The cryptocurrency market is inherently unstable, making navigation for traders and investors impossible. Thus, understanding price behaviors, especially in the aftermath of abnormal returns, can help in strategy formulation to get profitable strategies.
The first of its kind groundbreaking study is introducing “Momentum Effects in the Cryptocurrency Market After One-Day Abnormal Returns” by Googly Elmo, Maria Karali, and Alex Plaston.
Based on the analysis of a broad database, by applying statistical methods of trading simulation, this paper provides actionable momentum patterns and contrarian effects, too, which are useful for traders to fine-tune their techniques.
Understanding Momentum in Cryptocurrency Markets
The cryptocurrency market is well recognized for its high volatility in wild swings in prices. Traders are always observing any patterns or anomalies that could provide them with an inkling as to the future behavior of prices. This paper focuses on one such phenomenon: momentum effects after one-day abnormal returns.
Momentum effects are self-sustaining phenomena wherein large changes in the asset price tend to persist for a while longer. In the context of cryptocurrency trading, this may be a gold mine of profit opportunity identification.
Scoping of the Study
The current paper covers research into three of the most prominent cryptocurrencies:
- Bitcoin – BTC
- Ethereum – ETH
- Litecoin (LTC)
This paper undertakes a two-and-half-year-long analysis, starting on January 1, 2017, and ending on September 1, 2019, during which most of the developments within the field of cryptocurrency took place. The present study investigates:
- Intraday behavior of hourly returns for overreaction days with those on normal days.
- Momentum effects on overreaction days and subsequent days.
- Specific contrarian effects under unique circumstances.
Key Methodologies
In order to unravel these dynamics, the researchers employed:
- Statistical Methods: Stringent testing to find a comparison of hourly returns on abnormal days with average days.
- Trading Simulations: Practical ways to assess the profitability of identified patterns.
These methodologies ensure that the findings are statistically significant as well as actionable in live trading.
Findings: Momentum and Contrarian Effects
A number of the more interesting observations regarding the behavior of the cryptocurrency market after one-day abnormal returns are presented in this study.
1. Days of Overreaction
Thus, overreaction days are the days in which a return is very high or very low, caused by a sudden change in market sentiment or by external news. On such days:
- Hourly Returns: Returns well above or below the average, indicating a higher intensity of market activity in that hour.
- Momentum Behavior: Prices tend to move in the direction of the overreaction until the end of the day.
2. Momentum Effects
On days of overreaction, the momentum effects become most conspicuous, whereby prices:
- Prolong their directional movement to exploit profit opportunities.
- It gives recognizable patterns that traders can use to estimate timing parameters on which to take action before the day is closed.
3. Contrarian Effects
For two cases, the study interestingly finds contrarian effects:
- BTC/USD Positive Overreactions: Prices move in a direction opposite to the overreaction on the next day.
- ETH/USD Negative Overreactions: Prices move in the opposite direction the very next day.
These contrarian patterns are complex and reinforce the fact that not all momentum effects can be straightforward.
Implications for Trading Strategies
These results have deep implications for cryptocurrency trading strategies.
1. Utilizing Momentum Effects
This provides traders with an opportunity to profit from momentum effects following overreaction days. If an early identification of such days can be made, then the direction of continued price movement may be predicted and favorable positioning obtained.
2. Navigating Contrarian Effects
Given the contrarian effects seen in BTC/USD and ETH/USD, a different approach might be warranted:
- BTC/USD: Traders should expect price reversals subsequent to days of positive overreaction.
- ETH/USD: Any overreactions to the downside are likely to provide buying opportunities for the following day.
3. Refining Entry and Exit Points
This study puts forward that timing is everything in cryptocurrency trading. Therefore, an estimation of some timing parameters during days of overreaction will help the trader time his entry and exit positions correctly in order to maximize his returns.
Impacts of a Wider Reach on Market Analysis
Beyond trading strategies, this research contributes to the broader understanding of cryptocurrency market dynamics.
1. Anomalies in the Market
The presence of momentum and contrarian effects underlines the anomalies in the cryptocurrency market. These, in turn, question the efficient market hypothesis, assuming at any time that prices reflect all available information.
2. Investor Behaviour
These findings give insight into investor sentiment and behavior in light of stock price movements in cases involving abnormal returns. Such information will have the effect of allowing this market participant to anticipate as well as react to unexpected stock price actions.
3. Future Research
This study opens the way for further investigation into:
- Factors that contribute to overreactions in cryptocurrency markets.
- The role of exogenous events, such as announcements concerning regulations or technological breakthroughs.
- Comparative analysis between Stocks, Commodities, and other asset classes.
Conclusion
The paper “Momentum Effects in the Cryptocurrency Market After One-Day Abnormal Returns” by Googly Elmo, Maria Karali, and Alex Plaston is an interesting addition to understanding how cryptocurrency markets work. Key takeaways include:
- Identification of momentum effects on overreaction days that present exploitable profit opportunities.
- Which leads to contrarian effects in some cases, making market dynamics more complex.
- Practical implications of trading strategies, including timing refinement and entry/exit points.
The further evolution of the cryptocurrency market would mean that these patterns need to be understood by both traders and investors. The paper discussed herein enriches our understanding not only of the anomalies occurring in the market but also opens new horizons for innovative strategies within this field, which changes at the speed of light. To get more enlightenment on trading strategies and happenings within the market, please stay tuned for updated research works and trends in the cryptocurrency realm.