Mutual coupling between stock market and cryptocurrencies

We examine the relationship between the top five cryptos and the U.S. S&P500 index from January 2018 to December 2021. We use the novel General-to-specific Vector Autoregression (GETS VAR) and traditional Vector Autoregression (VAR) model to analyze the short-and long -run, cumulative impulse-response, and Granger causality test between S&P500 returns and the returns of Bitcoin, Ethereum, Ripple, Binance and Tether. Additionally, we used the Diebold and Yilmaz (DY) spillover index of variance decomposition to validate our findings. Evidence from the analysis suggests positive short-and long-run effects of historical S&P500 returns on Bitcoin, Ethereum, Ripple, and Tether returns--and negative short-and long-run effects of the historical returns of Bitcoin, Ethereum, Ripple, Binance, and Tether on S&P500 returns. Alternatively, evidence suggests a negative short-and long-run effect of historical S&P500 returns on Binance returns. The cumulative test of impulse-response indicates a shock in historical S&P500 returns stimulates a positive response from cryptocurrency returns while a shock in historical crypto returns triggers a negative response from S&P500 returns. Empirical evidence of bi-directional causality between S&P500 returns and crypto returns suggest the mutual coupling of these market. Although, S&P500 returns have high-intensity spillover effects on crypto returns than crypto returns have on S&P500. This contradicts the fundamental attribute of cryptocurrencies for hedging and diversification of assets to reduce risk exposure. Our findings demonstrate the need to monitor and implement appropriate regulatory policies in the crypto market to mitigate the potential risks of financial contagion.

Automated summary

This study examines the relationship between the top five cryptocurrencies and the U.S. S&P500 index from January 2018 to December 2021 using the GETS VAR and VAR models. The findings indicate positive short- and long-run effects of historical S&P500 returns on Bitcoin, Ethereum, Ripple, and Tether returns, while negative effects of historical returns of these cryptocurrencies on S&P500 returns. The impulse-response analysis suggests that shocks in S&P500 returns stimulate positive responses from cryptocurrency returns, while shocks in cryptocurrency returns trigger negative responses from S&P500 returns. The bi-directional causality between S&P500 returns and crypto returns highlights the need for appropriate regulatory policies to mitigate potential risks of financial contagion in the crypto market.