Crypto Perspective 6: Uncorrelated Asset?
When markets crash, they tend to crash together, with all assets moving in tandem. In this sense, a “true” test of just how uncorrelated an asset can be is whether its price moves in lockstep with other markets during times of panic.
How does BTC fare in this regard?
In order to answer this question, we need to look at how correlations between Bitcoin and other assets change during times of crisis. However, we can only make this comparison over a single crisis period – 2020’s COVID related financial panic.
Considering that relationships between market variables change quite frequently, it would be preferable to observe Bitcoin’s correlations over multiple crises. But, since Bitcoin only made its trading debut in 2010, we have to make do with just what happened in 2020.
Versus the S&P 500, we can see from the chart above that BTC’s 1 year rolling correlation (on YoY returns) actually decreased over the course of the crisis period, before rebounding sharply after.
This is interesting, because it illustrates that as global markets crashed, Bitcoin actually grew less correlated with US equities, even as the price of BTC plummeted.
Does this make Bitcoin an asset that is uncorrelated to broader market risk?
If one looks purely at correlation coefficients, then yes, the fall in BTC’s 1 year rolling correlation with the S&P during 2020 would suggest that it is.
However, BTC’s price fell by about 60% on a high to low basis during 2020’s global panic, while the S&P fell by about 35% – which is quite a contradiction.
In order to resolve it, 1 year rolling correlations were calculated based on month-on-month returns to see how the correlation coefficient changed over the short term:
The results, shown in the chart above, clearly show that over the crisis period BTC became more strongly positively correlated with the S&P.
BTC really isn’t an uncorrelated asset.
While this seems opposite to what is implied in the first chart, it is actually in line with its general conclusion. Which is that, over time, both asset classes tend to be positively correlated.
The first chart was calculated using YoY returns, and provides a smoother, longer term perspective of BTC’s relationship with the S&P, sacrificing the ability to observe shorter term changes in order to do so. (This is also a good example of how statistics, and their interpretation, can vary widely)
Furthermore, the sharp and swift changes in Bitcoin’s correlations with Gold and US 10y yields during the 2020 panic also illustrate how BTC’s price is closely tied to what happens in other global markets.
At this point, it is important to note that assets which do not move together with everything else in a global financial panic are extremely rare.
This is due to the relative nature of markets and the human need to categorize. In times of crisis, folks sell assets deemed to be risky, and flock to those perceived to be safe havens, like gold and highly rated sovereign debt.
This either-or dynamic in turn makes most assets correlated. Risk assets, for e.g the S&P 500 and NASDAQ Composite, will see their correlations with each other tend towards 1 as they are sold off together.
Perceived safe havens, on the other hand, will have their correlations with risk assets tend towards -1, as money flows out of the latter and into the former.
Consequently, Bitcoin, and by extension, Cryptocurrencies, not performing like uncorrelated assets is neither a positive nor negative aspect of the asset class. It is simply a function of market participants’ current perception of digital assets, which, like everything else in markets, will no doubt change in the future.
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