Cryptocurrency, or virtual currency, has emerged as a prominent form of investment since around 2010. Today, there are over 2,000 different cryptocurrencies in existence worldwide. While much of the initial research in Indonesia focused on the legal and religious permissibility of such investments, a growing body of work is now examining their financial characteristics. This descriptive-quantitative analysis aims to explore both the potential returns and risks associated with cryptocurrency investments.
Understanding Cryptocurrency Fundamentals
Cryptocurrencies are digital assets that exist without physical form. Ownership of these assets is recorded on a decentralized digital ledger known as blockchain. This system is maintained by a global network of computers called miners. The ledger is publicly accessible, meaning anyone with an internet connection can download the necessary software, become a miner, and join the blockchain network.
Users store their cryptocurrency in digital wallets, accessing them through private keys known only to the wallet owner. Without this key, the system rejects all transaction attempts. Unlike traditional currency, cryptocurrencies aren't issued by central banks or governments, making them fundamentally different from conventional financial instruments.
Research Methodology and Data Analysis
This study employed a quantitative-descriptive approach, utilizing statistical diagrams and calculations to explain cryptocurrency investment potential and risks. The research focused on 15 cryptocurrencies with the largest market capitalization through the end of 2019, all of which had been established since at least 2018 to ensure sufficient historical data.
Daily exchange rate data for cryptocurrencies against the Indonesian Rupiah was sourced from investing.com and coingecko.com, while Indonesian stock market data came from Google Finance and foreign exchange rates from Bank Indonesia's official website. The observation period spanned from January 1, 2018, to December 31, 2019.
The analysis consisted of two main parts: descriptive analysis of prices, daily returns, and investment risks compared to traditional markets, and an assessment of investment potential based on performance ratios including Sharpe and Sortino ratios.
Key Characteristics of Major Cryptocurrencies
The research revealed significant diversity among cryptocurrencies. Bitcoin consistently showed the highest prices among the cryptocurrencies studied, joined by Ethereum, DASH, Bitcoin Cash, and Litecoin in the premium price category. Meanwhile, cryptocurrencies like Cardano, Stellar, Tron, and XRP typically traded at values below Rp 10,000.
Price fluctuations varied dramatically between currencies. Chainlink (LINK) demonstrated extreme volatility, with its lowest price reaching approximately 20% of its average value and its highest price reaching 200-250% of the average. In contrast, Tether (USDT) showed relatively stable prices throughout 2019, with its highest and lowest prices varying by only 2-3% from its average value.
Assessing Investment Risks
When examining investment risks related to price changes, the study found that risk levels weren't necessarily correlated with the average price of different cryptocurrencies. For instance, Ethereum Classic and Stellar showed similar risk profiles in 2018 despite Stellar's average price being only about 2% of Ethereum Classic's value.
Risk measurements including standard deviation, Value at Risk (VaR), and Expected Tail Loss (ETL) revealed that cryptocurrency investments generally carried higher risks compared to stock market investments in Indonesia during 2018-2019. Among the 15 cryptocurrencies studied, only Tether (USDT) showed risk levels comparable to Indonesian stock market investments.
Most cryptocurrencies also demonstrated higher risk levels compared to investments in foreign currencies such as the Australian Dollar (AUD), US Dollar (USD), Japanese Yen (JPY), British Pound (GBP), and Euro (EUR), indicating that cryptocurrency investments shouldn't be treated like traditional foreign currency investments.
The research also identified volatility clustering—where periods of high volatility tend to be followed by more high volatility, and calm periods tend to be followed by more calm periods. This phenomenon, detected through GARCH(1,1) modeling, suggests that cryptocurrency volatility exhibits persistence, meaning current volatility can be predicted from previous volatility patterns.
Investment Potential and Performance
Despite the higher risks, cryptocurrency investments showed potential for substantial returns. While many cryptocurrencies decreased in value from 2018 to 2019, resulting in negative average returns for investors who held throughout the year, several cryptocurrencies including Bitcoin (BTC), Bitcoin Cash (BCH), Litecoin (LTC), Binance Coin (BNB), Tezos (XTZ), and Chainlink (LINK) showed price increases during 2019.
These outperforming cryptocurrencies generated returns that exceeded those of several Indonesian stock market indices and various foreign currencies. However, other cryptocurrencies like Ethereum, XRP, and Tether experienced price declines throughout 2019.
The Sharpe and Sortino ratios, which measure risk-adjusted returns, revealed that cryptocurrency investments could deliver relatively high returns, particularly during periods of price appreciation. However, the presence of volatility clustering means investors must remain cautious, as prices can also experience significant declines.
Correlation Patterns Between Cryptocurrencies
The analysis revealed varying correlation patterns between different cryptocurrencies. Some pairs showed relatively high positive correlations (>0.8), such as between Bitcoin (BTC) and Litecoin (LTC) and DASH. Conversely, other cryptocurrency pairs showed correlations close to zero, such as between USDT and XRP. These low correlation patterns tended to remain consistent throughout the two-year study period.
Regulatory Context in Indonesia
From a regulatory perspective, cryptocurrencies are recognized as legal commodities for trading in Indonesia but aren't recognized as legal tender like foreign currencies. As commodities, cryptocurrencies aren't considered payment instruments, meaning banks and financial institutions aren't required to facilitate cryptocurrency exchanges as they do with foreign currencies. This regulatory framework places full investment responsibility on individual investors.
The differing return patterns between cryptocurrencies and traditional foreign currencies have two important implications. First, cryptocurrency investments shouldn't be treated like traditional foreign currency investments. Second, risk and potential measurements for Indonesian investors should be conducted directly against the Rupiah, as measurements against other currencies introduce additional exchange rate risk.
Frequently Asked Questions
What makes cryptocurrency different from traditional investment options?
Cryptocurrencies operate on decentralized blockchain technology without central authority control, unlike traditional currencies and investments regulated by governments and financial institutions. This decentralization creates both opportunities for higher returns and increased volatility compared to conventional assets.
How risky are cryptocurrency investments compared to stocks?
The research indicates cryptocurrency investments generally carry higher risks than traditional stock market investments in Indonesia. Most cryptocurrencies exhibited greater price volatility and higher potential for losses measured through Value at Risk and Expected Tail Loss metrics compared to stock indices.
Are all cryptocurrencies equally risky?
No, risk levels vary significantly between different cryptocurrencies. While most showed higher risk profiles than traditional investments, stablecoins like Tether (USDT) demonstrated risk levels comparable to stock market investments, highlighting the importance of evaluating each cryptocurrency individually.
What timeframe is appropriate for cryptocurrency investment?
Given the high volatility and observed volatility clustering, cryptocurrencies may not be suitable as long-term "buy and hold" investments for risk-averse investors. They appear more appropriate for investors comfortable with higher risk levels who can actively monitor and manage their positions.
How does Indonesian regulation affect cryptocurrency investment?
Indonesian regulations recognize cryptocurrencies as tradable commodities rather than legal payment instruments. This means investors bear full responsibility for their investment decisions, and financial institutions don't provide the same protections offered for traditional currency investments.
Should cryptocurrency be part of a diversified investment portfolio?
The relatively low correlation between cryptocurrency returns and traditional asset returns suggests they may offer diversification benefits. However, their high risk characteristics mean they should likely represent only a small portion of a well-diversified portfolio, particularly for risk-averse investors.
Conclusion and Future Research Directions
This research demonstrates that different cryptocurrencies offer varying levels of potential returns and risks. Additionally, cryptocurrency returns show volatility clustering patterns, meaning risk levels aren't constant over time. Some cryptocurrencies provide relatively high returns with correspondingly high risks, making them more suitable for risk-seeking investors.
The study was limited to 15 cryptocurrencies among thousands available worldwide, suggesting that other cryptocurrencies might demonstrate different performance characteristics. Future research should explore more complex heteroscedasticity models to measure cryptocurrency volatility, identify macroeconomic variables affecting cryptocurrency exchange rates (particularly in Indonesia), and develop effective investment strategies for cryptocurrency assets.
For those interested in deeper analysis of cryptocurrency markets and investment strategies, explore more advanced analytical methods that can help identify potential opportunities while managing risks effectively. The evolving nature of this asset class requires continuous research and updated investment approaches to navigate its unique characteristics successfully.