40% plunge in the cryptocurrency’s price is ‘nearly certain’
There’s a greater-than-80% chance that bitcoin will soon crash.
To be sure, mine is not the first column to suggest that a bitcoin BTCUSD, +2.30% crash is imminent, especially this week as bitcoin flirts with the $10,000 level. But you may not realize just how high the probability of a crash has become.
The reason I am able to estimate a crash’s probability is a recent study of what has happened on prior occasions when an asset’s price has skyrocketed. Bitcoin’s extraordinary price run-up far exceeds the threshold for when a crash becomes nearly certain.
This study, entitled “Bubbles for Fama,” was published earlier this year by the National Bureau of Economic Research. Its authors were Robin Greenwood, a finance and banking professor at Harvard Business School and chair of its Behavioral Finance and Financial Stability project; Andrei Shleifer, an economics professor at Harvard University, and Yang You, a Ph.D. candidate at that institution.
The researchers defined a bubble as a sharp price run-up over a two-year followed by at least a 40% drop over the subsequent two years. When the price run-up is 100% or more, they found the probability of a crash becomes 50%. When focusing on price run-ups of at least 150%, that probability becomes 80%. As price run-ups become even bigger, a crash becomes “nearly certain.” (See chart.)
To put those thresholds in context, consider that bitcoin’s runup over the last two years is nearly 2,500%. That’s more than 10 times greater than the threshold the researchers found was associated with a “near certain” subsequent crash.
To be sure, the authors focused on the stock market in their study, not crypto-currencies. But I nevertheless am confident that their conclusions apply to bitcoin too, since they analyzed nearly a century’s worth of historical data, both in the U.S. and in foreign stock markets as well, and found broadly similar conclusions regardless of the time period or the country.
