A customer uses an ATM with Bitcoin in a kiosk in Barcelona, Spain on Tuesday, February 23, 2021.
Angel Garcia | Bloomberg | Getty Images
Bitcoin wiped out its profits and fell into negative territory on Thursday when it was revealed that the Treasury Department was launching its raids.
The world's largest digital currency recently traded 0.7% below USD 39,000. At the start of the session, Bitcoin rebounded 9% above $ 42,000, according to Coin Metrics.
Bitcoin turned red after Treasury announced it was taking steps to combat cryptocurrency markets and transactions and that a transfer of $ 10,000 or more must be reported to the Internal Revenue Service.
Some of Bitcoin's newer alternatives also reduced profits after the headline. Ether last rose 3% after previously jumping 13%. Dogecoin, a meme-inspired crypto approached by Elon Musk, rose 7% after rising 17% to 42 cents after a tweet from the Tesla CEO.
At one point on Wednesday, Bitcoin fell 30% to nearly $ 30,000 before some of those losses were reduced. The entire crypto market lost hundreds of billions of dollars in value in a single day.
The decline was due to mixed signals from Musk, who believed in Bitcoin earlier this year, and a regulatory restriction on the market in China.
Last week, Musk said his electric car company stopped buying vehicles with Bitcoin due to environmental concerns. According to researchers from Cambridge University, mining the cryptocurrency consumes more energy than entire countries like Argentina and Ukraine.
Earlier this week, Musk suggested that Tesla might have sold its Bitcoin holdings, only to later clarify that it "hadn't sold Bitcoin". On Wednesday, he tweeted the "Diamond Hands" emoji, which meant the electric vehicle maker would not lose any of its Bitcoin.
Also detrimental to Bitcoin price on Wednesday was news that China had banned financial institutions and payment companies from providing cryptocurrency-related services, and reaffirmed its tough stance on digital currencies.
"If you look at the history of bull markets, a correction of that size between 30 and 40% in Bitcoin price tends to be part of the bull market," said Alyse Killeen, founder and managing partner of Bitcoin-focused venture capital firm Stillmark Capital, told CNBC Wednesday.
Institutional investors jump ship?
Bitcoin investors say the cryptocurrency has become a kind of "digital gold" that offers protection against inflation as central banks around the world print money to ease the economic blow of the coronavirus crisis. They say this has resulted in increased buying by institutional and corporate investors.
However, in a notice to clients this week, JPMorgan analysts said that institutional investors are ditching Bitcoin in favor of gold, reversing the trend that has evolved over the past two quarters.
"I've talked to friends in the institutional bitcoin buying and holding sector … and what I've heard from them is that people don't sell," Killeen said.
"What you saw was newer buyers dropping out and long-term owners piling up or crowding,"And that's what we've seen in the past with these more significant declines in bull markets," she added.
Hodling is a slang used by crypto investors that encourages people to "hold on for life" in times of a market downturn rather than sell their assets.
Additionally, there have been signs of foam in the crypto market lately. Based on the 2013 meme "Doge", Dogecoin saw a formidable rally earlier this year, fueled by supportive comments from Musk and other celebrities like Mark Cuban and Gene Simmons.
Cryptoskeptics would argue that all digital assets are in a speculative bubble. In a closely watched survey of fund managers, Bank of America found that "Long Bitcoin" was the busiest trade. According to the company, 75% of fund managers said the cryptocurrency is in the bubble area.
– CNBC's Yun Li contributed to the coverage.
Disclosure: Mark Cuban is a panelist on Shark Tank. CNBC owns the exclusive off-network cable rights to the show.