What affects cryptocurrency price?

Cryptocurrency supply

The price of cryptocurrencies can go up and down depending on the level of supply.

The more rare something is, the higher the price as it is more sought after.

Cryptocurrency supply is determined by how many coins are available to purchase and how many can be created in the future.

They could be created through data mining, where computer experts solve a complex math problem online that produces a cryptocoin such as Bitcoin.

Alternatively, developers may setup initial coin offerings to get funding to launch a new cryptocurrency.

Some have a maximum number of coins that can be produced while others have limits on how many can be created each year as a way of controlling the price and managing supply and demand.

The maximum supply of Bitcoins, the world’s oldest and largest cryptocurrency, is 21 million.

More than 18.5million coins have been produced by Bitcoin miners so far and once it reaches the limit the price could go up due to limited supply and investors knowing that no more can be created.

In contrast, Ethereum, the second largest cryptocurrency, has no supply limits.

Demand for cryptocurrency

The other side of supply is the level of demand for virtual currencies.

There is no point in having lots of digital money available if no-one is interested in your cryptocurrency.

The higher the demand for a crypto, the higher the price could go as more investors want to buy.

Institutional interest, such as asset managers launching funds investing in the crypto market or investment banks running crypto trading desks can help encourage interest.

High profile support can also boost demand and generate a price increase.

For example, Tesla founder Elon Musk announced in early 2021 that his electric car company had purchased $1.5 billion of Bitcoin.

He also said customers could purchase his company’s electric vehicles with the cryptocurrency as well as fiat currencies before backtracking over concerns about the environmental impact of bitcoin mining.

Similarly, Bitcoin got a boost when the US Commodity Futures Trading Commission approved the launch of the first ever exchange trade funds to invest in Bitcoin prices in October 2021.

Demand may also be higher where there is a need for alternative forms of money transfers.

There may be legitimate uses such as if the value of a country’s actual or fiat currency has dropped dramatically and people don’t trust the local banks or payment systems so flock to digital currency.

A financial crises may also tempt people to seek alternative assets.

Competition

Bitcoin and Ethereum may be the best-known and largest cryptocurrencies by market cap but they are by no means the only cryptos available.

They have “first-to-market” advantage so have had more time to attract funds but there are now more than 8,000 cryptocurrencies, many of which are cheaper than more established coins on the crypto market.

Competition can impact prices as cryptocurrency investors flock to coins that are in fashion or offer something unique or exciting.

Many will have different unique selling points such as better blockchain technology or functionality, which is the underlying system that a cryptocurrency operates on.

Some types of coins may come in and out of fashion.

Meme coins became more popular and valuable in the crypto market in 2021 after celebrities such as Musk and Snoop Dogg tweeted support for Dogecoin, a cryptocurrency initially setup as a joke form of Bitcoin.

The coin’s value and total market capitalization was a lot lower than Bitcoin and Ethereum, creating a cheap way to enter the crypto world.

Market sentiment

One of the main factors that drive any asset’s value is market sentiment.

Attitudes towards cryptocurrencies can help drive the price of individual coins and the wider market.

Sentiment can be influenced by a cryptocurrency’s actual fundamentals.

Investors have been attracted to Bitcoin and Ethereum as they were the first to offer decentralised ways of transferring money and have established technology that helps store and track transactions.

Investors may also follow the crowd and invest due to social media or news articles.

This helped Dogecoin rise in value during 2021 when celebrities and entrepreneurs tweeted their support for the meme coin.

Musk described it as “the people’s crypto.”

It can also work the other way though and people can be deterred by bad news or legal and regulatory crackdowns.

News developments

Investors rely on news stories as a way to monitor the cryptocurrency market.

A positive story can boost cryptocurrency pricing due to a boost in market sentiment.

This can increase demand in the crypto markets, helping push up prices.

However, bad news can make investors panic and try to sell their cryptos if they are worried about the impact on their portfolio.

This can push cryptocurrency prices down.

Regulation of crypto

There is no consistent global regulation of the cryptocurrency sector.

One reason for this is that the crypto industry isn’t based in one place so it is up to national authorities such as financial regulators and central banks to set their own rules about digital cash.

Some countries have gone as far as banning Bitcoin and other cryptocurrencies as they are worried about price risks and criminal use.

Others, such as the Financial Conduct Authority (FCA) in the UK are in the process of introducing rules to ensure retail investors understand the risks of cryptocurrencies such as price volatility before investing.

Requirements introduced so far include making exchanges conduct background checks on users.

Regulation can be a way of giving cryptocurrencies legitimacy as exchanges, where you can trade cryptocurrency, have to conduct due diligence on coins to ensure they are genuine and aren’t scams..

This can help push the price up as investors may be reassured that a certain cryptocurrency has a bright future.

But prices can fall across crypto markets if regulation goes as far as banning Bitcoin or other cryptocurrencies, as countries such as China and India have done.

Production costs

The cost of producing a cryptocurrency can influence prices.

At first glance, all cryptocurrencies may appear the same.

They are digital currencies that can only be exchanged online and may have certain differences in functionality.

But just as it costs more to manufacture a high-end Porsche compared with a Fiat Uno, the more it costs to produce a cryptocurrency, the higher its value.

This is one reason why Bitcoin prices are so high as there is a lot of expensive Bitcoin mining equipment required and it also takes a lot of electricity consumption.

Cryptocurrency adoption

Adoption can help drive up values as it helps move them into the mainstream and gives the cryptocurrency industry credibility.

That includes shops accepting cryptocurrencies as forms of payments or apps letting you buy and sell virtual currencies.

Mass adoption can have a significant impact and many investors rely on this as a good indicator of cryptocurrency values.

Two indicators of adoption last year included PayPal letting users buy and sell digital currency and El Salvador recognising Bitcoin as legal tender.

Political events could also push prices down such as if governments ban or publicly oppose the use of cryptocurrencies.

Availability

Similar to adoption, the easier it is to buy a cryptocurrency, the better the price can be.

Availability is helped by trading platforms and crypto exchanges letting users buy, sell and hold certain cryptocurrencies such as Bitcoin.

Platforms will tend to conduct due diligence on existing cryptocurrencies or a new coin before letting investors buy and sell to check they are still operating and aren’t scams.

For example, Dogecoin has been around since 2013 but was only added to eToro in 2021 amid more interest and knowledge about its use.

Cryptocurrency exchanges

A cryptocurrency exchange provides a platform to let users buy and sell crypto assets and the level of activity with this new technology can impact values.

The price of a cryptocurrency can vary across different exchanges as it may depend on trading volume and demand and supply plus there could also be trading fees.

Some use similar technology to determine a fair price for virtual currencies.

This can still have an impact on the overall price as the more widely available a currency is on exchanges, the more interest and demand there may be, pushing up valuations.

There may also be a price crash if there is a sudden rush to sell cryptos through an exchange.

This could be due to an issue with the cryptocurrency or the exchange itself.

Crypto utility

The more useful a cryptocurrency is, the more valuable it can be.

This is known as its utility.

Cryptocurrencies can have different functions.

For example, Ethereum has its own blockchain network that lets anyone build apps that use the cryptocurrency for decentralised finance tools such as loans without the need for a bank.

Some may operate in different sectors such as providing forms of payment in virtual reality computer games.

Internal governance

A key fundamental when investing in assets such as shares is how the company is run or governed.

The same is true for cryptocurrencies.

It is important to know who is behind a cryptocurrency and their reason for launching it as well as how their underlying technology is managed.

Concerns about governance, such as hacks or unexpected blockchain changes can impact a cryptocurrency’s price.

The better understanding there is of how a cryptocurrency is run, the more people may be willing to invest.

Code updates

Cryptocurrency founders may occasionally change the code for their virtual currency.

This may be to fix glitches on its blockchain or just to improve security and privacy.

For example, Bitcoin released an update called Taproot on its blockchain in November 2021 which simplifies how transactions are recorded and ensures they take up less online storage space.

Hard forks

A hard fork is a type of code update.

Unlike other updates, a hard fork can be a significant change for cryptocurrency investors.

A hard fork splits a blockchain in two.

It usually happens when developers, tech insiders or mining teams disagree with the direction of a cryptocurrency so some will split and adapt the blockchain code to create their own and also form new coins.

The largest hard forks so far have been Bitcoin Cash and Bitcoin Gold, created in 2017 when miners disagreed on blockchain alterations.

These changes can create volatility in the market due to concerns about the future of a cryptocurrency affected by a hard fork.

Whales

Institutional investors with lots of money can have an impact on prices, pushing values up if they invest a lot and down if they decide to sell.

They are known as whales, reflecting their size and influence and the size of the splash they can make on the market with a buying or selling decision.

Nodes

A node measures how many computers or how many active wallets are linked to a blockchain network to record and validate transactions.

You can find these measurements, known as the node count, through cryptocurrency exchanges or on a cryptocurrencies website if it has one.

The more nodes there are, the more likely it is that a cryptocurrency is being used and is popular, which gives it value.

The node count is a good way of comparing the value of cryptocurrencies against each other.

Scandals

There have been plenty of scandals in the cryptocurrency market.

This includes scammers trying to exploit people with fake cryptos that claim to be new bitcoins.

Scammers will create a new coin and try to push the price up through social media before selling their stake and then closing or just stealing people’s money and removing their online presence.

Other types of scandals include hacks of blockchains or cryptocurrency exchanges that can steal or block access to investor money.

All this harms confidence and market sentiment, which can push down prices.

Inflation

Rising inflation means the cost of living such as your food and energy bills are rising.

It also devalues what fiat currency such as pounds, the US dollar or other currencies are worth.

Funds left in the bank often won’t earn a decent level of interest to match or even beat inflation.

That can be a good indicator to make people invest in cryptocurrencies for a higher return, pushing prices up.

Returns can be higher than the rate of inflation, making cryptocurrencies attractive compared with cash when the cost of living measure is rising.

There is still the risk that cryptocurrencies fall in value and you could end up losing money so it is important to understand what you are investing in and to only invest what you can ultimately afford to lose.

Cryptocurrencies are just one way, and probably the most risky, to try to beat inflation.

Traditional methods are to seek other more established assets such as stock market investments or property.