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Crypto hedging: The correlation between Bitcoin and Altcoin

Cryptocurrencies were touted by its proponents as this uncorrelated asset class that’s immune to market events that would impact traditional assets and thus should be owned to offset dips in investment portfolios which comprised of mainly of traditional assets. But there are over 2000 crypto tokens, which do you invest in? Is Bitcoin or Altcoins the ultimate hedge? That’s what we’re trying to figure out.

To a certain extent, Bitcoin prices have largely been uncorrelated to ( and sometimes inversely correlated) to traditional markets. For example, in May 2019, while U.S equities market depreciated and the Dow Jones Industrial Average (DJIA) dropped by as much as 696 points (one of the largest single-day so far this year), Bitcoin prices surged by as much as 15%.

Similarly, on 24th July, the DJIA was up by as much as 16.3% YTD while Bitcoin prices were up by a whopping 160%. Bitcoin prices surged more than 200% since the beginning of 2019 to an eye-water $12000.

Bitcoin price chart ( 2019)

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So we know that Bitcoin isn’t largely correlated with how traditional markets perform (although there have been some exceptions), on the contrary, some are actually calling Bitcoin as the ultimate hedge amidst a global trade war for soft power. For example, during the peak of the trade war between the US and China, Bitcoin prices surged more than 10% meanwhile as Chinese Yuan depreciated.

But what about the other cryptocurrencies? Like Ethereum and Ripple?

Bitcoin or Altcoins: is there a correlation?

It’s relatively easy to determine if there’s a correlation between Bitcoin and altcoins prices. Ideally these digital assets should be independent of each other but since Bitcoin literally dominates the cryptocurrency market (65% total crypto capitalization constitutes Bitcoin), there’s bound to be some correlation. But to what extent?

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For our study we’ll consider the daily returns of four digital assets from the beginning of 2019, the largest crypto tokens by market cap — Bitcoin ($173 billion), Ethereum ($22 billion), Ripple ($13 billion), Litecoin ($5 billion), Bitcoin Cash ($5 billion), Binance Coin ($4.4 billion), Tether ($4 billion), EOS( $3.9 billion), Bitcoin SV ($2.9 billion), and Stellar ($1.6 billion).

The correlation coefficient ( r ) lies on a scale between -1 and 1. An ‘r’ value of ‘0’ indicates no correlation, ‘-1’ indicates inverse correlation and ‘1’ indicates a perfect linear relationship. From calculating the correlation coefficient of Bitcoin against the top ten cryptocurrencies, we observe one striking revelation. All three cryptocurrencies have a very strong uphill correlation with Bitcoin.

So what can we conclude from this?

If you’re an investor that is interested in crypto because cryptocurrencies make a good hedge among traditional assets, then it makes sense to only invest in Bitcoin. As the price of all the major cryptocurrencies have a strong correlation with Bitcoin as we confirmed from our calculation with the exception of a few crypto tokens like Binance Coin, Tether and Bitcoin SV.

Notably, in-order of increasing correlation -

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Unsurprisingly, Tether (a stablecoin) shows least correlation, followed by Bitcoin SV and Binance Coin.

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