Machine Learning and the Cross-Section of Cryptocurrency Returns
65 Pages Posted: 11 Dec 2022 Last revised: 17 May 2023
Date Written: December 6, 2022
We employ a repertoire of machine learning models to investigate the cross-sectional re-turn predictability in cryptocurrency markets. While all methods generate substantial economic gains—unlike in other asset classes—the benefits from model complexity are limited. Return predictability derives mainly from a handful of simple characteristics, such as market price, past alpha, illiquidity, and momentum. Contrary to the stock market, abnormal returns in cryptocurrencies originate from the long leg of the trade and persist over time. Furthermore, despite high portfolio turnover, most machine learning strategies remain profitable after trading costs. However, alphas are concentrated in hard-to-trade assets and critically depend on harvesting extreme returns on small, illiquid, and volatile coins.
Keywords: cryptocurrency markets, machine learning, return predictability, limits to arbitrage, asset pricing, the cross-section of returns
JEL Classification: G11, G12, G17
Suggested Citation: Suggested Citation