Presently, cryptoassets’ price co-movement is quite high, most probably due to the launch of the cryptoassets market and the participants’ weak pricing ability.
Almost 7% of these cryptoassets are held by the institutional investors, which makes an almost one-thirteenth portion of the U.S. stock market’s institutional holdings ratio.
The high turnover rates of cryptoassets as compared to the traditional markets indicate that the crypto asset industry participants are either more active or reactionary.
But the UTXO (unspent output from bitcoin transactions) metric indicates that due to HODLing, these members becoming active only when the prices recover.
Reasons for Correlation
Studies have found that the low internal correlation between some of the cryptoassets can be due to three major reasons:
- Idiosyncratic factors: These are the project-specified catalysts and news that can affect the level of correlation between cryptoassets.
- Binance Effect: Usually the digital assets that are listed on Binance have a high correlation between them, whereas, the assets that are not listed have low correlations compared to the former.
- Consensus Mechanisms: The consensus mechanism of cryptoassets can have a high impact on its correlation with the other cryptoassets return.
The overall correlation in the cryptoassets market has observably increased. It can be due to the gradual decrease of the market’s Bitcoin dominated trading pairs reliance or the simultaneous rise of the volume of stablecoins across all cryptoassets markets.
The correlation cycle among cryptoassets and the effect that market structure can have on this cycle is discussed further in the following:
1.Cyclic Moments and Turning Points
One of the factors responsible for the continuous fluctuation of the correlation among the USD price of cryptoassets is market irrationality. The market rationality has a similar effect as the co-movement phenomenon or herding effect.
Studies show that when the correlation among altcoins reaches a specific point, the Bitcoin trend for USD either reverse or comes to a halt at the previous price. This indicates the emergent market’s inherent traits as well as the irrational behavior of the market participants.
However, it is very early to say that there is some causal relationship between market reversals and peaks in correlation.
2.Disproportional Percentage Of Retail Investors
The frequent extreme correlation periods of cryptomarket are related to the highly retail-driven participation of the market. According to the recent data, almost 700 crypto funds are operating in today ‘s cryptomarket, but the January 2019 asset was thought to be $10 billion only.
Assuming that all of them hold only Bitcoin, the total upper bound of the Bitcoin market value will be 14% only. But if Altcoins are also included, the overall institutional proportion for the cryptoassets market can become even less than 7%.
It can be said that non-professional investors can become overtly cynical or overconfident while reacting to market trends. And that can lead to a high potential transactional volume and more volatile prices.
Whereas, crypto investors are more attentive and active towards new developments in the market, they have a significant impact on the success of their participating crypto networks and promote their voice to get heard, even through simple price action.
3.HODLing by Crypto Investors
HODLing refers to the phenomenon of the crypto investors where they prefer to HODL their assets when there is a decline in price until the prices are recovered.
And they become active when the high prices are restored. Most crypto investors tend to HODL the currency in bear markets that lead to moderate changes in UTXO cap.
But the UTXO cap decline can go steeper if the individuals transact with Bitcoin at comparatively low USD value prices. Not to ignore the fact that after a certain bear period, the rate does not go up that quickly, until at least the underlying rates reach the previous heights.
Herding behavior effects are situation specified. The initial correct information will cause a herding effect to reflect the information more quickly in the price.
Comparing this to the traditional market, the cryptoasset market has faced several issues during tits small lifetime, like:
-There is a lack of popular trading instruments of the market, an absence of a compulsory mechanism of disclosure that should be followed by all the market participants, and inadequate protection measures. All these factors lead to a reduction in the enthusiasm of the investors.
-The highly complex blockchain industry has a high barrier for new entrants. Also, there is a lack of professional and reliable media sources that leads to slow transmission of information and even extensive fake news dispersal.
-The limited arbitrage channel is another problem. The inherent limitation of cost of the mainstream coins or speed of transfer, temporary paucity of appropriate derivatives and an in-depth, and regulatory restrictions imposed by many countries lead to asset prices stymieing for a long time period in an unreasonable state.
However, the cross-exchange arbitrage chances were seen to be decreased during 2018, resulting in a higher price efficiency.
Because of the above-mentioned aspects, the effect that quick reacting market participants have become more distinct, making it more difficult to price the individual cryptoasset accurately.
Therefore, the herding behavior or so-called irrational attitude must not be blamed only on the inexperienced participants, but the market immaturity and infrastructure should also be on the front burner.
Especially after 2018, many regulatory bodies, media outlets, and research institutes have started to pay more attention to the blockchain industry. Also, there is a wave of crypto-native research and coverage growing with every passing day.
This rapidly developing industry has been able to attract new support and funds from various traditional and governmental capital sources and seems to continue doing so with every new step of improved data, news reliability, regulatory clarity, and less usability friction, which leads to a market with more efficient price discovery as a whole.
Various ongoing and completed researches and studies provide enough data to analyze and assess the progress of the space during the last few quarters.
As many mature financial products get rolled out, which covers the industry, there is a clearer worldwide regulatory framework, which means a rapid maturing of the crypto market than ever.
Gb Adolph Obasogie is the CEO of Harrison Global Capital