Forecasting bitcoin volatility: exploring the potential of deep learning

Tiago E. Pratas (), Filipe R. Ramos () and Lihki Rubio ()
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Tiago E. Pratas: ISCTE-University Institute of Lisbon
Filipe R. Ramos: Universidade de Lisboa
Lihki Rubio: Universidad del Norte

Eurasian Economic Review, 2023, vol. 13, issue 2, No 5, 285-305

Abstract: Abstract This study aims to evaluate forecasting properties of classic methodologies (ARCH and GARCH models) in comparison with deep learning methodologies (MLP, RNN, and LSTM architectures) for predicting Bitcoin's volatility. As a new asset class with unique characteristics, Bitcoin's high volatility and structural breaks make forecasting challenging. Based on 2753 observations from 08-09-2014 to 01-05-2022, this study focuses on Bitcoin logarithmic returns. Results show that deep learning methodologies have advantages in terms of forecast quality, although significant computational costs are required. Although both MLP and RNN models produce smoother forecasts with less fluctuation, they fail to capture large spikes. The LSTM architecture, on the other hand, reacts strongly to such movements and tries to adjust its forecast accordingly. To compare forecasting accuracy at different horizons MAPE, MAE metrics are used. Diebold–Mariano tests were conducted to compare the forecast, confirming the superiority of deep learning methodologies. Overall, this study suggests that deep learning methodologies could provide a promising tool for forecasting Bitcoin returns (and therefore volatility), especially for short-term horizons.

Keywords: Cryptocurrencies; Bitcoin; ARCH/GARCH models; Deep learning; Forecasting; Prediction error (search for similar items in EconPapers)
JEL-codes: C01 C02 C10 C22 C45 C53 C58 C60 G17 (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1007/s40822-023-00232-0

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