Cryptocurrency volatility and its impact on traditional asset allocation strategies: a time-series analysis of global markets

The extreme level of volatilities and dynamic correlations between cryptocurrencies and traditional investments represent major problems that affect traditional portfolio allocation techniques. Attempting to measure the influence of volatility of cryptocurrencies on the optimal portfolios, this research is conducted by analyzing the daily prices of four cryptocurrencies (Bitcoin, Ethereum, Binance Coin, and Ripple), as well as five traditional investments (equities, bonds, gold, and oil) from 2018 to 2024. In order to determine the volatilities and conditional correlations, DCC-GARCH methodology was employed while the volatility spillovers were calculated using the Diebold-Yilmaz index. The performance of the traditional, hybrid, and unconstrained portfolios was assessed on the basis of returns, Sharpe ratio, and conditional value-at-risk measures. According to the findings, the correlation between Bitcoin and the S&P 500 surged from 0.08 pre-COVID-19 to 0.34 during the pandemic period and stayed at 0.27 in the post-COVID era. The total volatility spillover index was 34.2% during the peak of the turmoil. With the inclusion of cryptocurrencies, the Sharpe ratio increased from 0.67 (portfolio without constraints) to 1.02 (unconstrained portfolio); however, the maximum capital drawdown became even higher – from -22.5% to -38.5%. The optimal level of exposure to cryptocurrencies was found to be 15%. The Black-Letterman model adjusted the Bitcoin weighting to 8.2%. In conclusion, the empirical evidence confirms that while cryptocurrencies significantly enhance portfolio returns and risk-adjusted performance – with the unconstrained portfolio achieving an 18.2% annualized return compared to 7.8% for traditional assets, they simultaneously introduce substantially higher downside risks, as reflected in the increased maximum drawdown and CVaR measures. The dynamic correlation analysis reveals that cryptocurrencies have become increasingly integrated with traditional equity markets, particularly during crisis periods, thereby diminishing their diversification benefits precisely when they are most needed. The optimal cryptocurrency allocation of 15% represents a pragmatic balance between return enhancement and risk control, while the Black-Litterman adjustment to 8.2% for Bitcoin reflects the importance of incorporating forward-looking market views into portfolio construction. These findings provide critical quantitative evidence for policymakers, institutional investors, and portfolio managers in both developed and emerging economies, including Uzbekistan, highlighting the need for prudent position limits, robust risk management frameworks, and continuous monitoring of evolving cross-asset correlations in the era of digital asset integration.

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