:max_bytes(150000):strip_icc()/GettyImages-2200189179-8456d1da21044105af0e7b60e45e2bf5.jpg "How To Manage Crypto Volatility")
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Key Takeaways
- Crypto’s volatility comes from limited liquidity, speculation, and market sentiment.
- Volatility creates both opportunity and risk for investors.
- Emotional reactions often cause greater losses than price movement itself.
- A plan and perspective are essential to long-term success in crypto investing.
Volatility is both a blessing and a curse for the investment world. Those making frequent transactions—day or options traders, say—may view volatility as a necessary tool to be able to achieve a profit. Those seeking out short-term liquidity may fear the potential for loss associated with volatile periods. The first decade and a half of the cryptocurrency space have often taken traditional definitions of volatility and magnified them, enhancing both the risks and the potential benefits of this phenomenon.
The newness of crypto and the vast and rapidly changing field of tokens contribute to volatility, as do shifts in supply and demand dynamics over time, massive speculation, a deeply engaged investor base with a potent sense of fear of missing out (FOMO), and aspects of the structure of the crypto market itself. Though this volatility can be unsettling, we’ll explore below ways crypto investors can stay steady—both financially and emotionally—through those swings.
What Volatility Means in the Crypto Market
Volatility in the crypto space is often defined similarly to the world of traditional finance and refers to the degree of variation of a series of trading prices of an asset over time. However, cryptocurrencies often experience significant price fluctuations—10% or more in a single day, in many cases, relative to traditional securities.
Why Crypto Is So Volatile
A host of structural factors contribute to cryptocurrency’s volatility. Supply and demand are one of the biggest. Bill Shafransky, MBA, CFP, RCIP, senior wealth advisor for Moneco Advisors, noted that the crypto world is “very much a market of buyers and sellers bidding up and down the price,” contributing to volatility through speculation. Without a “company balance sheet or earnings report to reference, it really is about supply and demand.” This is a reason why external events like a government shutdown, a dollar devaluation, or a popular personality in the crypto world talking up a particular coin can contribute to a rally.
Liquidity plays a significant role in crypto volatility. With crypto markets open 24/7, and with execution based on technology rather than a third party, liquidity can be unpredictable. The result may be quick changes in a cryptocurrency’s price.
Investors commonly use leverage in cryptocurrency transactions, leading to magnified gains and losses. In turn, price movements up or down can trigger a chain reaction of investor moves and a greater cumulative price shift.
Other elements contributing to cryptocurrency volatility include external factors such as regulation—or the lack thereof—and the impact of regulatory uncertainty on investor behavior, rapid changes in sentiment across the world of crypto investors, and influence by the media.
Fast Fact
Even Bitcoin, the best-known cryptocurrency, has experienced several downward corrections of 50% or more, including in 2013, 2018, 2020, and 2021.
How Volatility Affects Investors
Volatility may affect cryptocurrency investors in a host of ways. Rapid price swings can produce significant emotional stress, which may lead investors to succumb to behavioral traps like panic selling and FOMO. Volatility can also leave investors subject to any of a number of crypto scams.
Because cryptocurrencies do not come with the same legal protections as traditional assets, there is a significant degree of portfolio risk associated with crypto as an investment. This danger tends to increase as the allocation of crypto within a portfolio goes up, and it may also be highest for investments in cryptocurrencies with smaller market caps. However, the size of a cryptocurrency is no guarantee that it will avoid the largest price swings. Take XRP, the fifth-largest crypto by market cap, with a total value of $150 billion. Between Nov. 24 and Dec. 8, 2024, a span of about a week, the price of XRP nearly doubled.
Tip
Position sizing, stop-loss orders, diversification, and dollar-cost averaging can all help to avoid a knee-jerk emotional response to crypto volatility.
Strategies for Staying Grounded
Shafransky noted that sudden price moves in the crypto market are “a good reason to not put all your eggs in one basket, as the price can turn on a dime and drop considerably.” Regardless of the allocation you determine for your crypto holdings, Shafranksy suggested that “you have to make peace with the fact that this investment is going to whip around in value and potentially even halve. Just like buying stocks, remember to stay the course.”
Staying grounded in the face of volatility may be easier said than done, though, and portfolio diversification is perhaps even more important in the crypto sphere than in traditional investing. Investors should ensure they maintain a well-diversified pool of crypto assets—and that their cryptocurrency holdings represent a thoughtfully-sized portion of a larger, diversified investment portfolio as well.
To avoid a sudden reaction to major price swings, consider a tried-and-true investment technique such as position sizing or dollar-cost averaging. Both of these strategies aim to pre-determine investment decisions based on risk tolerance and other factors, removing the emotional component of transacting.
Stop-loss orders are available through many cryptocurrency exchanges and can minimize downside risk during those cases in which volatility swings toward losses.
The Importance of Time Horizon and Risk Tolerance
Crypto volatility is not necessarily a bad thing, just a reality of the industry that must be approached carefully. Mike Casey, CFP, president of AEAdvisors, LLC, suggested that Bitcoin has a unique structural property compared to some other crypto tokens, thanks to its fixed supply. He said that “other coins will have gains and losses in price,” but Bitcoin’s “fixed supply of only 21 million coins…makes it an excellent store of value for long-term holders.” Investors taking a long enough view of their Bitcoin investment should not be deterred by short-term fluctuations, which Casey said are “insignificant” relative to broader gains.
Crypto investors should self-assess regularly to determine their goals. Short-term traders will make different decisions about crypto purchases and sells than long-term holders. Your approach will depend upon your own appetite for risk, capital for investment, interest in the space, and investment goals.
Important
Maintaining a HODL approach may help crypto investors to look past short-term volatility.
Why Is Crypto So Much More Volatile Than Stocks or Bonds?
Cryptocurrencies can be much more volatile than other types of assets because of their unique trading ecosystem, including 24-hour access and a lack of regulation, as well as their speculative nature, the developing and crowded industry, and rapid changes in market sentiment, among other factors.
Does Volatility Mean Crypto Is Too Risky To Invest In?
Volatility is an inherent part of nearly every investment, and crypto is no exception. The key is to take a thoughtful approach and to remain level-headed when price swings take place. Investor strategies for weathering a storm of volatility will depend upon risk tolerance, portfolio allocation, time horizon, and many other considerations.
Can Diversification Actually Reduce Crypto Volatility?
While diversification may not be able to impact the price swings of a cryptocurrency, it can help investors to protect their holdings in the face of downturns. Though much of the crypto market tends to move in tandem, distributing a crypto portfolio across a variety of big names, up-and-coming tokens, stablecoins, and other categories of digital assets can help to reduce risk. Perhaps even more importantly, ensuring that crypto holdings are just part of a well-balanced overall investment portfolio is key for many investors.
The Bottom Line
Volatility is part of crypto’s DNA—and learning to manage it can make investors stronger, not just wealthier. The goal isn’t to predict every wave, but to ride them with understanding and discipline. Maintaining a level-headed approach through techniques and tools such as dollar-cost averaging, position sizing, diversification, and stop-loss orders can help investors keep their eye on long-term goals when a cryptocurrency experiences short-term instability.
