Researchers from The Bucharest University of Economic Studies used high-frequency entropy to analyze the ability of several econometrical models to forecast value at risk for Bitcoin
Cryptocurrencies are a new assets class that have witness significant growth in the recent past in the financial markets. In 2009, Bitcoin was released as open-source software based on blockchain technology. According to CoinMarketCap, 2018, the cryptocurrencies market has a total market capitalization of around US$ 180 billion. Several market players and researchers are focused on studying the statistical properties and risk behavior of the cryptocurrencies. The studies often include comparison between classical assets such as equities or exchange rates and cryptocurrencies. Now, a team of researchers from The Bucharest University of Economic Studies analyzed the relationship between entropy and Value-at-Risk for the Bitcoin.
The team used high frequency data to estimate the entropy of distribution of rate of return during day trading. According to the researchers, entropy can efficiently explain the performance of Bitcoin regarding price and return. The daily exchange rate of Bitcoin is may be associated with daily entropy of rate of return during day trading. The team confirmed the hypothesis and found that daily logarithmic price of Bitcoin and the entropy of rate of return during day trading are strongly related. This is turn suggested that entropy can be used to efficiently predict the underlying forces of Bitcoin prices. The positive and significant coefficient of the entropy also suggests that cryptocurrency’s prices fluctuate depending on market conditions.
Bitcoin can also give high negative returns. The team used empirical analysis to prove that negative daily returns can be predicted by lower entropy values. The results can also be used to determine whether entropy is positively correlated to an opportunity of high values positive returns. The team found that entropy can also be used to foresee the crunch periods Bitcoin exchange rates. Moreover entropy can also be used to explain the percentage of the distribution of the Bitcoin daily returns. The research was published in the journal MDPI Entropy on January 22, 2019.