When you need them, they are not there: hedge capacities of cryptocurrencies disappear in downtrend markets

Ahmed Bossman (), Mariya Gubareva (), Samuel Kwaku Agyei () and Xuan Vinh Vo ()
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Ahmed Bossman: LUT University
Mariya Gubareva: Universidade de Lisboa, ISEG – Lisbon School of Economics and Management, SOCIUS / CSG – Research Centre in Economic and Organisational Sociology / Research in Social Sciences and Management
Samuel Kwaku Agyei: University of Cape Coast
Xuan Vinh Vo: University of Economics Ho Chi Minh City

Financial Innovation, 2024, vol. 10, issue 1, 1-38

Abstract: Abstract We provide empirical evidence supporting the economic reasoning behind the impossibility of diversification benefits and the hedge attributes of cryptocurrencies remaining in force during the downside trends observed in bearish financial markets. We employ a spillover connectedness model driven by time-varying parameter vector autoregressions on daily data covering January 2018 to November 2022 to analyze spillover transmissions between conventional and digital markets, focusing on the role of stablecoin issuances. We study the stock, bond, cryptocurrency, and stablecoin markets and find very high connectedness, which varies over time in response to up/down trends in financial markets. The results show that during financial turmoil, cryptocurrencies amplify downside risks rather than serve as diversifiers. In addition to risky assets from conventional financial markets, cryptocurrencies champion the transmission of spillovers to digital and conventional markets. In contrast, changes in stablecoin issuances produce few shocks because of their pegged prices, but they facilitate investors’ switch from volatile cryptos to more stable digital instruments; that is, we observe a phenomenon designated by us as the “flight-to-cryptosafety.” We draw insightful conclusions, provoking new thinking regarding portfolio hedge strategies that could potentially benefit investors when searching for less volatile investment performance.

Keywords: Stablecoins; Stocks; Cryptocurrencies; Bitcoin; US treasuries; Digital financial market; Conventional financial market; Flight-to-cryptosafety; Flight-to-safety; TVP-VAR model (search for similar items in EconPapers)
JEL-codes: C32 E42 F31 G1 G12 G2 (search for similar items in EconPapers)
Date: 2024
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DOI: 10.1186/s40854-024-00638-y

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