In this piece, we outline the key lessons from the retail crypto crisis of 2022 drawing parallels to the dot com bubble of the beginning of the millenium. Around November 2021, the total market cap for cryptocurrencies was valued at $3 trillion. By the end of the crypto crisis of this summer, over $2 trillion dollars went up in algorithmic smoke. As of today, the Crypto market is still recovering, with a current valuation of $1.08 Trillion. A change of -51.12% from a year ago. According to the White House, around $600 Billion of investor and consumer funds where wiped out after the wave of insolvencies.

The collapse

In May 2022, one of the most prominent stablecoins in the market, Terra Luna, ended up tunneling over 99% of its value over the course of a few days, tallying a collective loss of over $60 billion.

As the price of Terra went into a freefall, the market started to collapse. Since stablecoins are intended to maintain a stable price, they end up acting like banks in the crypto industry. Many institutions used this stablecoin with the intention of safeguarding their money. Among those market players where Three Arrows Capital (3AC), a crypto hedge fund which used to manage around $10 billion. As the stablecoin started to liquidate, Three Arrows faced severe liquidity issues, and soon stopped answering to margin calls. By 8:29 am EDT time on July 12th, the founders of 3AC, Zhu Su and Kyle Davies, went missing, appearing to be on the run from creditors.

The death spiral of Terra led to the collapse of Three Arrows, which sent a shockwave throughout the entire crypto market. The $60 billion collapse of Terra, followed by the $10 billion hole left by Three Arrows, sent the entire crypto market scrambling.

Many crypto exchanges started facing liquidity issues, and from June to July, a wave came across the market, where various crypto exchanges halted withdrawals. Starting from June 12th, Celsius completely froze its customers assets, followed by Binance temporarily halting bitcoin withdrawals not even 24 hours later.

“This decision was driven by market conditions that have had a negative impact on our growth rate and a rigorous review of our strategic priorities,” — Zac Prince, BlockFi CEO

The Employees of the respective companies also hit hard. Starting from June 2nd, the crypto exchange laid off 10% of its staff. 8 days later, Crypto.com cut 5% of its staff, BlockFi cut 20% of its staff, Coinbase laid off 18% of their workers, Blockchain.com cut 25% of its workers. The list goes on.

Without minimizing the horrible crash and the affected customers and entrepreneurs, this isn’t the first time history has witnessed such a colossal crash.

History rhymes

Once the world wide web was launched in 1989, it took the world by storm. Entrepreneurs realized the potential for business the internet provided, and quickly started generating internet companies. It didn’t take long for a bubble to start forming, and within a decade, the bubble was about to burst. In 2000, the so called dot.com bubble burst.

The dot com bubble occurred as many companies got lost in the prospects of future wins, disregarding any actual cash flow or a solid business plan. Between 19995 and 2000, the Nasdaq Index rose five-fold. By October 4th, 2002, the index had fallen over 76.81%.

The crash occurred due to the speculation fever caused by the advent of the internet, and its unknown potential. At the time it was a brand new technology, and few knew how to accurately analyze it, and instead opted to invest into any given internet company for the fear of missing out.

Excessive hype perpetrated the market, and retail investors were encouraged by their peers to invest into the companies. As these startups where emerging in a high growing industry with manic optimism, they received their funding though venture capitalists.

In the following graph we compare the price history of two prominent figures in the market: Amazon, and Bitcoin.

Looking at the Price history of both companies and overlaying their graphs, we can see how the price trend of BTC resembles the former price of AMAZN during the dot-com crash. It also shows a general projection of where BTC’s price is headed.

After the crash, it became evident that a company doesn’t run on future profits alone. Investors started to look at the companies in a more fundamental manner, and greater due diligence was used to asses the companies.

Much of what happened both during and after the dot.com crash can be used to assess what’s going to happen in the future for the crypto market. History never repeats itself, but it definitely rhymes.

Market projections: What’s next?

It’s become clear that the crypto industry is headed into a new direction. After the meltdown of so many companies and all of the adverse effect it has had on the institutions in the industry, investors are now looking for further mechanisms to protect their investments and guarantee a return on investment.

The crypto industry is looking for a future where greater amounts of due diligence and traditional analysis of companies are taken into account. Investors will start focusing more on revenue generation, industry analysis, market trend analysis and P/E ratios. As we have seen in the past, we only learn geography after the earthquake.

Whenever a new industry, emerges, market participants generally don’t know how far it can go. Once the industry matures and starts taking some shape, rules start to be set up. We have seen the Open Internet Regulation (Regulation (EU) 2015/2120) be established in order to regulate data trafficking across the internet as an example. The crypto industry will not be exempt from regulation.

Once crypto becomes more mainstream, traditional regulators will start stepping in, and start adding rigid guidelines for the market. Some countries have banned cryptos altogether, and the countries that haven’t, are diligently assessing the market.

“We have no tolerance for any bad market behavior. If somebody has done a bad thing, we are brutal and unrelentingly hard.” — Sopnendu Mohanty, Chief Fintech Officer at the Monetary Authority of Singapore.

Singapore isn’t the only country increasing vigilance on the market. On September 16th, 2022, the White House released a statement declaring an extensive framework for digital assets. It elaborates on the various ways the US is going to intervene in the market, and also further steps taken to stabilize the market.

The framework proposed an expansion in regulations tha adhere to US’ national interest. Regulators, such as the SEC and CFTO, will be encouraged to aggressively pursue unlawful practices in the digital asset sphere. AML and CFT frameworks will be set up throughout the country in order to prevent any financial crimes. Most notably, the hackers from the Lazarus Group have been affiliated with the Democratic People’s Republic of Korea.

The Biden administration also wants to address digital assets risks, in particular the risks around its price volatility. It also mentioned how the Terra stablecoin crash is in illustration for the potential danger of digital assets. A noteworthy development is the decision to develop a Central Bank Digital Currency (CBDC) — a digital form of the US dollar.

Looking ahead — and towards institutions

With all of the emerging changes in the crypto industry, the market needs a platform that keeps up with the innovations of today. The market is going through a transformation, where institutions are increasingly relying on solid infrastructure to manage their transactions. An integration of traditional finance and the innovations of decentralized finance will have to occur to bridge the gap between a nascent market and a mature one

Taking all market player into account, from lending desks, trading firms, financial institutions, prime brokers, corporate treasuries, and miners, we have created a venture for institutional lending and borrowing of digital assets.

Currently, the institutional short-term debt market for stablecoins and crypto assets is heavily underserved due to a lack of large-scale lending and borrowing infrastructure that reduces counterparty and DeFi protocol risks. — Michael Guzik, CEO at CLST

Institutions are looking to engage in short-term debt markets for the “New Money “, where cryptocurrencies and stablecoins can be used for collateralized and uncollateralized lending. This is where CLST comes in — we are bringing established, robust institutional practices and mechanisms into the digital asset era.

We created CLST to automate bilateral price negotiation and settlement for institutional lenders and borrowers with the aim to break silos in the New Money Market.

To request early access to CLST Markets, reach out to our team https://clst.com/

Written by Raul Rendon, CLST Analyst