Portfolio diversification benefits of alternative currency investment in Bitcoin and foreign exchange markets

AbstractThis study examines the portfolio diversification benefits of alternative currency trading in Bitcoin and foreign exchange markets. The following methods are applied for the analysis: the spillover index method of Diebold and Yilmaz (Int J Forecast 28(1): 57–66, 2012. 10.1016/j.ijforecast.2011.02.006), the spillover asymmetry measures of Barunik et al. (J Int Money Finance 77: 39–56, 2017. 10.1016/j.jimonfin.2017.06.003), and the frequency connectedness method of Barunik and Křehlík (J Financ Econom 16(2): 271–296, 2018. 10.1093/jjfinec/nby001). The findings identify the presence of low-level integration and asymmetric volatility spillover as well as a dominant role of short horizon spillover among Bitcoin markets and foreign exchange pairs for six major trading currencies (US dollar, euro, Japanese yen, British pound sterling, Australian dollar, and Canadian dollar). Bitcoin is found to provide significant portfolio diversification benefits for alternative currency foreign exchange portfolios. Alternative currency Bitcoin trading in euro is found to provide the most significant portfolio diversification benefits for foreign exchange portfolios consisting of major trading currencies. The findings of the study regarding spillover dynamics and portfolio diversification capabilities of the Bitcoin market for foreign exchange markets of major trading currencies have significant implications for portfolio diversification and risk minimization.

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Return spillover across Bitcoin markets and foreign exchange pairs dominated in major trading currencies

Business & Economic Review ◽

10.22547/ber/12.3.5 ◽

2020 ◽

Vol 12 (3) ◽

pp. 123-160

Author(s):

Muhammad Owais Qarni ◽

Saqib Gulzar

Keyword(s):

Foreign Exchange ◽

Portfolio Diversification ◽

Foreign Exchange Markets ◽

Significant Implication ◽

Risk Minimization ◽

Dynamic Nature ◽

Market Return ◽

Exchange Markets ◽

Short Horizon ◽

Asymmetry Measure

This study examines the dynamic nature of return spillover across Bitcoins indices and foreign exchange pairs denominated in 6 major trading currencies. The findings of spillover index, Spillover Asymmetry Measure (SAM) and frequency connectedness methodologies indicate that return spillover across Bitcoin markets and foreign exchange pairs dominated in six major trading currencies is very low. The intra-market return spillover for the Bitcoin markets and foreign exchange pairs is found to be significant. Presence of asymmetry in the return spillover is also found. Evidence indicates that return spillover are dominated in short horizon, with significant spillover occurring within 4 days of an event. The low integration of Bitcoin markets with the foreign exchange markets provide significant implication for portfolio diversification and risk minimization.

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