During the chaos in the financial market, analysts introduced the term capitulation. In the crypto space, this term is usually used when the bull characters in the market surrender defeat during intense selling periods and become bears.
Capitulation in the crypto market leaves traders fearing losing all their assets and facing a significant loss in an infinite downtrend spiral.
Usually, market capitulation occurs in the crypto market during times of high uncertainty and volatility when traders start losing confidence. However, it is also the period that may provide them with great opportunities.
This comprehensive guide article will explain the concept of crypto market capitulation and its importance for investors in the crypto space.
What is Crypto Market Capitulation?
The literal meaning of the word capitulation is to give up or surrender, used in the military context in the real world. However, in the economic context, it is used when the traders have to give up their existing positions in the market due to the market downfall and protect themselves from any further loss.
Capitulation is a situation of panic in the market where the traders are left with no other option than to liquidate their holdings, creating extremely high selling pressure in the market. Capitulation may occur at the individual level, where the holder of any crypto asset may suffer or at the market level, leading to the market’s downfall.
To understand the concept of crypto market capitulation, let us consider a situation where the price of a crypto asset moves towards a 30% downfall in just one day.
The trader owning the asset now has only two options left with him that he might hold them and wait for the prices to rise again or sell them immediately in the market to save himself from further loss.
However, if a majority of the investors decide to sell their assets in such situations to calculate the losses, it might result in a sharp decline in the prices of that asset. Moreover, this increased selling pressure might create a bottom line for prices as the bear characters in the market may fall short of coins to sell their assets.
Market capitulation is not normal; therefore, traders might find it challenging to identify and predict it beforehand. However, there are specific repeated signals that can signify the occurrence of this process and help the traders take some precautionary measures.
Some of the distinct features of crypto market capitulation are mentioned below.
- A sudden crash in market prices
- Trading volumes increase
- Traders start selling all assets
- Highly volatile environment
- The number of prominent market holders drops rapidly
- The market fundamentals move in negative aspects
Most of these signs were witnessed when a crypto exchange named FTX faced market capitulation in November 2022, and its native token, FTX token collapsed suddenly.
The volatility of those cryptocurrencies having significantly less liquidity and capital in the market will always decrease during market capitulation. However, conditions of market capitulation don’t need to prove harmful for the traders constantly.
As the prices of the assets decrease to the bottom surface, it may also increase the chances of earning profit for the traders. In the past eight years, the crypto market had experienced multiple times when Ether and Bitcoin went through market capitulations.
In addition, the trade volumes also increased, and prices reached the minimum values as in the market crash of 2020.
Capitulation usually occurs at the end of a market cycle when the investors give up their patience and exit their market position without further thinking about any other aspect. However, the end of the capitulation point may also create fascinating buying opportunities for the traders. It may provide different bargaining opportunities.
However, the end is difficult to predict to earn profit from the opportunity; therefore, the traders rely on past experiences and specific other indicators in the market to get an idea about the market pattern.
How To Spot Capitulation Point?
There is no accurate indicator used by market experts to identify capitulation. However, they can take the help of different indicators to predict the upcoming situation. Some of these measures may include market volatility, trading volume, market momentum, sentiments of traders, and other economic indicators.
Moreover, in these indicators, there is no definite point that can predict that market capitulation occurred in the past; they only describe a range where it happened. Therefore, analysts find it difficult to conclude. In addition, traders must understand the data they get from the past to get any indication about the upcoming market conditions.
However, this trend is not followed by a bear market usually. The time and severity of market capitulation are different for it. Throughout history, the world has witnessed multiple market capitulation phenomena during The Great Depression and World War 2, where it took years for the financial situation to return to normal.
Identification of Crypto Market Capitulation Through Technical Analysis
The prices of different assets and securities are usually affected by sudden market capitulation in the crypto space. There are several tools that have been used by analysts in the past to identify crypto market capitulation. One of them is candlestick charts.
A pattern called a hammer candle is formed in the graph. When the price decreases below the opening level in the market during the trading session, such a pattern can be seen. When this pattern is accompanied by high-volume trades, it signifies that the downfall in the market has reached the apex.
Moreover, another candle pattern is known as the shooting star candle, where the prices start to recover but suddenly reverse back and close near the opening position in the market.
Significance of Crypto Market Capitulation
Expert investors and traders consider the occurrence of the crypto market capitulation as a sign that the price bottom of an asset will occur.
This encourages them to gather more and more during the period of market downfall, which helps in the absorbance of pressure on the side of the sellers. In addition, it also keeps a base for creating a bull market again when the trend reverses.
Moreover, the sellers that appear in the market for a relatively short period are also eliminated by crypto market capitulation. This helps transfer the market potential towards the participants that tend to contribute to the market mechanism for a longer term. This is because all the traders sold their assets during that time.
When Bitcoin increases consistently in price, the phenomenon of crypto market capitulation can be seen more distinctly. It happened because the supply of Bitcoin was held for six months or more. According to research, these coins cannot be spent generally on any day.
However, during the crypto market capitulation, it becomes challenging to predict the timing of the market bottom. This is because this process might take several months, if not years, as expected by the traders in the case of Bitcoin for 2014-16.
Moreover, traders use several indicators and metrics in addition to the data in the past and market bottoms in history to calculate the current crypto market capitulation.
Research on Market Capitulation in Past
Deducing the results from research carried out in the past 30 years, there are specific indicators that were considered.
- Sentiment Indicators
These indicators are important as sentiments are essential during crypto market capitulation. The American Association of Individual Investors carries out a survey every week comprising investors in the United States.
It compares the number of bulls, that is, the traders who think the market will follow an upward trend and the bears who think the market will collapse.
However, the number of bears comes out to be more in the market than bears at the capitulation point. This means that market has a poor sentiment at this point. Moreover, during the worldwide financial crisis, the survey found that the number of bears recorded was more than ever recorded in history.
- Technical Indicators
One can get an approximate proportion of share prices that are increasing by examining the ratio of equities traded above the 200-day moving average on the New York Stock Exchange. According to the research results, market width at capitulation points is usually low.
- Economic Indicators
Economic indicators also do not provide any precise prediction about market capitulation, similar to sentiment and technical indicators. These indicators are also affected by the fiscal and monetary policies designed by the governing bodies and currently by the pandemic.
However, a survey conducted by the Institute of Supply Management Manufacturing proved to be a powerful indicator. It revealed that whenever purchasing managers get pessimistic about their trading activities, the market tends to rebound.
- Valuation Indicators
These indicators are relatively more costly than the others in the market in case the market collapses and become less expensive during the uptrend in the market.
In history, the range over which the low points in the market have occurred is relatively more comprehensive. However, at present, the ratio calculated between prices and exchange is cheaper for the US Stock market than in history.
Capitulation in Stocks
When the prices of different assets fall suddenly and rapidly in the crypto market, all traders react to it in a different manner. However, when the situation does not get better, the traders then collectively decide that they should exit a position. Thus, a significant percentage of market investors give up in front of declining prices.
However, this situation creates a chain reaction where a wave of fear runs among the everyday traders, and they also end up selling their assets.
The phenomenon of capitulation has usually been observed during a stock market crash or financial crisis. However, every commodity in the market is affected, and the traders fear their trading profiles crashing.
On the other hand, there exist a few participants in the market who do not panic and create different opportunities to earn. They implement the “buy the dip” formula in the market and decrease the margins. They maintain their bullish character and make further plans to earn profit in the long term.
Crypto capitulation is the same as the financial crisis in traditional markets. As a large proportion of traders exit a position simultaneously, the crypto market capitulation triggers, thus leading to overreaction and panic, thus making the prices hit bottom.
Impacts of Crypto Market Capitulation
Crypto market capitulation may cause traders to liquidate their crypto holdings to calculate the losses they have suffered. However, the liquidity stress in the global market causes a drag over all the cryptocurrencies as well. Some of the impacts caused by crypto market capitulation on different platforms are discussed below.
- Fear Among Traders
As the panic hits the crypto markets, the traders witness their hard-earned money getting out of hand. Bitcoin and altcoins wipe out of the market in a few days.
This creates bitter sentiments among the investors creating a wave of fear in the market that might end in chaos. The Fear and Greed Index also reaches its lowest point, thus lowering the confidence among traders.
- Exchanges Stumble Under Pressure
As the trade volume and volatility peak during crypto market capitulation, different crypto exchanges strive to cope with these factors.
In addition, the increased values may also give birth to various technical issues that will add to the miseries of the traders. In addition, overloads, outages, and downtimes are some other issues that might be faced by crypto exchanges.
As the exchanges are not ready to handle this liquidation, it might increase the chaos in the market. Moreover, the market liquidity decreased due to increased volatility and outages in exchanges. It also creates congestion issues in the network, thus making it difficult to carry out transactions.
- Open Interest Wiped Out
Many traders are usually unprepared to tackle the crypto market capitulation suddenly, followed by a bull market. This triggers the liquidity flow among the prominent exchanges.
During this period, analysts have observed that during a bear market, open interests and volumes combine and create a situation where prices start to decline in the market.
As the traders are already expecting lower prices, this indicates short positions for them in the market.
- Lack of Buying Affects Funding Rates
By keeping in view the downfall of the market, the traders are triggered to participate in this trend by flooding the market with sell orders and decreasing the buying interest in the market. As the short interest rates increase in the market, this drives the funds earned through swap contracts on the negative side of the graph.
In these conditions, the traders have to pay for long positions, despite holding shorter ones in the market. There have been records where the funding rates have hiked to about seven times their initial places due to highly volatile conditions.
- Record-Breaking Volumes On Different Exchanges
As the traders found different earning opportunities in such market conditions and tried to increase their capital, this resulted in enormous trading volumes on various exchanges. Therefore, due to the increased participation of the traders, they become more familiar with the derivative markets, thus creating more opportunities to earn profit.
Moreover, short-term and long-term traders can also buy different crypto assets at discounted rates through the opportunities created by the sell-off.
- Losses in Insurance Funds
As the crypto market liquidity increases rapidly during crypto market capitulation, the losses faced by the users have to be compensated by using insurance funds through different platforms. To protect the customers from any further losses, the insurance funds provide a hedge against the risks and positions present in the market.
The end purpose of insurance funds is to provide safety to the traders so that the ones who have found earning opportunities are paid fully, and the ones who have gone bankrupt may not further decline financially. Therefore, investors should use them as a protective measure whenever needed.
What Comes After Market Capitulation?
After exiting their market positions and selling all their assets, the significant investors look forward to the end of this downfall, hoping for better days ahead. However, as no one can predict the beginning of the crypto market capitulation, in the same way, it is difficult to predict its end.
This decline in market prices will be followed by the recovery of stock prices real soon. Therefore, the traders who have sold their assets at lower points can now get them back when situations get better.
Moreover, if someone is selling his assets at lower prices, another market trader can get the benefit of the problem by buying them at a lower price and then adding it to his trade portfolio later.
Crypto market capitulation occurs when the market volatility and liquidity reach extreme values. It is a period where the investors lose confidence in the market and give up liquidating all their assets to refrain from further loss during a continuous market decline.
However, at the end of the crypto market capitulation, the traders may be offered different buying opportunities as the traders have already sold all the assets they wanted to sell.