Risk-Return Analysis of Minimum Variance Portfolios in the Cryptocurrency Market

Abstract

Indices for performance evaluation have been developed in line with the expansion of the crypto asset market, but these indices are currently based mainly on market capitalization-weighted (CW) indices. In the equity asset class, previous empirical studies have pointed out that the minimum variance (MV) portfolio is superior to the CW in terms of risk-return efficiency, and new indices have been developed. Asset management based on minimum variance indices is now one of the most popular investment strategies. With regard to crypto assets, although there are many studies on the effectiveness of adding crypto assets to a portfolio of traditional assets, there are few studies on portfolio construction within the crypto asset class, and to the authors’ knowledge, there are no studies comparing MV and CW yet. Therefore, in this study, we perform a comparative risk-return analysis of MV and CW in the crypto asset market. Monthly return data of 130 assets from Binance were used to construct MV. Given the high dimensionality and limited sample size, we used an improved version of Bayesian graphical LASSO which Oya and Nakatsuma (2022) proposed for estimation. 3-year operational experiments were conducted from 2022 to 2024, and MV was compared to a representative CW, S&P Cryptocurrency Broad Digital Market (BDM) Index. The results show that MV achieves higher returns with lower risk than CW, and is superior in terms of risk-return efficiency. This result is consistent with previous studies showing the superiority of MVs in the stock market and indicates that a similar trend may exist in the crypto asset market.