Volatility is nothing new for cryptocurrencies. Because of this higher volatility, many people prefer and many others avoid investing in cryptocurrencies. But the extent of this volatility is often underrated.
For instance, bitcoin, the poster boy of cryptocurrencies, was trading at an average rate of Rs.744,789 on September 4, 2020. A few months later, on April 16th, 2021, the same bitcoin was trading at Rs. 4,482,927 – up by over 1000%.
But the volatility doesn’t go only one way. Bitcoin is now trading at around Rs.1,360,000 as of November 18th, 2022. This volatility makes many question the practicality of crypto investments, while others believe the volatility makes cryptocurrencies a tricky yet good investment opportunity.
But can this volatility cause cryptocurrencies to have negative values? If yes, what are the consequences of a negative cryptocurrency?
To understand if crypto can go negative, we must first understand two things – how cryptos are priced and how they are traded.
How are cryptocurrencies priced?
Cryptocurrencies are not backed by centralized government regulations, unlike government-issued fiat currencies and other forms of officially recognized money. Since highly regularized, the value of fiat money is agreed upon by different governments and central banks worldwide. Hence, it is impossible for fiat currencies to have a negative value.
But cryptocurrencies work differently.
Given their decentralized nature, the value of cryptocurrencies comes from things other than centralization. These factors include supply and demand, cost of production, competition, government regulations, etc.
The law of supply and demand is applicable in the case of cryptocurrencies. The concept that the link between supply and demand is what ultimately determines pricing is referred to as the law of supply and demand. When there is more supply of a product or service than there is demand for that product or service, prices will go down. If there is more demand than there is supply, then prices will go up. In the case of cryptos, the price will go up when more people try to buy a particular cryptocurrency. On the other hand, the price may drop if more people are trying to sell a particular cryptocurrency.
The cost of production of cryptos also affects the prices as well. (Cryptocurrency Mining is the process that generates new cryptocurrency tokens). Verifying the next block on the blockchain is an essential part of mining for cryptocurrencies and is done on a computer.
The decentralized network of miners makes it possible for cryptocurrencies to function as they do. In return for the work done by the miners, the protocol creates a reward in the form of cryptocurrency tokens on top of any fees that the parties involved in the exchange may owe to the miners. Mining is a costly affair. It requires a lot of computer power. The value of crypto has to be adjusted sometimes to remunerate miners to encourage them to keep mining.
The above two factors explain how the price of a cryptocurrency could go up or down. There is a chance for it to go even near zero when demand is thin and there is a supply overflow. But can it go below zero?
Let us see how cryptocurrencies are traded to find that out.
How Cryptocurrency is traded?
Cryptocurrency markets are decentralized. That means they are neither issued nor backed by a central authority such as a government. Instead, they are distributed among a group of interconnected computers.
Cryptocurrencies may be purchased and traded on exchanges and kept in different wallets. In this system, you can sell when there is a buyer. But unlike stocks, sometimes the exchanges or the wallet itself will buy and hold the stock to sell it when a buyer is ready.
Can crypto go negative?
So considering the above two factors, if a cryptocurrency has a negative value, it practically implies that you have to pay the buyer to be able to sell a crypto that you own. Such a situation is not practically possible because of two reasons –
- According to the supply and demand theory mentioned above, the price can decrease if the demand is low and/or supply is high. But the law makes it impossible for the value to go below zero, as selling is always associated with a price. Also, as said above, mining is often rewarded with tokens. Miners will continue to mine only if there is value in what they mine.
- According to how cryptocurrency is traded, it is virtually impossible to have its price below zero. For instance, if there is a negative cryptocurrency value, it means that the seller has to pay the buyer to sell their crypto.
In many ways, the value of cryptocurrency is comparable to the value of stocks. It is not possible for the value of the stock itself to go below zero. Only if the company goes bankrupt would it ever reach zero. If you purchased the stock and then the price went down, it is the only situation in which you may experience a negative outcome.
Similarly, if you buy a cryptocurrency whose value declines, you may have a negative outcome, but the value will not breach zero.
What happens if cryptocurrency’s value goes negative?
We have established above that it is impossible for cryptocurrency to go below zero. But will you owe money if it hypothetically does?
First of all, you could lose all the money you have invested in buying cryptocurrency. Secondly, you could be unable to sell the cryptocurrency you hold. Miners will stop mining since it is not rewarding anymore for them.
Do I owe money if crypto goes negative?
If the crypto value goes negative, it implies that you may have to pay the buyer to sell. But as long as you don’t sell, you won’t have to pay any money.
Can you lose more money than you invested in cryptocurrency?
While a negative cryptocurrency is unrealistic, there is a chance for you to lose more money than you have invested. This happens if you margin trade a cryptocurrency. The method of borrowing money, depositing cash to serve as collateral, and then engaging in transactions while utilizing the borrowed funds is referred to as margin trading.
If a cryptocurrency’s price drops beyond your predictions, you may breach the margin ratio of the exchange. That means you will end up having to add more money. If not, the exchange or wallet may sell your holdings to cover their cost.
A similar situation could happen if you try to short-sell as well. When you short an asset, you invest in a way that lets you make money if the asset’s value goes down. But if the value goes up, the loss can be virtually unlimited.
Conclusion
While it is impossible for a cryptocurrency’s value to go negative, there are plenty of ways to lose money.
Hence, it is important to keep a close eye on your crypto investments and only invest after thorough research to identify a good cryptocurrency project.
