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- Bitcoin isn’t a ‘unique’ hedge as it’s vulnerable to the same market risks as conventional investments, according to a new study.
- It becomes more exposed to factors such as inflation expectations when its price is less volatile, the researcher found.
- The findings are a “cautionary note” for investors, writes author Dimitrios Koutmos, as they suggest bitcoin isn’t “a unique asset class whose price behavior is detached from economic fundamentals.”
- Watch bitcoin trade live.
An escalating US-China trade war, the slowing Chinese economy, and a prolonged Brexit process have fueled anxiety in financial markets, boosting investors’ interest in bitcoin as a hedge against volatility.
However, new research suggests the cryptocurrency may have limited value as a hedge as it’s vulnerable to the same factors that move the prices of stocks and other mainstream investments. While it escapes some of those drivers when its price is especially volatile, the increased risk may outweigh the greater returns.
“Bitcoin prices, despite their seemingly attractive independent behavior relative to economic variables, may still be exposed to the same types of market risks which afflict the performance of conventional financial assets,” wrote Dimitrios Koutmos, an assistant professor of finance and technology at Worcester Polytechnic Institute in Massachusetts, in a study titled “Market risk and bitcoin returns” published online in the Annals of Operations Research this month.
Koutmos used treasury bill rates, the VIX and Deutsche Bank FX volatility indexes, treasury yields, forward inflation swap rates, equity indexes, and the difference between corporate bond yields and treasury yields as proxies for short-term interest rates, market-volatility expectations, and other factors that affect traditional financial assets. He examined their influence on daily bitcoin prices between January 2013 and September 2017.
His key finding was that several of these factors were “important determinants of bitcoin returns.” Specifically, short-term interest rates and investors’ expectations of stock-market and foreign-exchange volatility were significant determinants of the price of bitcoin during periods when it rose or fell sharply. Those three factors, along with general economic conditions and inflation expectations, influenced the price of bitcoin when the cryptocurrency was less volatile, according to the study.
The findings serve as a “cautionary note” for investors, Koutmos wrote, as they suggest bitcoin isn’t “a unique asset class whose price behavior is detached from economic fundamentals.”
They also indicate “bitcoin’s usefulness as a diversification instrument is time-dependent,” given the cryptocurrency was more susceptible to factors such as inflation expectations during periods when its price was less volatile.
If bitcoin truly is a better hedge when its price is moving around, investors who bought into bitcoin’s price surge this month as a hedge against the sharp downturn in stocks might be feeling pretty smug. However, Koutmos also found that bitcoin’s superior returns during periods of high volatility weren’t high enough to offset the increased risk, meaning its returns during low-volatility periods were higher on a risk-adjusted basis.