Crypto booms and busts
Review the major crypto cycles from Mt. Gox to FTX, see how leverage and platform failures made the busts worse, and calculate liquidation and recovery maths.
What you will learn
- The main crypto boom-and-bust cycles and what triggered each bust
- How leverage creates liquidation cascades
- Why platform failures (counterparty risk) caused losses beyond price falls
- How to calculate the price move that liquidates a leveraged position and the gain needed to recover a deep drawdown
Explanation
Wallets, keys and stablecoin mechanics are explained in the Bitcoin and advanced crypto courses; this lesson looks at the history of the cycles.
The cycles
| Period | Boom | Bust and trigger |
|---|---|---|
| 2013–2015 | Bitcoin gains attention outside a small community. | Mt. Gox, then the largest bitcoin exchange, halts withdrawals and files for bankruptcy in early 2014; customers lose access to their coins. |
| 2017–2018 | An initial coin offering (ICO) boom: projects raise money by selling new tokens, often with only a "white paper". | Bitcoin falls more than 80% from its December 2017 high during 2018; many ICO tokens lose almost all value. |
| 2020–2022 | Low interest rates, retail trading apps, decentralised finance (DeFi) and NFTs (non-fungible tokens). | May 2022: the algorithmic stablecoin TerraUSD and its sister token LUNA collapse. Lenders such as Celsius (July 2022) and the exchange FTX (November 2022) go bankrupt. Bitcoin falls roughly three quarters from its November 2021 high. |
Each cycle had a new story (digital gold, a new way to fund start-ups, a new financial system), fast price rises that attracted new buyers, and borrowed money. Each bust revealed weaknesses that the boom had hidden.
Leverage and liquidation cascades
Crypto platforms often offer high leverage through perpetual futures (futures contracts without an expiry date). A liquidation is the forced closing of a leveraged position when the trader's margin is almost used up. When prices fall, liquidations create more selling, which pushes prices lower and triggers further liquidations: a cascade. Moves of 10–20% in hours have happened repeatedly this way.
A simple approximation: price move that wipes out the margin ≈ 1 ÷ leverage. In practice the platform liquidates earlier because of maintenance margin and fees.
Counterparty risk
Counterparty risk is the risk that the other side of an arrangement (here an exchange or lending platform) cannot or will not give your assets back. In 2022, many customers of Celsius and FTX lost access to their coins even if the coins' market price had not collapsed. Platforms promising high "yield" were lending customer coins to risky borrowers. Crypto deposits are not protected by bank deposit insurance. The EU's Markets in Crypto-Assets Regulation (MiCA) now sets licensing rules for providers; check the current rules and the provider's status, but no rule removes market risk.
Why recovery is not guaranteed
Bitcoin recovered after earlier busts, but that is a historical observation, not a promise. Many tokens from each boom never came back, and some projects disappeared completely. Looking only at the survivors creates survivorship bias.
Worked example
Hypothetical example: part 1, leverage. A trader puts €2,000 of margin into a position with 10× leverage. Fees, funding payments and maintenance margin are excluded.
- Position size: €2,000 × 10 = €20,000.
- Price move that equals the margin: €2,000 ÷ €20,000 = 10% (1 ÷ 10). A 10% fall wipes out the margin; the platform liquidates even earlier.
- With 5× leverage the same margin supports €10,000, and the wipe-out move is 1 ÷ 5 = 20%.
Part 2, a bust portfolio. An investor puts €1,000 into each of five tokens (€5,000 total). In a bust they fall 75%, 90%, 95%, 100% and 60%.
- Values: €250, €100, €50, €0 and €400. Total €800.
- Drawdown: €800 ÷ €5,000 − 1 = −84%.
- Gain needed to recover: €5,000 ÷ €800 − 1 = +525% (the portfolio must grow 6.25 times).
Common mistake
Practice activity
On paper: (1) A trader uses €5,000 margin at 20× leverage. What is the position size, and what price fall approximately wipes out the margin? (2) Repeat for 3× leverage. (3) A coin falls 77% from its high. What gain is needed to return to the high?
Show solution
(1) Position: €5,000 × 20 = €100,000. Wipe-out move: 1 ÷ 20 = 5%.
(2) Position: €5,000 × 3 = €15,000. Wipe-out move: 1 ÷ 3 ≈ 33.3%.
(3) Remaining value: 23% of the high. Needed gain: 1 ÷ 0.23 − 1 ≈ +335%.
Limitations: real liquidation levels depend on the platform's maintenance margin, fees and funding rates; prices can also gap through any level.
Key takeaways
- Crypto has gone through several boom-and-bust cycles, each with a new story, borrowed money and a sharp collapse.
- Leverage turns ordinary crypto volatility into forced selling and cascades.
- Platform failures caused losses even for investors who did not use leverage.
- Past recoveries of some coins do not mean every coin, or any coin, will recover.
Next step
In the next lesson you will bring all the episodes together and identify the common patterns of bubbles: leverage, narratives and crowds.
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