Cryptocurrency return predictability: What is the role of the environment?

Abstract

This paper investigates the lead-lag relationship across the returns of four cryptocurrencies - Bitcoin, Ethereum, Tether and TrueUSD. It identifies the important role of the environment in forecasting the cryptocurrency returns. The study compares the predictive ability of environmental variables such as temperature anomalies and CO2 emissions with that of commodities i.e. Gold and WTI returns. To the best of our knowledge, our study is the first attempt to investigate the leading role of the environment in predicting cryptocurrency returns. Most studies in the literature examine the environmental cost of Bitcoin, but none has considered the possible causal effect of the environment on Bitcoin returns. Our results show evidence of limited predictive power of lagged commodity returns, while lagged CO2 emissions significantly predict the returns of volatile cryptocurrencies, i.e. Bitcoin and Ethereum. On the other hand, environmental variables do not show any predictive power in the returns of stable coins (Tether and TrueUSD). Our findings highlight the increased awareness regarding the degradation of the environment and rapid climate change. Our results have important policy implications.