Cryptocurrency market sentiment is often influenced by diverse factors, such equally skilful forecasts or political events. However, if analyzing on a wider time frame, it turns out that the prices of most cryptocurrencies — especially of Ether (ETH) — could mostly depend on the valuation of Bitcoin (BTC).

The results of inquiry conducted by analysts from Skew in November 2022 showed that ETH had been the highest-correlated cryptocurrency to BTC for two years running, with an average correlation coefficient of 0.9. Meanwhile, ETH was the highest correlated asset in 2022, as reported past the Binance research team on Jan. 22, 2022.

If this is the case, is it worth relying on correlation when buying cryptocurrencies? Could ETH be less correlated to BTC than is commonly believed? To notice the answer, Cointelegraph analyzed the cryptocurrency charts for the by 3 years and talked to experts with opposing views on the affair.

What is the correlation?

The concept of correlation in stock marketplace trading refers to the phenomenon when the values of two assets motility in a similar direction. However, when information technology comes to the cryptocurrency market, correlation may utilise to all assets at in one case. This is what happened as a result of a massive Bitcoin toll crash in early 2022, followed by a simultaneous driblet in the capitalization of all other cryptocurrencies.

Opinion #1: Bitcoin is king

Do the same observations hateful that Bitcoin is the front-runner and key influencer of the crypto market place, and is therefore the main trendsetter? Cryptocurrency substitution charts show that a decrease in the BTC price inevitably affects the exchange rate of ETH, XRP, Litecoin (LTC) and other assets.

As such, the influence of BTC price on other cryptocurrencies, and particularly on ETH, is a natural event in the digital nugget market, according to traders and market place analysts. Pierce Crosby, general manager at financial trading charts platform TradingView, spoke to Cointelegraph on the affair:

"Everything correlates to Bitcoin, much like in the U.S. disinterestedness market, everything correlates to the U.S. dollar. Bitcoin is the largest store of wealth for the asset class, and then everything is basically 'pegged' against its overall performance. It's an important stardom to brand, and something people don't really understand or take the time to consider. When we see asset prices ascent — i.e. ETH or LTC, we have to benchmark information technology against the broader index movement."

According to the latest study on cryptocurrency volatility, published by San Francisco Open Exchange, the current correlation between the performance of BTC and ETH is significantly higher than the correlation between the values of BTC and other altcoins. The analysts noted the actively discussed and oft controversial news about Facebook's Libra every bit the main reason for similar beliefs of the height two cryptocurrencies.

Michaël van de Poppe, a cryptocurrency marketplace annotator and trader at the Amsterdam Stock Commutation, told Cointelegraph that Ether will always accept some correlation to Bitcoin, equally "Bitcoin is the male monarch and normally the residuum will follow in the market place." He compared this correlation with the bolt markets, where gold is the leading asset, its cost changes followed past other metals.

So it seems that when information technology comes to the cryptocurrency market, Bitcoin price is indeed a barometer of investor sentiment regarding digital currencies in full general. Therefore, if it changes due to systemic factors affecting the market — for example, increased volatility in traditional markets or a alter in cryptocurrency regulation — the ETH rate may change in the same management as that of BTC.

Opinion #2: ETH does non follow BTC

On the other hand, if there is an upshot that turns out to be a specific influencing factor for BTC price — for instance, the Usa Securities and Exchange Commission rejecting to accredit an exchange-traded fund application — the correlation may become negative, and ETH may increase in price amid the falling BTC rate. According to Van de Poppe, the correlation between the two leading crypto is dissimilar in diverse parts of the cycle:

"Some parts the correlation is high in which Ethereum outperforms Bitcoin, in some parts it'south depression as Ethereum drops hard against Bitcoin, while Bitcoin trends upward against USD. It's dissimilar in dissimilar parts."

The comparison of the BTC and ETH charts shows that some patterns of their price movements coincide over a long menstruation of time. This correlation tin exist either positive (from 0 to ane), or negative (from 0 to -1). A positive correlation, such as the current correlation between BTC and ETH, suggests that if the cost of Bitcoin grows significantly, ETH can also increase in its value over the aforementioned catamenia of time. This phenomenon is peculiarly noticeable with large toll fluctuations. Notably, the BTC–ETH correlation is instantaneous in most cases — when coin prices change with a difference of several minutes or hours.

Correlation metrics between BTC and ETH prices

The question is, however, whether Ether is so dependent on Bitcoin as is commonly believed? As it turns out, ETH does not always accurately echo the BTC price movements and tends to show independence rather often.

Such results were proven by the analysis of 14 significant changes in the price of BTC and ETH that occured in the period from June 2022 to December 2022, when their correlation coefficient varied from 0.26 to 0.89. The ascertainment showed that in five out of xiv cases, the ETH price repeated the behavior of BTC — while in four cases, the correlation was negative.

Relationship between BTC and ETH price movements

The results presented above are besides supported by research conducted by Three Arrows Majuscule hedge fund's CEO, Su Zhu. According to his data, BTC and ETH have shown multidirectional dynamics nine times over the past 3 years.

Zhu too pointed to the fact that throughout the cryptocurrency market place's history, the first quarter of the year has always shown an interesting correlation between ETH and BTC. Each year, ETH demonstrated a xxx% increase in toll inside one month, while BTC always decreased over the same period of time. Also, Ethereum price growth almost always occurred from January to June. However, from Oct to December 2022, BTC showed its 538% growth followed by an increase in the prices of other cryptocurrencies. Van de Poppe told Cointelegraph on the thing:

"The reason is quite simple; the king of movers are Ethereum and Bitcoin and still, the majority of the ICOs are based on Ethereum. And then when Ethereum moves, they usually follow. The aforementioned goes for the IEOs. If Binance Money trends upwardly, they usually follow."

BTC–ETH correlation

At the aforementioned time, according to Zhu, the correlation between the ii cryptocurrencies indeed intensified over the past year. The possible reason for that modify might be not a very successful year for the Ethereum network — particularly the team's failure to release the full version of Ethereum 2.0.

However, researchers at San Francisco Open up Exchange propose that, in general, the high correlation of ETH may not propose its dependence from BTC, simply rather the fact that the Ethereum blockchain has received more recognition, and the price of ETH every bit an independent asset was significant compared to other altcoins.

What is incorrect with high correlation?

The aureate rule of whatsoever investor is diversification of the investment portfolio, which is usually achieved by acquiring assets with low correlation. Thus, if one of the assets rises in price, the other is likely to autumn. The investor takes profit in the showtime case and waits for the growth of the asset's value in the 2nd.

However, in the cryptocurrency market, the alter in prices of most coins unremarkably occurs simultaneously. This observation is confirmed by the Binance Research written report published on January. 22. According to its results, the average correlation between the leading altcoins by capitalization in 2022 was 0.7.

This means that in lxx% of cases, cryptocurrencies such equally Ether, Litecoin, EOS, XRP, Bitcoin Cash (BCH), Binance Money (BNB) and others grew and vicious simultaneously. Therefore, using them to diversify the investment portfolio might not make sense. Analyst Larry Chermak believes that the excessive interdependence betwixt assets creates obstacles to the effective diversification of the investment portfolio.

An introduction of tokenized securities may somewhat mitigate the problem because such financial instruments exercise non correlate with the wider market. However, this is a separate class of digital assets, which — unlike permissionless assets — requires strict compliance with KYC/AML.

Proving correlations is possible but hard

In this unstable market, no ane can know what the correlation of cryptocurrencies will exist in a year, a calendar month or even a week. Likewise, it cannot exist argued that there is a complete and straight correlation between the ETH and BTC prices. Nearly of the fourth dimension, ETH really follows BTC, simply in that location are occasionally times when it demonstrates independence and shows good results.

Moreover, according to Salah-Eddine Bouhmidi, a financial market analyst at DailyFX & IG, there is still not plenty data to prove whether the correlation is positive or negative: "The possible positive correlation may be only becoming visible because Bitcoin is nonetheless the main driver of the market place. If Bitcoin gets momentum, others besides start to pick upward." Van de Poppe shared the same point of view:

"Correlation is important in this market, nonetheless, the significance of correlation is hard to test in such a style that proving correlations is well-nigh incommunicable. There'south been tests of seeking correlations between equity markets and cryptomarkets, simply no correlation was found for several reasons, while the charts imply something else. Same goes for altcoin / Bitcoin cycles."

Bouhmidi also noted that correlation is an of import tool in the cryptocurrency market, but that ane should not rely on it entirely — because when it comes to crypto, people should be conscientious:

"A correlation can only be statistically meaning if you lot take a huge database or sample size. Cryptocurrencies are still young and exercise not have a huge historical data. I would say that we tin run across correlations in the crypto markets, but we still do not know whether they are robust."