Return spillovers between decentralized finance and centralized finance markets

Abstract

This study investigates the dynamic return connectedness among Decentralized Finance (DeFi) assets [Chainlink (LINK), Maker (MAKER), Basic Attention Token (BAT), and Synthetix (SNX)] and Centralized Financial assets (CeFi), specifically MSCI World, MSCI US, MSCI Europe, MSCI East Europe, MSCI Asia, and MSCI Far East. The Time-Varying Parameter Vector Autoregressions (TVP-VAR) framework is adopted. Our research findings demonstrate that economic events create variations in the dynamic connectedness of a system. There were peaks throughout the COVID-19 pandemic. Furthermore, the results indicate that DeFi assets like BAT and LINK are the most common shock transmitters, while MAKER and SNX are the most common shock receivers. Nonetheless, the pairwise connectedness for LINK and MSCI Far EAST (FarEAST) shows that may not only influence other markets but are also equally receptive to innovations that occur in the majority of these markets due to their high pairwise links. The retrieved evidence has major implications for investors in terms of the creation of strategies for the optimization of portfolios and asset allocation, the minimizing of downside risk, and hedging techniques.