Prices of bitcoin and ether—the two largest cryptocurrencies by market capitalization—are usually closely correlated, but that's changing after Ethereum's Shanghai Upgrade, and it could affect investments and risk management for cryptocurrency investors.
- Ether and Bitcoin have moved together in the past, with the exception of the time period around The Merge.
- The lack of correlation increased after Ethereum's Shanghai (Shapella) hard fork.
- At the same time, bitcoin has continued its correlation with the Nasdaq.
Ether and Bitcoin's Correlation
According to a recent report by Coinbase, the correlation between bitcoin (BTC) and ether (ETH) has been declining since the beginning of 2023 and the rift widened after Ethereum's Shanghai (Shapella) hard fork. The upgrade, completed on April 12, allowed users to withdraw staked ether for the first time.
The BTC-ETH correlation based on a 40-day rolling window has fallen from 0.95 to 0.82 during that time. In the past, these two crypto assets have mostly moved lockstep.
The report attributes this trend to several factors, such as the increasing adoption of Ethereum-based decentralized applications (DApps), the growing popularity of non-fungible tokens (NFTs), and the transition of the network from a proof-of-work (PoW) to a proof-of-stake (PoS) consensus mechanism.
How Declining Correlation Impacts Investments
Lower BTC-ETH correlation could have implications for portfolio diversification and risk management. For institutional investors, it could mean a change in their hedging strategies.
"The relevance of this falling correlation for institutional investors is that it can affect quantitative strategies that rely on cross hedging one asset for the other (or using ETH as a hedge for less liquid altcoins)," said Coinbase analysts.
For investors who want to gain exposure to the cryptocurrency market, holding both BTC and ETH could provide more benefits than holding either one alone, as they could reduce the overall volatility and increase the potential returns of their portfolio.
However, the report cautions that correlation is not a static measure and could change over time depending on market conditions and developments in both networks.
Bitcoin Still Correlated with Nasdaq
Bitcoin is often touted as a hedge against inflation and a safe haven asset in times of economic turmoil. However, a recent analysis by CoinDesk shows that the cryptocurrency's correlation with the ratio of Nasdaq 100 to S&P 500 index has increased significantly since late 2020, suggesting that bitcoin may be more sensitive to shifts in market sentiment and risk appetite than previously thought.
The ratio of Nasdaq 100 to S&P 500 reflects the relative performance of growth stocks versus value stocks. Growth stocks are typically associated with higher earnings growth potential and higher valuations, while value stocks are seen as undervalued and often pay dividends.
According to CoinDesk, bitcoin's 90-day correlation coefficient with the Nasdaq-to-S&P 500 ratio rose to a record high of 0.79 in March 2021, up from -0.06 in September 2020.