Over the past few years, cryptocurrencies have emerged as an attractive asset class. Cryptocurrencies are attracting attention from both investors and researchers alike, but while the latter are focused on the technology and their impact on the environment, the former are more interested in how to make more money. I am.
In general, cryptocurrencies are very dangerous. However, some are more risky than others. In fact, some cryptocurrencies are extremely risky. In exchange for that risk, some would be expected to provide investors with significant returns. However, new research shows that high-risk cryptocurrencies generally perform worse than low-risk ones.
There is no good reason to play risky cryptocurrencies
The study, conducted by researchers at the University of Sydney, looked at more than 16,000 cryptocurrencies from 2015 to 2022. Of these, we were able to derive a comprehensive history of valuations for over 4,000 cryptocurrencies.
They adopted a new approach that considers not only systematic risk (risks common to the entire market), but also idiosyncratic risks (risks unique to individual cryptocurrencies).
In finance, risks are often categorized into “jump” and “spread”. Jump risk refers to sudden and large changes in an asset’s price, whereas diffusion risk involves gradual price fluctuations over time. For many assets, such jump or spread risks can be important predictors of expected returns. However, unlike what is observed in the stock market, jump risk and diffusion risk in cryptocurrencies do not positively predict future returns.
Overall, the cryptocurrencies with the most idiosyncratic risk had an average return of -9.36%, while the cryptocurrencies with the most idiosyncratic risk had a return of 80.6%.
“This phenomenon has been widely observed across different sectors and global stock markets,” said lead researcher Dr Simon Kwok.
“There are several explanations for the low volatility anomaly,” Dr. Kwok said. “These include leverage limits and short-selling constraints, investors’ preference for lottery-like returns, and investor behavioral biases. Investors are often overconfident about their prospects for ‘winning.’ Masu.”
Important lessons for investors
Due to advances in technology, changes in the financial landscape, and a growing emphasis on digitalization, cryptocurrencies are steadily gaining traction in today’s society. Blockchain, the core technology behind cryptocurrencies, provides a decentralized and secure method of transaction, making it attractive to those seeking an alternative to the traditional banking system. Whether you want to invest your life savings in Bitcoin or simply want to pay in USDT when making a purchase, we would all be wise to pay a little attention to cryptocurrencies. This trend is likely to worsen with the rise of the digital economy and the increasing acceptance of cryptocurrencies as a legitimate payment method by businesses and governments.
So what does this research mean?
This study highlights the importance for everyday investors of a nuanced understanding of risks in crypto investing, beyond the traditional framework used in stock markets. This shows that cryptocurrencies are atypical assets that contradict much of the conventional thinking. The high-risk, high-return approach does not work in the real world as long as it is applied to cryptocurrencies. The first conclusion for retail investors is simple. “Do your research. Don’t fall for the hype,” Kwok says.
However, this issue may not be unique to cryptocurrencies. It may simply be because the market is not yet mature enough.
“While the stock market has evolved to a mature state over several decades, our research was only substantiated by approximately eight years of trading history. We remain interested in the evolution of the crypto market. We look forward to observing investor behavior across market cycles,” said Kwok.
For example, a possible problem with trading cryptocurrencies is that many brokers do not offer a wide range of cryptocurrencies for trading. There is a lack of rules and protections when it comes to holding these unregulated assets. There is also often a large difference between the prices people want to buy and the prices people want to sell, known as a wide bid-ask spread.
It will take years for the market to mature and resemble a traditional stock market. In the meantime, it is important to do your own research and exercise caution when dealing with cryptocurrencies.