Why Has Bitcoin Been Crashing And What's The Outlook?

May 16, 2022 6:17 PM ETBitcoin USD (BTC-USD)BRK.A, BRK.B93 Comments3 Likes

Summary

  • The recent collapse in TerraUSD and LUNA has also impacted Bitcoin significantly. As a result, crypto investors bailed out in droves as they were concerned about a crypto winter.
  • Our price action analysis suggests a short-term bottom could be in play. However, we have tempered our medium-term outlook due to a subtle bull trap formed in April.
  • We reiterate our Buy rating in Bitcoin, with a price target below $46K. However, we caution that the bull trap of $65K remains a significant impediment to its re-rating.
  • We also urge investors to implement strict stop-loss risk management if Bitcoin breaks below its current level. The potential drop to its next level implies a massive 87% downside.
  • I do much more than just articles at Ultimate Growth Investing: Members get access to model portfolios, regular updates, a chat room, and more. Learn More »
Bitcoin cryptocurrency background. A bunch of golden bitcoin, Digital currency

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Investment Thesis

Crypto investors have turned increasingly bearish recently, and bearish sentiments went through the roof with the collapse in TerraUSD (UST-USD) and Terra (LUNA-USD). The spectacular collapse in the algo stablecoin reminded crypto investors to focus only on asset-backed stablecoins. There's really no free lunch in the "wild wild west" of crypto.

Those 20% yields have always come with several caveats, but speculators don't usually care when making tidy profits. Even Do Kwon probably saw a day of reckoning in such stablecoins (but not for his coin), as seen above.

But the sword aptly fell on the weak and highly speculative projects that perhaps didn't deserve to survive. CEO of Crypto data firm Messari, Ryan Selkis, emphasized: "The market flushed out a weakly designed system, and the speculators that were behind it took a financial hit."

For those of us who have the "privilege" of looking in from the outside, let this be an important reminder to stay safe when investing in crypto, including Bitcoin (BTC-USD). Allocate capital wisely, don't chase unbelievable yields, and most importantly, don't avoid fiat (it's not going away, we are sure).

Even the crypto market leader Bitcoin wasn't spared as the market sent it breaking below its Jun 2021 lows. The crypto contagion has sent tremendous shockwaves that also impacted BTC. Despite that, we expect the lows to hold, as it also created a bear trap. However, the bullish thesis is facing a significant test, as the recovery in March led to a subtle bull trap in April.

Therefore, the writing has already been on the wall before the recent rapid sell-down in BTC. The market makers seem determined to send BTC to its June 2021 lows before potentially staging a short-term reversal.

In February, we highlighted that investors should capitalize on Bitcoin's weakness to add exposure. We discussed Bitcoin's long-term thesis, amid stronger institutional involvement in the space.

We reiterate our conviction in its long-term thesis. Notwithstanding, we believe that BTC is now at a critical juncture. The risk/reward has improved dramatically as the June 2021 lows were flushed out. Furthermore, the current retracement is also within the 61.8% Fibonacci retracement zone, adding a further confluence. Finally, the 50-month moving average support is also over the horizon to "protect" BTC's long-term uptrend bias (hopefully).

However, the massive bull trap from November 2021 remains a significant concern. Notwithstanding, we remain sanguine that the massive gains from 2020 have been adequately digested. However, we urge investors/traders to plan for stop-loss risk management as the current level could fail to hold. The fall to its next potential bottom could be massive if the market makers intend to digest BTC gains further.

Why Is Bitcoin Falling?

The Oracle of Omaha, Berkshire Hathaway (BRK.A) (BRK.B) CEO Warren Buffett made a series of interesting comments at Berkshire's 2022 annual meeting in early May. He reminded Berkshire's investors that the company would never create "Berkshire coins," as he emphasized:

"Assets, to have value, have to deliver something to somebody. And there’s only one currency that’s accepted. You can come up with all kinds of things — we can put up Berkshire coins... but in the end, this is money," he said, holding up a $20 bill. "And there's no reason in the world why the United States government … is going to let Berkshire money replace theirs." - CNBC

UST's collapse unveiled the fallibility of a system with a lack of robust regulatory framework and oversight. Despite its market leadership, Bitcoin wasn't immune to the "crypto winter" contagion driving down crypto prices.

Crypto investors reacted to the widely spreading fear as they became concerned about a broader impact on Bitcoin. Some investors could also be worried about potential increased regulatory actions and tighter enforcement that could temper bullish sentiments in Bitcoin. Therefore, we believe investors who sold out could be watching closely how tighter crypto rules could unfold moving forward. These investors want to know whether crypto regulation could become a tailwind or become a headwind, as Buffett cautioned.

Can Bitcoin Recover?

BTC-USD price chart

BTC-USD price chart (TradingView)

BTC-USD price chart (monthly)

BTC-USD price chart (monthly) (TradingView)

BTC-USD has a massive bull trap at the $65K level that will likely be its most significant medium-term resistance. It has successfully drawn in over-optimistic traders at those levels who thought BTC was going to the moon.

However, we believe that the recent April-May capitulation has resulted in a bear trap created based on the lows of June 2021. However, a subtle bull trap at the $46K level in April has tempered our outlook of BTC recovering its $65K highs anytime soon.

Nonetheless. we are confident of a near-term bounce as its stochastics are also oversold, coupled with the bear trap price action. Furthermore, the retracement has fallen to the 61.8% Fibonacci retracement zone, adding another confluence factor to a potential rebound.

Is Bitcoin A Buy, Sell, Or Hold?

Bitcoin is a Buy. But, we have cut our price target (PT) to below $46K to reflect the bull trap in April. More cautious investors can consider waiting for a re-test of the current levels before adding exposure.

The Nov 2021 bull trap remains a crucial hindrance in re-rating Bitcoin's upward momentum as the gains from 2020 were "too fast, too furious." Therefore, Bitcoin could be in an extended digestion period before it could see a sustained bottom.

Therefore, we believe investors must implement stop-loss risk management if they decide to add exposure at the current levels. Our analysis of its potential ultimate bottom could be the "crypto ice age" level of $4k, which would have flushed out most of the 2020 gains. But, that level implies a potential downside of 87% from the current levels.

Consequently, we reiterate our Buy rating on Bitcoin, with a PT of $46K (implied upside of 55%).

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This article was written by

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I'm Jere Wang, the lead writer and founder of JR Research and Ultimate Growth Investing Marketplace service. Our team is committed to bringing more clarity to investors in their investment decisions.

Our marketplace service focuses on a price-action-based approach to growth and technology stocks, supported by fundamental analysis. In addition, our general SA site discusses stocks from various sectors and industries. 

Our discussion mainly focuses on a short- to medium-term thesis. While we hold stocks for the long-term, we also use appropriate opportunities to benefit from short- to medium-term swings, leveraging long (directionally bullish) or short (directionally bearish) set-ups. 

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Disclosure: I/we have a beneficial long position in the shares of BTC-USD either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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