Professor Coin: Do Investors Treat Crypto Differently?

Professor Andrew Urquhart is Professor of Finance and Financial Technology and Head of the ICMA Centre at Henley Business School, University of Reading.

Welcome to Professor Coin, a new column in which I bring important insights from recently published academic literature on cryptocurrency to the Decrypt readership.

In this first installment, I’ll outline the main findings of a recent paper in one of the top finance journals by authors from the Wharton School, London School of Economics, Kelley School and Business and MIT.

The paper “Are cryptos different? Evidence from retail trading” collects data from popular retail trading platform eToro to explore whether traders use different strategies when trading traditional assets, compared to cryptos.

Initially, the paper’s authors show that traders use contrarian strategies when buying stocks and gold; that is, they trade against the prevailing market trends and believe the market will reverse in the future, and they aim to benefit from this reversal.

For instance, if a stock goes up by 10%, then a contrarian trader would trade against the stock (in other words, short the stock) in the expectation that the stock will fall in price in the future. Contrarian strategies are very popular and famously used by prominent traders such as Warren Buffet and Michael Burry.

However, crypto investors appear to hold their chosen asset for a long time, even after large price movements—suggesting momentum-like strategies. Momentum strategies are also very popular and aim to follow the trend in the market in a herding manner, and benefit from the continuation of the price movement.

Differences in behavior

The stark difference in behavior may be due to the fact that traditional asset traders and crypto investors are fundamentally different, but even when the authors study investors who trade both asset classes, the difference in styles remains—and is therefore not the result of heterogeneity across traders.

Further, the difference isn’t due to the age, wealth, gender, knowledge or experience in the financial industry of the traders, or their attention to their portfolio.

So what’s driving this difference? One theory is that investors may have naively optimistic beliefs about cryptocurrencies as they are new to the market. However this can be ruled out, since the behaviors persist even after the 2018 crash, and therefore the momentum-like behavior continues even after large price drops.

Another theory is that investors are treating cryptos like lottery-type stocks—in other words, stocks that have a larger upside than other stocks. However, this can also be ruled out as the investors treat lottery-type stocks very differently to cryptos in their trading portfolios.

Finally, the authors note that the difference in styles cannot be explained by earning announcements affecting stock trading, and the fact that trading fees were higher for cryptos, therefore discouraging investors to trade cryptos.

The authors conclude that investors may have different models and expectations for trading traditional assets and cryptos, and that crypto investors may be trading in the expectation that higher prices may lead to more adoption—which in turn creates future growth. Hence, from this study, investors treat the cryptocurrency asset class very differently to other asset classes.

For more information, see Kogan, S., Makarov, I., Niessner, M., Schoar, A. (2024). Are cryptos different? Evidence from retail trading. Journal of Financial Economics, 159, 103897.