Follow the Leader: Analyzing Cryptocurrency Price Correlations
Is there a correlation between the price movements of bitcoin and other cryptocurrencies and crypto-assets?
The answer to that question varies quite a bit based on which asset — and which time period — you look at, according to a recent CoinDesk analysis of CryptoCompare data through February 2017.
In some cases, the answer is relatively simple. Cryptocurrencies have repeatedly entered periods where several have moved in tandem.
For example, alternative protocol assets rallied following the SEC’s 10th March rejection of a proposed bitcoin ETF, after suffering widespread losses roughly one month earlier.
Yet in other instances, bitcoin’s losses have resulted in gains for alternative cryptographic assets.
One key factor analysts have cited as influencing these price relationships is major events in the cryptocurrency space, like the rise and fall of the distributed organization The DAO or the SEC’s ETF rejection.
Leading up to this event, bitcoin prices surpassed $1,300, reaching an all-time high, according to the CoinDesk Bitcoin Price Index (BPI). Following the ruling, bitcoin prices plunged nearly 30%, while other digital currencies experienced a rally that pushed some to fresh, all-time highs.
Ether, for example, surged more than 200% in a week or so after the SEC shot down the proposed fund, according to CoinMarketCap. Likewise, the price of monero rose more than 100% since the ruling at points, while ether classic also saw notable gains.
But how do they compare on a longer timeline? Let’s review the findings from our data:
BTC and LTC: Birds of a feather
The most objective way to examine the price relationship that exists between bitcoin and other digital currencies is to examine the available data. Using this information, market observers can get a far better sense of exactly what these relationships look like.
For some currency pairs, looking at quarterly data is sufficient, as doing helps convey a strong sense of the relationship between the two digital assets in question.
BTC/LTC (litecoin) is a great example, as price data reaching back to the final quarter of 2013 shows six quarters where the pair’s correlation surpassed 0.7, and three quarters where it exceeded 0.8.
This strong, positive relationship makes sense, as litecoin is to some extent a ‘spin-off’ of bitcoin, using similar technologies and designs.
It’s important to keep in mind that bitcoin and litecoin prices have not always had a strong relationship, as their correlation has at times broken down. ARK Invest’s Chris Burniske has noted that leading up to the SEC’s decision on the proposed Winklevoss ETF, the two digital currencies moved in different directions.
Bitcoin and XRP: Total opposites
Another example of a currency pair with a relatively straightforward relationship is BTC/XRP, whose correlation remained below 0.2 during every quarter in 2015 and 2016.
When averaging all available price data, the currency pair’s correlation falls to 0.02.
The two currencies are quite distinct, a situation noted by cryptocurrency fund manager Jacob Eliosoff, and this situation might help explain their weak price relationship. Bitcoin and litecoin have differing value propositions and target separate audiences from XRP.
Miguel Vias, head of XRP markets at Ripple, offered a different take on BTC and XRP’s price relationship.
“I think that markets view XRP as a very stable digital asset, so they feel safe parking funds in XRP when they exit other assets. If someone wants to get out of BTC, but doesn’t want to necessarily move into fiat, he or she moves the value into XRP,” he said.
Bitcoin and ETH: A changing story
For other digital currencies, a deeper dive is needed to understand the situation.
While quarterly price data for BTC/ETH (ether) shows some modest correlations as high as 0.57, looking at seven-day averages paints a more vivid picture.
When viewed through this more short-term lens, correlations have reached as much as 0.98 during some periods. In the seven-day period 1st–7th August, 2016, the BTC/ETH price relationship remained above 0.90.
However, the correlation between these digital currencies fell sharply at times, reaching as little as 0.04 during seven-day periods in August and October 2015.
ETC, XMR: Confusing cases
Ether classic is another cryptocurrency that has had a varied relationship with bitcoin. The correlation between the two has fallen to as little as 0.004 and risen to as much as 0.96, according to CryptoCompare data ranging back to July 2016.
The BTC/ETC pair displayed a particularly strong relationship early this year, surpassing 0.90 during several seven-day periods in January. However, their correlation has repeatedly fallen to very low levels, declining below 0.1 on many occasions and reaching as little as 0.004 in January 2017.
The BTC/XMR pair has had a similar story to that of BTC/ETH and BTC/ETC, as its seven-day price correlation has approached zero and surpassed 0.9 repeatedly.
This weekly relationship became particularly strong earlier this year, surging to 0.94 in January. In contrast, the pair hit a patch in February 2016 where five straight seven-day sessions produced an average below 0.2.
These two digital currencies have largely different situations. While bitcoin was the first cryptocurrency to scale, monero has focused far more on ensuring the privacy of its users. While bitcoin was originally designed to offer users privacy in their transactions, its pseudonymous nature has made its users vulnerable to the identification.
Monero, on the other hand, has done a far more effective job of providing user anonymity through ring signatures and stealth addresses.
As a result, this digital currency is building widespread adoption on the darknet.
The digital currencies examined in this article have highly dynamic price relationships. Sometimes they move in tandem, while other times they move in opposite directions. In certain cases, their correlation is very low.
In certain instances, the markets develop clear trends where many cryptocurrencies move either higher or lower over specific periods of time. During others, these digital currencies may display little or no price correlation.
As the cryptocurrency space becomes more mature, however, the individual digital assets that compose this market may very well progress in terms of carving out their own individual niches, a development that could cause their price determinants to change over time.
Should these digital currencies successfully differentiate themselves in the eyes of traders, their correlations could deteriorate further.