Researchers from the Illinois Institute of Technology have conducted a groundbreaking study to identify the factors that predict Bitcoin returns.
The paper, titled “What Information Variables Predict Bitcoin Returns? A Dimension-Reduction Approach,” provides valuable empirical evidence to guide investors, economists, and academics in understanding the nature of Bitcoin.
The research team, led by Sang Baum “Solomon” Kang, an associate professor of finance at Illinois Tech’s Stuart School of Business, used predictive analytics techniques and dimension-reduction models to analyze data from January 2011 to January 2020.
They examined 25 information variables across various categories, including macroeconomics, blockchain technology, other assets, stress levels, and investor sentiment.
Key Findings
Blockchain Technology and Bitcoin Returns
The study found that increased difficulty in mining Bitcoin positively predicts returns.
This supports the theory that as blockchain technology requirements increase, Bitcoin’s supply is reduced, leading to higher returns.
These findings highlight the relationship between the technological aspect of blockchain and the financial performance of Bitcoin.
Investor Sentiment and Bitcoin Returns
The researchers discovered that Bitcoin returns are positively driven by investor sentiment.
This indicates that Bitcoin functions as a speculative asset, with its returns influenced by market sentiment and investor behavior.
It reinforces the notion that Bitcoin’s value is driven by speculative demand rather than fundamental economic factors.
Economic Stress Levels and Bitcoin Returns
The study also revealed that higher stress levels or financial turmoil in the economy result in a decrease in future Bitcoin returns.
This highlights the risks associated with holding Bitcoin as an asset during times of economic uncertainty. It suggests that Bitcoin may not effectively serve as a safe-haven asset during economic stress.
Bitcoin’s Roles Over Time
The researchers noted that Bitcoin has played three different economic roles over time:
Currency: Bitcoin has been considered a form of digital currency, enabling peer-to-peer transactions without the need for intermediaries like banks. However, its volatility and speculative nature have limited its widespread adoption as a mainstream currency.
Speculative Security: The study confirms that Bitcoin functions as a speculative asset, with returns driven by investor sentiment. Its value is influenced by market perceptions and expectations rather than underlying economic fundamentals.
Safe-Haven Commodity: Due to its scarcity and mining costs, Bitcoin has been viewed as a safe-haven commodity. However, the study’s findings suggest that it may not effectively serve as a diversifier or safe-haven asset during times of economic stress.
Significance of the Research
Understanding the variables that predict Bitcoin returns is crucial for both traders and economists.
For traders, identifying these variables can help inform investment decisions and position-taking in Bitcoin.
For economists, gaining insights into the nature of Bitcoin is important for comprehending its role within the broader economic system.
Conclusion
The groundbreaking study conducted by researchers from the Illinois Institute of Technology sheds light on the predictors of Bitcoin returns.
The findings emphasize the impact of blockchain technology, investor sentiment, and economic stress levels on Bitcoin’s financial performance.
While Bitcoin operates as a technical artifact and speculative asset, its detachment from economic fundamentals raises questions about its effectiveness as a diversifier or safe-haven asset.
This research contributes valuable empirical evidence to the field of cryptocurrency and offers guidance to investors, economists, and academics seeking to understand the nature of Bitcoin.
The study was published in The Journal of Alternative Investments.
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