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Is the Cryptocurrency Bear Market Over?

Is the Cryptocurrency Bear Market Over?
Written by publishing team

Even after showing signs of recovery in recent weeks, the price of two of the leading digital currencies, Bitcoin (CRYPTO: BTC)And Ethereum (CRYPTO: ETH)It has fallen nearly 30% since May. Meanwhile, trading volume for all cryptocurrencies fell more than 40% in June, reaching its lowest level in a year to date last month.

But be warned, even as the cryptocurrency appears to be building positive momentum once again, the fundamentals are still worrisome, and may worsen in the near future. As a result, Bitcoin, Ethereum and other cryptocurrencies face increased risks in the future.

Image source: Getty Images.

End of the Line for Cryptocurrency in China

For years, Chinese investors have been one of the biggest drivers of the cryptocurrency bull market. This is due to the strict controls of capital outflow imposed by the central government. In fact, citizens are only allowed to buy $50,000 worth of foreign currency each year, so transferring their hard-earned money abroad through cryptocurrency has become a no-brainer.

This inflated the value of some currencies due to limited supply. For example, suppose Chinese billionaire Chen wishes to transfer $48 million to the Cayman Islands via a cryptocurrency known as send-me-now (SMN). However, there are only 100 SMN coins available, so Chen must first raise the price of each coin to $480,000 to make it a one-time transaction. One can see how the price of cryptocurrencies can rise repeatedly and suddenly in this way.

But it seems that the Chinese government does not like this loophole. Recently, the ruling Communist Party banned financial institutions and corporate entities from doing business with cryptocurrency investors. In addition, provinces have begun to ban crypto-mining operations, citing environmental concerns (which we will get to later). It is difficult for any asset to rebound in price when its major buyers are barred from the market, and the recent volatility of Non-Foldable Tokens (NFTs) has only added fuel to the flames.

NFTs are not what they seem

The logic behind the NFT hype is simple: authentic physical art is expensive. NFTs are authentic digital art. Therefore, NFTs should also be expensive (a corollary: NFT coins go to the moon). Unfortunately, this is far from the case. Physical works of art are not only expensive, because the people who buy them are connoisseurs who love to drink red wine while watching their collections. Much of the demand in this world is also driven by tax evasion (ie tax reduction through legal means).

The setup works like this. Suppose a wealthy individual (HNWI) named Sarah buys a $5 million piece of art from an auction and ships it directly to a free port – a designated economic zone where customs duties and taxes do not apply until an asset leaves the area – to legally evade sales tax. Five years later, the artwork is estimated to be worth $25 million. Sarah then hires an appraiser, who usually has a financial incentive to inflate the value of the piece, to certify the painting. She then donates it to a nonprofit organization and can claim the full market value of the piece upon certification ($25 million) as a deduction from her income, usually over a few years. Because the wealthy do this, the value of a work of art can be greatly inflated.

But the demand is not repeatable when it comes to NFTs. First of all, most nonprofits do not even accept cryptocurrencies. Furthermore, there is much confusion regarding the classification of NFTs. Let’s say the Internal Revenue Service determines Sarah’s NFT collected instead of Intangible capital assets, then hard luck. In that case, she can only discount it cost basis ($5 million) for her donation—resulting in a redundant deal. Until there is more clarity on how they are classified under tax law, there is little intrinsic value to NFTs based on the Ethereum blockchain. On a side note, it might be in Uncle Sam’s best interest to stay that way.

Meanwhile, its usefulness to digital art collectors is very controversial. Buyers get exclusive rights to an item but often at a very high price for something one can find online (for example, a video from a professional basketball player). As a result, the market is unlikely to attract significant capital from investors in the long run. Regulations haven’t aligned with other potential uses as in real estate, so while NFTs are an innovative way to store something like a land title, the practice needs greater industrial and regulatory approval before taking off.

Amazing Environmental Concerns

Back in Bitcoin, the energy cost of mining is out of control. As the Bitcoin reward continues to halve, miners need to keep upgrading their hardware to remain profitable. For example, the latest bitcoin miner, the Antminer S19, uses 3250 watts of power, the equivalent of a central air conditioning system. At current currency and energy rates, miners typically spend around $2000 on their electricity bills annually, per machine. Bitcoin mining now consumes 0.55% of global electricity production, which is simply not sustainable. To put it in perspective, a single Bitcoin transaction consumes the same amount of energy as 1.2 million Visa Card transactions.

Bitcoin and Ethereum are two of the biggest flag bearers of the cryptocurrency market in general, and as of this writing, they have serious unaddressed facilities and network issues. Investors should understand that prices will continue to be highly volatile as well. For these reasons, I believe that the crypto bear market is far from over.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of the Motley Fool Premium Consulting Service. We are diverse! Asking about an investment thesis — even if it’s our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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