Understanding Cryptocurrency Price Factors

By now everyone is well aware of the incredible run that the cryptocurrency market has had this year, with bitcoin recently smashing past the $10,000 mark. Despite this however, the price journey of cryptocurrencies such as bitcoin is not simply just a vertical path upwards. The price of bitcoin experienced both major lows and highs, which were caused by a variety of factors. This article will take an in-depth look at how these factors can affect the price of bitcoin and other cryptocurrencies alike.

It is first important to make a clear distinction between the price and value of a cryptocurrency. The price of any cryptocurrency is simply the monetary cost of purchasing it, whereas the value of a cryptocurrency is its perceived benefits and usefulness. The price of a cryptocurrency is not tied to its value but instead, its perceived value. It is from this perception of value that many of the factors determining the price of a cryptocurrency usually operates.

Supply & Demand

Starting from the basics, the supply and demand of any cryptocurrency will undoubtedly influence its price. A cryptocurrency that has a lot of supply, but little demand will see very little price movement. Whereas, a cryptocurrency with a limited supply, but is very sought after will see significant price movement upwards. To some extent, this particular factor is the driving force of bitcoin’s upward trajectory. The circulating supply of bitcoin is approximately 16.7 million,this is relatively low compared to the sheer amount of bitcoin that buyers are demanding. Because of the higher levels of demand relative to its supply, the price of bitcoin increases to reflect this relationship.

Utility

Ultimately, many people will buy and sell a cryptocurrency based on its utility. In this context, utility simply means the usefulness of something. In general, the more useful a cryptocurrency is in solving a problem, the more likely that it will be bought, because a cryptocurrency that is seen as useful will also be perceived as being valuable. Take Ethereum for example, Ethereum is an open platform technology that allows developers to build and launch their very own decentralized applications (dapps).

Many people see the Ethereum project as being useful, because the project has produced some very interesting dapps that try and solve certain problems, such as TenX with cryptocurrency spending, or EtherTweet with a censorship resistant social media platform. This in turn presents Ethereum as being a much more valuable project, because not only does Ethereum make these dapps possible, but these dapps will require the purchasing of ETH (Ethereum’s cryptocurrency) to build them in the first place, causing an upward pressure in its price.

Utility is one of the most important factors to look for when deciding to invest in a cryptocurrency. If a cryptocurrency solves an issue i.e. it is extremely useful, but that is not reflected in its price, then that cryptocurrency is undervalued. This is a good indicator that, regardless of its undervalued price now, once the market begins to realize just how important the coin is, then it is likely that the cryptocurrency will see an eventual increase in its price.

Market Sentiment

Positive or negative market news can also be a deciding factor as to if a coin’s price moves up or down. The reason for this is that, depending on the market news, sentiment as to the perceived value of a coin can change. A good illustration of this point is Mt. Gox. For those that do not know, Mt. Gox was a bitcoin exchange that was based in Japan. Mt. Gox played an integral part of the bitcoin ecosystem, handling around 70% of all bitcoin transactions worldwide. However, following a security breach that resulted in about 850,000 bitcoins either being lost or stolen, Mt. Gox suspended trading and went into liquidation. During the tumultuous period face by Mt. Gox, bitcoin prices fell by 36%, reflecting negative market sentiment surrounding bitcoin at that time. In sum, the perceived value of bitcoin was negatively impacted as a direct result of the Mt. Gox incident.

Despite the sell-off that occurred during and following the aftermath of Mt. Gox, bitcoin was obviously able to recover. This scenario demonstrates the power of the utility factor. Despite the sell-off that bitcoin experienced, bitcoin’s utility remained the same. bitcoin still solved an important problem, it was a borderless payment system that could facilitate instantaneous transactions worldwide, at a very low cost. The market again gradually realized the usefulness of this, and subsequently bought back into bitcoin. The utility of a cryptocurrency has one of the most important long-term impacts on the price of a cryptocurrency. It will only be the cryptocurrencies that solve an important problem well that will remain competitive in the marketplace.

Mining Difficulty

For proof-of-work (PoW) blockchains such as bitcoin, the mining difficulty of a coin can have an effect on its price. In brief, mining difficulty is simply the measure of how difficult it is to find a hash value below a given target hash. A thorough explanation of proof-of-work and mining difficulty can be found here. Initially, a low mining difficulty indicates that a cryptocurrency is easy to mine, which means that it is easier to increase the supply of that cryptocurrency, which would place a down pressure on its price. However, increased mining difficulty means that it is harder to increase the supply of the cryptocurrency, which, when compared to rising demand, may cause an upward movement in the price of the cryptocurrency. This factor requires that you have technical knowledge of the cryptocurrency that you may choose to invest in, as it may play a vital role in its price movements in the future.  

In conclusion, these are just some of the core factors that can influence a cryptocurrency’s price movement. What is important to take away from this article, is that price movements are, to a considerable extent, tied to the perceived value of the coin in the marketplace. Any event that may occur, either good or bad, will affect the perceived value of a cryptocurrency, which will subsequently affect its price. This is an important principle that the cryptocurrency market largely currently operates on.

Featured image courtesy of Shutterstock.

Author:
Bisade Asolo is the co-founder of Mycryptopedia.com, a website dedicated to teaching everyone about cryptocurrency and blockchain. He believes that cryptocurrency and blockchain is revolutionary and can't wait to see how it will disrupt our lives. He also can't wait to buy his first Lambo and go to the moon!