Assessing the Risk Characteristics of the Cryptocurrency Market: A GARCH-EVT-Copula Approach

【Author】 Bruhn, Pascal; Ernst, Dietmar

【Source】JOURNAL OF RISK AND FINANCIAL MANAGEMENT

【影响因子】0.000

【Abstract】The cryptocurrency market offers significant investment opportunities but also entails higher risks as compared to other asset classes. This article aims to analyse the financial risk characteristics of individual cryptocurrencies and of a broad cryptocurrency market portfolio. We construct a portfolio comprising the 20 largest cryptocurrencies, which cover 82.1% of the total cryptocurrency market. The returns are examined for extreme tail risks by the application of Extreme Value Theory. We utilise the GARCH-EVT approach in combination with a novel algorithm to automatically determine the optimal threshold to model the tail distribution. Furthermore, we aggregate the individual market risks with a t-Student Copula to investigate possible diversification effects on a portfolio level. The empirical analysis indicates that all examined cryptocurrencies show high volatility in their price movements, whereby Bitcoin acts as the most stable cryptocurrency. All return distributions are heavy-tailed and subject to extreme tail risks. We find strong, positive intra-market correlations, in particular with the two largest cryptocurrencies Bitcoin and Ethereum. No diversification effect can be achieved by aggregating market risks. On the contrary, a negligibly lower expected return and higher joint extreme returns can be observed. From this analysis, it can be concluded that investments in individual cryptocurrencies as well as in a portfolio show extreme risks of losses. From the investor's point of view, a possible strategy of risk reduction through portfolio formation within cryptocurrencies is only promising to a limited extent and does not offer a satisfactory solution to significantly reduce the risk within this asset class.

【Keywords】cryptocurrencies; extreme value theory; GARCH; Copulas; cryptocurrency portfolio; GARCH-EVT; risk management

【发表时间】2022 AUG

【收录时间】2022-09-06

【文献类型】实证数据

【主题类别】

区块链治理-市场治理-数字货币