A study on #bitcoin's volatility and extreme tails. Start of thread...
1/ Key takeaways:
1. As seen below, and somewhat obvious today, bitcoin's volatility has decreased.
2. Bitcoin has consolidated 84% of the time, above the rule-of-thumb 70% given in financial literature.
3. Bitcoin days of extreme volatility seem to have diminished over time.
4. Based solely on recorded volatility, there have been two extremely catastrophic days in the history of bitcoin. Which days? The answer is at the end of this thread.
The first chart below provides every single trading day in context on how volatile it is relative to 1 to 4 standard deviations (a.k.a. sigma units).
Let's dive in...
2/ As of today, bitcoin's price has "consolidated," or traded below 1 standard deviation of returns, 84% of the time. This is high compared to the usual 68% seen in a given asset (per Mandelbrot et. al, "The (Mis)Behavior of Markets").
Extreme-volatility days above 4 standard deviations have occurred only 0.4% of the time.
However, although extreme tails are scarce, they could be catastrophic for a portfolio or leveraged position, so one should very much keep them in mind.
3/ The good news, catastrophic events (in red below) seem to have become less frequent over time, with the last two on record being the COVID crash in early 2020 and the capitulation days prior to the FTX collapse in mid-2022.
In total, bitcoin has recorded 11 "catastrophic" days so far.
4/ Another way to look at catastrophic risk is by measuring bitcoin's trading time. Trading time, unlike the clock time we typically use (which adds units of time linearly), weights time by "accelerating" when volatility is high and "slowing down" when volatility is low.
For context, bitcoin's clock time, or market age, is around 15 years. Its trading time, however, is only 7 years. This makes sense given bitcoin spends trading below 1 standard deviation 84% of the time.
Evident in the chart below, we see that trading time exploded on two occasions (by a 75x multiple to linear time!): the first Mt. Gox outage in April, 2013, and the COVID-19 crash in March, 2020.
Although extreme volatility is and will remain an inherent part of bitcoin and all markets, we are pleasantly surprised by bitcoin's ability to overcome its (very) bad days and consolidate into an institution-grade asset of its own.
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