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Navigating Risk in Crypto Markets: Connectedness and Strategic Allocation

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  • Nader Naifar

    (Department of Finance, College of Business, Imam Mohammad Ibn Saud Islamic University (IMSIU), Riyadh 11564, Saudi Arabia)

Abstract

This study examined the dynamic interconnectedness and portfolio implications within the cryptocurrency ecosystem, focusing on five representative digital assets across the core functional categories: Layer 1 cryptocurrencies (Bitcoin (BTC) and Ethereum (ETH)), decentralized finance (Uniswap (UNI)), stablecoins (Dai), and crypto infrastructure tokens (Maker (MKR)). Using the Extended Joint Connectedness Approach within a Time-Varying Parameter VAR framework, the analysis captured time-varying spillovers of return shocks and revealed a heterogeneous structure of systemic roles. Stablecoins consistently acted as net absorbers of shocks, reinforcing their defensive profile, while governance tokens, such as MKR, emerged as persistent net transmitters of systemic risk. Foundational assets like BTC and ETH predominantly absorbed shocks, contrary to their perceived dominance. These systemic roles were further translated into portfolio design, where connectedness-aware strategies, particularly the Minimum Connectedness Portfolio, demonstrated superior performance relative to traditional variance-based allocations, delivering enhanced risk-adjusted returns and resilience during stress periods. By linking return-based systemic interdependencies with practical asset allocation, the study offers a unified framework for understanding and managing crypto network risk. The findings carry practical relevance for portfolio managers, algorithmic strategy developers, and policymakers concerned with financial stability in digital asset markets.

Suggested Citation

  • Nader Naifar, 2025. "Navigating Risk in Crypto Markets: Connectedness and Strategic Allocation," Risks, MDPI, vol. 13(8), pages 1-17, July.
    • Handle: RePEc:gam:jrisks:v:13:y:2025:i:8:p:141-:d:1707737
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    References listed on IDEAS

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    1. Briola, Antonio & Vidal-Tomás, David & Wang, Yuanrong & Aste, Tomaso, 2023. "Anatomy of a Stablecoin’s failure: The Terra-Luna case," Finance Research Letters, Elsevier, vol. 51(C).
    2. Xu, Qiuhua & Zhang, Yixuan & Zhang, Ziyang, 2021. "Tail-risk spillovers in cryptocurrency markets," Finance Research Letters, Elsevier, vol. 38(C).
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