Crypto Chaos, Not Contagion

Chart of the Week: Crypto Chaos, Not Contagion

November 21, 2022

The crypto chaos this past week has been deafening as FTX, the second-largest exchange, melted down and declared bankruptcy. FTX was led by Sam Bankman-Fried, an unlikely media star who made headlines just months ago by bailing out some failing crypto-related firms while bashing politicians and their suggestions that the crypto industry would benefit from regulatory oversight. The tables turned quickly for Bankman-Fried, FTX and his crypto-trading firm Alameda as well as a host of other crypto companies.

It sounds bad, but for investors who didn’t go overboard or simply ignored the crypto hype, the impact is minimal and self-contained. Cryptocurrencies do not pose the same systemic risk to the traditional banking or financial system as did, say, subprime mortgages in 2007. Less than 2% of the big banks’ “tier one capital” (core assets that fund business activities and are part of the calculation of their overall financial strength) is in cryptocurrencies.

We estimate that the total value of all cryptocurrencies is equal to just 2% of the U.S. stock market’s value. If all those coins went to zero overnight, it would be a bad day in the market, but nothing close to a financial disaster for a diversified investor.

As our chart this week comparing bitcoin (a proxy for the crypto market) to past market bubbles makes clear, bitcoin is a gamble, not an investment. It could be a home run. It could be a zero. It could be both depending on your timing!

But it’s a speculative asset class, at best, and you should size the position accordingly—which means don’t buy more of it than you are willing (and able) to lose. 

Crypto chaos, not contagion
Note: Chart shows weekly cumulative percentage gain in each asset or index’s price over the period indicated. Data as of November 2022. Sources: Morningstar, Bloomberg, Adviser.

Tip: Contagion or not, the FTX ordeal is high drama. Check out Senior Research Analyst Liz Laprade’s analysis for the ins and outs of how it went down.

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