Bitcoin Investment Risk

You are interested in buying Bitcoin but would like to understand the potential return on investment (ROI), expected holding time, and overall risk before you buy. Your goal is to maximize the potential return within reasonable risk over the course of a year.

To understand the potential ROI of Bitcoin we will look at the historical returns and see how confident we can be in our analysis results.

Learning Objectives

To analyze Bitcoin data only after the major change on December 12, 2017 (when Bitcoin reached its highest value). Find correlations, patterns, or causations of what might be influencers that affect volatility of Bitcoin movement.

Statistics Needed

Historical Bitcoin data
Line Chart
Box Plot
Histogram
Q-Q Plot
Box Test

Data Sources

Yahoo Finance BTC 5Y Historical Data

Tasks:

Follow the steps below and answer questions to analyze bitcoin’s historical data and make predictions for the future. Let’s use a 6-step business analytics problem solving process to address this case.

Step 1. Recognizing the problem

What is the reason for looking at historical data?
What factors can affect BTC value?
Is historical data predictive of future values?

Step 2. Defining the problem

At a glance can you tell how BTC value trending?
Is it beneficial to look at all historical data or focus on a specific range?

Step 3. Structuring the problem

Does the data fit a normal distribution? If not, can we get it to?
Is their data to look out for that may negatively affect our results?
What range of data is relevant to our initial question?

Step 4. Analyzing the problem

What models can we use to interpret the data?
Can/should we transform the data?
What are our calculated returns? Do they make sense (intuitively)?

Step 5. Interpreting results and making a decision

How confident can we be with our results?
What assumptions were made and how o they affect our results?
With something so volatile, can we calculate risk reliably?

Step 6. Implementing the solution

What range of risk is acceptable?
What metrics can we use to measure success or failure of our decision?
Are there any limitations or outside factors we need to consider that will significantly change our decision?

Questions to Answer:

Collect Bitcoin’s current to the past three years’ closing price data. What do you notice? Determine its stochastic characteristics.
Describe the stochastic characteristics, in what month and year do they occur. Should we assume this pattern would repeat or remain the same in the future?
What data should be used to characterize these patterns, if any, for future predictions? What is a reasonable date range of data that can be useful for this risk analysis?
What are the returns for the past three years? Was the difference of log of the values a good approximation to the returns?
Use Geometric Brownian Motion to simulate Bitcoin price behavior. Is it a reasonable model?
Determine value at risk for one-year final price. What is the value at risk for investing in one bitcoin today?
Can we reliably use historical volatility for bitcoin risk?
Compute the beta relative to S&P500 and VIX. Is buying a Bitcoin now and holding it for a year a good investment? (>1 riskier, <1 less risky, < 0 risk reducing when held together)
Now, let’s try do analysis only with date from December 12, 2017 to present. Do our assumptions still hold?
Is there a correlation on return between S&P 500 and Bitcoin? If so, describe the correlation!

Extra-credit!

Compute the beta relative to S&P500 for the new data. Did the investment risk and strategy change from when we used the last 12 months?

Report

Write a professional report as if you were trying to convince ‘executives’ of a company to invest with you in Bitcoin. The report should be to the point and give specific, actionable advice or solutions based on the data and analytics. Avoid technical aspects and terms that are non-essential and any speculations not substantiated by the data. This report should be concise without lengthy explanations being necessary to understand it.

There is no min or max page limit as charts and tables can take up a highly variable amount of space. However, any charts or tables included need to be understandable to a layman at first glance (labeled and captioned if needed). The particular models you use, interpretations, and advice given are your choice and you should be prepared to explain or defend this if needed!

Use this as an outline for the report:

A. Description of the business problem

What has been the trend of Bitcoin and how much risk are you willing to take?
What are the key factors that make investing a good option?
Why are your findings important?
What questions will be answered and how do these explicitly help address the decisions?

B. Data, methods, and models and results

Discuss the basic approach used to analyze the data and any concerns about the integrity and quality of the data used. e.g. “There is concern about using year(s) x for calculating expected returns because of unusually high volatility during months a, b, c.”
Briefly describe the models used (formulas, tables, graphs) indicating what they are used for (try to avoid technical details) e.g. “This model allows us to use transformed data with results with a reliability of x%.”
Provide detailed answers to the decision questions using the models
Indicate all “important” assumptions made and why you think they are reasonable. An assumption is important if: you need it to get a result e.g. “A spike in value during yy-yy-yyyy was left out of our data range because it was uncharacteristic.” or, if wrong or invalid, would significantly affect your results. e.g. the assumption “Bitcoin price isn’t affected by seasons”. If wrong or invalid, would significantly affect what date ranges could be used for analysis and when you could invest.
Do not list technical assumptions used for statistical analysis e.g. “We assume the sales data is Normally distributed.”

C. Decision making

Explain specifically how you used the models and results to make your decisions. This may be literal results such as “We will never buy BTC when its price rises above $x because our model shows a significant increase in risk that we are not willing to take.”
Detail special considerations or issues to watch out for e.g. “If there is a large influx of investment into BTC we must watch out for changes in the volatility of the market.”
Describe how the effects from using the results for making the decisions can be measured or observed. i.e. How can the executives know that risk won’t increase or decrease over time?