Predictors of Bitcoin Returns: Blockchain Technology, Investor Sentiment, and Economic Stress
A groundbreaking paper from the Illinois Institute of Technology researchers highlights that blockchain technology, investor sentiment, and economic stress levels are significant predictors of Bitcoin returns. The empirical evidence presented in the paper aims to provide valuable insights for investors, economists, and academics.
Co-authored by Sang Baum “Solomon” Kang, associate professor of finance at Illinois Tech’s Stuart School of Business, the study reveals that Bitcoin is detached from economic fundamentals, suggesting that it may not effectively serve as a diversifier or safe-haven asset.
Additionally, the research indicates that returns on commodities, securities, and other assets do not reliably predict Bitcoin returns.
The paper “What Information Variables Predict Bitcoin Returns?“
The paper “What Information Variables Predict Bitcoin Returns? A Dimension-Reduction Approach” was published in The Journal of Alternative Investments. Kang collaborated with two former doctoral students: Yao Xie, an associate quantitative analyst at Morningstar Inc., and Jialin Zhao, an associate professor of quantitative management at St. Mary’s University in San Antonio.
Using predictive analytics techniques and dimension-reduction models, the team analyzed data from January 2011 to January 2020, examining 25 information variables across macroeconomics, blockchain technology, other assets, stress levels, and investor sentiment.
Kang explains, “We find blockchain technology, investor sentiment, and stress levels have predictive power for Bitcoin returns. Similar to traditional assets, Bitcoin exhibits higher return predictability with longer horizons. These findings support the dual nature of Bitcoin as both a technical artifact and speculative asset.”
The Key findings
Key findings from the study include:
- Increased mining difficulty positively predicts Bitcoin returns, indicating that as blockchain technology requirements rise, the reduced supply of Bitcoin leads to higher returns.
- Bitcoin returns are driven by positive investor sentiment, underscoring the speculative nature of the cryptocurrency as an asset.
- Higher stress levels or financial turmoil in the economy are associated with a decrease in future Bitcoin returns, emphasizing the risks associated with holding Bitcoin as an asset.
The researchers suggest that Bitcoin has played three distinct economic roles over time: a currency, a speculative security, and a safe-haven commodity due to its scarcity and mining costs.
Kang explains the significance of the research, stating, “In academia, there is a research methodology called the asset return predictability study. The underlying principle is that variables predicting the future movement of an asset price may be important in the economic system. So understanding those variables is important not only for traders seeking to take a position in Bitcoin but also for economists aiming to comprehend the nature of Bitcoin.”
Read the original article on PHYS.
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