Disclaimer: This article does not contain investment advice or recommendations. Every investment and trading move involves risk, you should conduct your own research when making a decision.
Observations of the crypto market give impression that “when Bitcoin sneezes, the cryptocurrency market catches a cold”, – in traditional stock markets this would not be the case. Although there are public companies whose stock movements have strong correlations due to those doing similar work in the same industry - oil companies, for example[1] - investors are still capable of diversifying away risk in an equally weighted portfolio by adding stocks with negative correlations[2] to the portfolio.
Technically, diversifying away risk in a crypto-only portfolio could be difficult. Creating a two-asset portfolio with highly correlated stocks gives an investor a greater risk of losing more wealth. When two assets have a strong correlation coefficient they tend to move in the same direction. If two assets in the same portfolio move in the same direction then your gains in wealth will be greater and your losses more severe. That could be the reason why investors try to create portfolios with negatively correlated stocks.
If one asset is declining in a portfolio consisting of two assets that are negatively correlated, then the other asset in the portfolio should be increasing. This should in effect diminish the maximum amount of wealth that can be lost in a portfolio.
Just from checking out the digital asset prices on a cryptocurrency exchange, one can see that they are highly correlated with one another. If Bitcoin is in the red for the day, nearly every cryptocurrency on the homepage will be in the red, if Bitcoin is in the green, – so would be the others. That is why people say
