Assessing Ethereum’s Diversification Role with Bitcoin and Major Equity Index – A Bayesian Mixture Copula Approach

Abstract With the introduction of spot Ethereum ETFs, Ethereum plays an increasingly important role in the cryptocurrency market. In this paper, we propose a Bayesian modelling framework incorporating a mixture copula for co-modelling Ethereum returns with Bitcoin or FTSE 100 returns. The mixture copula is designed as a combination of the Clayton copula and its three rotations, Frank, and Gaussian copulas. It provides substantial flexibility for handling a variety of dependency structures. The Bayesian approach offers the advantage of jointly estimating both the margins and copulas and simulating future returns in a coherent procedure. Using 10 different risk or risk-return measures, we provide updated empirical evidence on Ethereum’s role in both cryptocurrency and mixed portfolios. The analysis not only evaluates its diversification potential numerically but also sheds light on how the optimal allocations vary across distinct risk preferences and portfolio objectives. Moreover, based on the data of 2017–2024, we estimate that Ethereum futures has a hedging effectiveness on Bitcoin of about 30–40% across different risk preferences. Beyond these findings, the Bayesian mixture copula framework represents a methodological contribution to the modelling of complex dependence structures between financial returns. Taken together, our study delivers new insights that are particularly relevant in light of the evolving cryptocurrency landscape and the increasing integration of digital assets into mainstream investment practice.