Are Cryptocurrencies Exposed to Traditional Factor Risks? – QuantPedia

Are Cryptocurrencies Exposed to Traditional Factor Risks?

Cryptocurrencies are attracting a lot consideration, even turning into a precedence for a lot of high-net-worth buyers. The introduction of the brand new spot Bitcoin ETFs simplifies entry to this asset class, and as cryptos are included in increasingly more portfolios, business practitioners search for fashions that may assist assess how huge a portion of purchasers’ portfolios allocate to this new asset class. Factor threat fashions are an business commonplace for understanding different fundamental asset courses, and authors of immediately’s introduced analysis. ,AkbariEkponon, and Guo, revised 2024) present helpful insights into which issue dangers can clarify the variation in cryptos returns.

Using time collection and cross-sectional strategies inside an environment friendly grouping framework, authors look at how key components (drawn from main asset courses) may drive cryptocurrency costs. They present that cryptocurrencies are uncovered to fluctuations in different main asset courses, plus they uncover intense publicity of the crypto market to conventional asset class pricing components (worth, dimension, and so on.), significantly from the inventory market.

We can positively shred the concept that crypto stands by itself, performing independently and in isolation from different monetary world automobiles. The crypto market is positively correlated with the inventory market, negatively correlated with the foreign money market, and positively correlated with commodity components. Study exhibits that cryptocurrencies with excessive inventory market publicity have larger returns within the time collection and cross-section.

As proven in Figures 2, 3, and 4, for many (threat) components, γf0 differs from zero. This is confirmed by their sturdy t-statistics metrics. They all reveal the existence of a risk-return relationship within the cross-sections. Figure 7 exhibits the general evolution of weights of Bitcoin, Ethereum, and the opposite altcoins inside the crypto market. Overall, these findings present the proof that well-known issue dangers can clarify crypto market returns and {that a} sturdy hyperlink exists between the crypto market and conventional asset courses.

Author: Gilda Akbari, Adelphe Ekponon,and Zihan Guo

Title: Are Cryptocurrencies Exposed to Factor Risk?



We present that cryptocurrency worth fluctuations are topic to present asset pricing components, opposite to what’s documented within the literature. Using knowledge from the 110 cryptocurrencies with the biggest market capitalization as of June 2021, we look at the pricing potential of 20 components belonging to 3 asset courses, ie, equities, currencies, and commodities. Our pricing train runs from July 2021 to May 2022, with knowledge from January 2019 to June 2021 used to acquire preliminary estimates of issue loadings. We base our assessments on the grouping methods proposed by Black, Jensen, and Scholes (1972}, which have been proven to considerably cut back the bias in issue loading estimates. We discover that cryptocurrency returns are extremely considerably associated to the inventory market, negatively correlated with foreign money components, and positively associated to commodity components. These outcomes present proof of a robust hyperlink between the cryptocurrency market and conventional asset courses.

And as all the time, we current a number of fascinating figures and tables:

Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia
Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia
Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia
Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia
Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia 7
Are Cryptocurrencies Exposed to Traditional Factor Risks? - QuantPedia

Notable quotations from the educational analysis paper:

“Bitcoin, the primary cryptocurrency, was launched within the aftermath of the 2009 credit score crunch. Bitcoin and altcoins (terminology used to consult with all different cryptocurrencies) are typically thought-about to be digital currencies which might be constructed on distributed ledger applied sciences resembling blockchain and are subsequently not regulated by a government. At its inception, bitcoin was supposed to be an alternative choice to fiat currencies. However, the excessive returns on this market could have attracted conventional buyers as properly, as cryptocurrencies provide new funding and diversification alternatives. After bitcoin, the variety of energetic cryptocurrencies worldwide reached 10,000 in early 2022, with a complete market capitalization of about $2 trillion, based on Whether cryptocurrencies are perceived as currencies by authorities and regulators, handled as securities by buyers, or used as utility tokens, it’s unclear how this new market will work together with present main asset courses. Nonetheless, curiosity in cryptocurrencies has grown steadily over time, not solely amongst enterprise customers, but additionally amongst particular person customers and authorities in lots of nations world wide. Governments have established regulatory sandboxes to teach customers or created high-level authorities job forces to review the know-how and regulatory implications.

Our evaluation begins with the usual cross-sectional asset pricing method (preliminary evaluation). We receive the common issue exposures of every of the 110 cryptocurrencies, chosen based mostly on their market capitalization in July 2021, through the use of the time collection regressions from September 2014 to June 2021.2 For every issue, we then regress the common cryptocurrency returns over the subsequent six. months, from July 2021 to December 2021, on the common issue exposures. All knowledge have a day by day frequency.

Our outcomes point out that market-wide fairness components, such because the Fama-French market MKT or the S&P500 index and the VIX, are constantly priced within the three strategies examined (preliminary evaluation, time collection, and cross-sectional assessments). These outcomes spotlight a robust hyperlink between the cryptocurrency and the inventory markets. We additionally discover that cryptocurrency returns have a destructive relationship with the overseas trade market and a constructive relationship with the commodity market over time. These outcomes recommend that it’s significantly dangerous to put money into particular person cryptocurrencies.
We discover that prime publicity is related to larger returns on common within the cross-section, in line with asset pricing concept. Thus, our outcomes present proof that the dangers within the cryptocurrency market will be mitigated by investing within the cross-section. In specific, cryptocurrencies with higher time-series publicity to the inventory market are more likely to expertise larger returns. Currency components (expressed in overseas foreign money items per US greenback) are negatively correlated with the cryptomarket. Therefore, cryptocurrencies that carry out properly when the US greenback depreciates have larger returns. The relationship is powerful with the trade-weighted US greenback index, the Canadian greenback, the Chinese renminbi, and the Mexican peso. Finally, our estimates recommend that larger publicity to the Bloomberg Commodity Index (BCOM) and its power, industrial metals and silver sub-indices usually tend to have larger cross-sectional returns.

Our asset pricing strategy is examined in an economic system the place a number of different asset courses exist already, every with not less than one pricing issue. The asset courses thought-about are shares, currencies, and commodities. We assume that buyers have completely different incentives to commerce cryptoassets. Some could have a few of their belongings invested within the inventory market or hedge a few of their belongings by shopping for treasured metals, whereas others could maintain money or be inclined to transact in cryptocurrencies. Investors have not less than two incentives to grasp how conventional market components work together with the crypto market. First, understanding particular person cryptocurrency returns remains to be puzzling, and second, this new market has larger returns but additionally a better degree of threat. Because estimation errors can undermine the validity of our outcomes, we use the grouping method described in part 3.
Our outcomes present novel insights into the components that worth cryptocurrencies and are the primary to doc a robust hyperlink between the cryptocurrency market and conventional asset courses, significantly the inventory market. We begin with single-factor fashions to look at the pricing potential of some distinguished components, each in time collection and cross-section. We kind teams as described in Black, Jensen and Scholes (1972).”

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