Connectedness between Derivative Tokens, Conventional Cryptocurrencies and Metals: Evidence from Tvp-Var Approach

In recent years, the rise of innovative digital assets has sparked a global investment trend. Investors worldwide are increasingly incorporating these new financial instruments into their portfolios, aiming to optimize returns and capitalize on emerging opportunities in the digital asset market. This strategic shift reflects a growing recognition of the potential value these assets may offer in diversifying and potentially enhancing overall investment performance. The aim of this research is to understand the relationship among derivative tokens, traditional digital currencies, and precious metals. This study utilizes the Time-Varying Parameter Vector Autoregression (TVP-VAR) framework to explore the interconnectedness between derivative tokens, precious metals, and traditional cryptocurrencies. Unlike the Diebold-Yilmaz method, TVP-VAR avoids subjective window size selection, reducing the risk of losing significant observations. This model uniquely computes both static and dynamic connectedness, while also mitigating convergence issues found in other GARCH configurations. The results show that derivative tokens such as Hegic, Switcheo, Perpetual, Uma, Palladium and Gold are net return receivers while Injective, Dash, Bitcoin and Litecoin are the net return exporters. Connectedness based on volatility is higher than connectedness based on returns, with the level of connectedness rising significantly during the COVID-19 outbreak, indicating an increase in market activity and fluctuations. Also, economic policy indications and various other indexes are valuable in the analysis of total as well as net directional connectedness. These findings hold significant implications for the digital financial practitioners and investors in cryptocurrency, metals, and derivative markets by offering them valuable insights to enhance risk management practices and capitalize on the diversification benefits.