Testing the Local Martingale Theory of Bubbles using Cryptocurrencies

101 Pages Posted: 13 Oct 2020 Last revised: 18 May 2021

See all articles by Soon Hyeok Choi

Soon Hyeok Choi

Cornell University - SC Johnson College of Business

Robert Jarrow

Cornell SC Johnson College of Business

Date Written: October 20, 2020

Abstract

Cryptocurrencies provide the ideal and natural experimental setting to test the local martingale theory of bubbles, because they have no cash flows. Using this theory, we test for the existence of price bubbles in eight cryptocurrencies from January 1, 2019 to July 17, 2019. The cryptocurrencies are Bitcoin (BTC), Litecoin (LTC), Ethereum (ETH), Ripple (XRP), Bitcoin Cash (BCH), EOS (EOS), Monero (XMR), and Zcash (ZEC). A novel, simple, and robust testing methodology is created to facilitate this estimation. During this time frame, five of the eight currencies (BTC, BCH, EOS, XMR, ZEC) exhibit price bubbles, Litecoin does not, and the evidence for Ethereum and Ripple is inconclusive. The paper provides strong evidence for the prevalence of bubbles in cryptocurrencies and supports the feasibility of applying the local martingale theory of bubbles to various asset classes.

Keywords: Price Bubbles, Arbitrage Pricing Theory, Martingale, Cryptocurrency

JEL Classification: G12, G13, G14, G17, G18

Suggested Citation

Choi, Soon Hyeok and Jarrow, Robert, Testing the Local Martingale Theory of Bubbles using Cryptocurrencies (October 20, 2020). Available at SSRN: https://ssrn.com/abstract=3701960 or http://dx.doi.org/10.2139/ssrn.3701960

Soon Hyeok Choi (Contact Author)

Cornell University - SC Johnson College of Business ( email )

The School of Hotel Administration
Statler Hall
Ithaca, NY 14850
United States

Robert Jarrow

Cornell SC Johnson College of Business

Ithaca, NY 14850
United States

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