move markets. As with any market participant, they are subject to the psychological effects of market fluctuations. While it is difficult to ascertain what any whale individual or groups interests are, I believe there are some common themes with their activities. They are as follows:

  • They generally want to remain anonymous
  • They want to protect their wealth
  • They are looking for high reward opportunities for their holdings with minimal risk
  • They want to minimize and/or avoid tax burdens altogether (may involve minimizing their conversion to fiat unless absolutely necessary)
  • They are constantly concerned about both physical and computer security

That being said, Whales are likely to know other whales, and they may be engaging in synonymous market activity. As, other market participants catch spot whale activities they may take actions to follow-on with the whales activities in a mutually beneficial manner.

Bot Trading

Just as in traditional financial markets, there is an ever-growing number of automated market participants — Bots. These bots are computer generated trading applications that run in real-time on live markets and typically execute trades using algorithmic software. It is difficult to say how much crypto trading volume is being run on automated bot trading, but if we look at some figures it is possible to consider to high-level estimates.

Today’s market trading volume was approximately $19 billion in notional value. If we assume that only 15 million participants (half of the previously estimated 30 million) are actually trading on their portfolios, and only half of that figure is actively trading their portfolios, that leaves about 7.5 million participants.

Photo by Carl Raw

Let’s assume that each of those 7.5 million has accounts of $10,000. This would mean that their account holdings are valued at $75 billion. Now let’s assume that only 5% of their portfolios are being actively traded on any given day. This assumes that only $3.75 billion of retail participants funds are being traded daily.

So the follow-on question is — “where is the remaining $15.25 billion dollars of trading volume coming from?” While the answer includes participants such as general crypto funds and Whales, a portion of that can most definitely be attributed to bots. If you want to look further into bots, check out Gekko, ZenBot, CryptoTrader, or Haasbot.


The fund category is another interesting one. Funds can range from a family offices, traditional hedge funds, VC funds, newly minted crypto hedge funds, real-world investment banks to informal crypto syndicates. Of course there can be other players, but I would like to focus on those that are likely to consistently be generating trading volume. While there is no definitive answer, a key question to ask is what are the funds interest in crypto?

Some options include traditional buy and holds, accumulation in anticipation of a hot market, active trading, position hedging, general diversification and exposure. The list goes on and on, but it is relevant to note that in aggregate they play a role in the overall volatility of crypto since they are positioned to move larger amounts than a retail investor.

Market Manipulators

There are and most likely always will be market manipulators and general bad actors. Barclays, for example, is still dealing with the fallout of foreign-exchange market manipulation. Notably another trader — the former head of New York foreign exchange trading is facing charges that has led to the firm facing $10 billion in fines.

Photo by Jaanus Jagomägi

With over 1 trillion dollars in assets, Barclays is one of the biggest banks in the world. If there are market manipulation activities that can take place at a reputable brand name firm, are we really so naïve to think that pump and dumps, painting the tape, order spoofing is not going on in a global, fragmented, 24/7 environment, that is for the most part unregulated?

One of the biggest potential scandals and manipulation threats that the crypto markets may have endured is that tied with Bitfinex and Tether. Rather than spread gossip, I encourage you to do your own research. Here is a relevant report called Quantifying the Effect of Tether. I cannot vouch for the accuracy of the report, but I would at a minimum like to highlight the possibility that it could be true.

The answer to my earlier question is, “Yes there is market manipulation going on,” but to what degree? And how susceptible are particular asset classes and tokens to these schemes?

Holy Grail — Stable Coins and Asset-backed Tokens

The crypto markets are starved for Stable Coins and Asset-backed Tokens (excepting Tether). Some call Stable Coins the Holy Grail of the crypto markets. And while asset-backed financial instruments are nothing new to the financial world, but they are novel to the crypto markets. At my company Vermundi, we are working diligently to deploy both a stable coin and asset-backed token system. More details soon!

Photo by Stephen Radford

There are a number of projects in the works — Basecoin, MakerDAO, and others. They are still very much in their infancy. In many cases this is the same story for asset-backed tokens, but my projection is that we will see a lot more asset-backed tokens deployed before we see a truly successful stable coin at scale.

Both stable coins and asset-backed coins need to at a minimum prove unfailingly — 1) price stability, 2) scalability, and 3) resiliency. Some will argue for privacy and decentralization, and while those are nice add-on features, we need Stable Coin options to be available to the market so that there are secure assets available in the cryptoverse. The fact that this instrument is effectively missing from the ecosystem is a huge red flag! This article, An Overview of Stablecoins by Multicoin Capital is one of the best pieces I have seen on this topic.


Coming to save the day is regulation! Some measures have already arrived, but the impact of these laws will be closely tied to the structure of the policies and enforcement by each sovereign jurisdiction. Now it is true that each country whether it be China, the United States or others could come down hard on crypto in various capacities, but there are very clever and determined folks out there who will constantly look for ways to circumvent rules and/or laws. I would argue even more so if these rules would otherwise prevent them from taking the actions that they want to take — moving funds or engaging in various styles of transactions.

Photo by Claire Anderson

Crypto is the wild west for now and regulation will play a substantial role in its future. My personal sentiment is that the regulation will cause more short-term volatility shocks to the system and will lead to a larger stabilization effort for the markets.

In fact, if regulation can come in and effectively put strong controls on the flows of capital, I believe that we are much more likely to see more institutional activities, pension funds, sovereign wealth funds and others jump into the cryptoverse. The funny part about this is some institutional players may be putting their toes in the water now, but I believe when the green light is metaphorically given, there will be an exponential turning point at play. We will go parabolic.

ICO Effect

Initial Coin Offerings (ICOs) have multiple effects on the crypto markets. Here are a few that I would like to highlight.

Promotes Accumulation of Crypto as Medium for Investment Purposes. On one hand, they are promoting crypto adoption because in many cases in order to invest in a speculative ICO, you have to do so in crypto. I believe this will change over time, but until that occurs at scale, holding big name cryptos such as BTC, ETH, NEO and others allows the ICO investor to be able to deploy crypto-capital towards the next new and exciting project. Therefore the ICO market creates demand for big name cryptos. Without them, you simply cannot participate in ICOs.

Creates market Sell Offs via Crypto Liquidation Effect. If you are a sexy crypto company and just completed your ICO, chances are you are sitting on millions of dollars worth of crypto. The decision point from here is — what do you do with your crypto capital — Liquidate to fiat, hold it all in crypto, or find some happy medium? If you are a real company you need to pay employees, office(s), supplies, legal expenses, taxes, and everything else it takes to run a business. In which case, liquidating to fiat becomes less of an option, and more of a requirement.

Photo by Sergey Pesterev

Hypothetically, let’s say your company raised $30 million in crypto. You liquidate $25 million to USD and keep $5 million in the crypto. I will emphasize now, that $25 million worth of crypto is now being pulled out of the market and is being converted back to fiat. If this was a one-off occurrence, it would be a big deal. But there are hundreds and hundreds of ICOs out there…with many more in the pipeline.

This adds up to being a vicious cycle of money coming in and money going out of the ecosystem. Who knows exactly what the trade balance really looks like unless we have the aggregate data from all of the exchanges that are processing crypto-to-fiat and fiat-to-crypto transactions combined with actual inflows and outflows to real-world bank accounts. That information is simply just not available.

ICO Failures. While some ICO failures have already occurred, there are many more to come. This will big volatility swings and sell offs resulting in losses for many ICO/altcoin holders. When these occur, I expect larger market shocks to follow that will affect more than just alts. The combination of the herd mentality, the media, and everything else we can throw in the mix will exacerbate the volatility tied with this type of market activity. Beware of this one.

Smart Money

Photo by Vitaly

Throughout this piece we’ve covered a myriad of reasons why the crypto markets are and will continue to be volatile. Many on the sidelines and even those investing in crypto are asking — what is the smart money doing? While there are no unequivocal answers to this question some options include:

  1. Stay out of the game altogether
  2. HODL — Buy and hold for the long-term
  3. Day trade
  4. Buy the Dip
  5. Diversify
  6. Mine for your favorite crypto
  7. Set up Masternodes…
  8. Some combination of the above

…the list goes on and on!

Anyone can put together a strategy, but with all successful investing strategies — they always work until they don’t. I do believe that we are on verge of a turning point in crypto as an asset class. The markets are beginning to show signs of recovery and institutional capital is figuring out ways to participate. I believe we will see a $1 trillion market cap for the larger market sooner rather than later, but hey, who knows?

— — — —

Disclaimer: This post is not and should not be considered to be financial advice. Much of the content is my own personal professional opinion and associated projections. The post has been written for educational purposes only to assist in your framing of what is happening in the crypto markets.

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