Abstract
This paper explores the cryptocurrency market through the prism of traditional multifactor asset-pricing models with particular attention to the downside market risk. The analysis for about 2000 cryptocurrencies reveals that there is a significant heterogeneity in the exposure to the downside market risk, and that a higher downside risk exposure is associated with higher average returns. This finding is irrespective of whether we use cryptocurrency market or equity market as the benchmark. The extra downside risk is priced with a statistically significant premium in cross-sectional regressions. Adding the downside risk component to the CAPM and the 3-factor Liu, Tsyvinski, and Wu (2022) model for cryptocurrencies improves the explanatory power of the models significantly. The downside risk is orthogonal to the size and momentum risks and constitutes an important component in the multifactor cryptocurrency pricing model. The result is robust in sub-samples of cryptocurrencies with different market capitalizations.
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