This guide to valuing cryptocurrency is an introductory look at how to value a cryptocurrency. The article assesses several essential factors that would help you understand the value and potential of a digital asset.
How To Value A Cryptocurrency
Fundamental analysis plays an extensive role in measuring the viability and financial health of a company according to its financial statements. Traders and investors thrive on key essentials such as economic/market analysis, analysis of financial statements, forecasting relevant payoffs, formulating a security value, and then conclusion/recommendation before they can include a particular stock or real estate venture on their portfolio of investments.
Most often, if the numbers look good (thus, positively skewed towards gains), investors can trust a company as a result of its formidable fundamentals, and can therefore go along and invest in their stock. If the numbers look cooked, investors decide against throwing their money into a company with shaky fundamentals.
In the new world of decentralized finance, many people ask questions such as can crypto be analyzed, and are there fundamentals in crypto?
Performing fundamental analysis for cryptocurrencies is extremely difficult. This is because more than 90% of crypto projects are decentralized. Therefore, there are no physical infrastructures or representatives that will post financial statements for a thorough analysis by prospective traders and investors.
But why can’t you do fundamental analysis on crypto?
- The crypto space can still be considered a novelty. Although there are more than 11,000 crypto projects as of September 2021, more than 95% of them are still in their infancy stages. Numerous blockchain technologies are not tested to the limit before they are released to the general public. Instead, the developers release what they have tested as a final pilot study. As a result, they continue to upgrade their systems as per the feedback they receive from a relatively large population rather than the feedback they would have received from a small testing population. Therefore, cryptocurrencies do not have a track record since they have limited real-world use cases.
- Cryptocurrencies are not backed by corporate-like institutions. Rather, digital currencies are represented by their communities. An exception can be given to crypto projects that have their founders as technology entrepreneurs who consistently upgrade their users through blogs on Medium and messages on Twitter, and Facebook. The viability of digital assets is not dependent on generating revenue periodically (like the earning reports reported quarterly by companies to their shareholders). Instead, viability is dependent on the participation of the community (developers, miners, and users).
Because of these factors, a different methodology will be needed in analyzing the fundamentals of cryptocurrencies. Beginners and even experts continue to find the crypto space a bit complex due to the different terminology and distinct technology being ushered out daily.
Therefore, Trading Education has conducted in-depth research to assess the viability and potential of digital coins. This ensures that you as a trader or investor will continue to make great investment decisions based on the information you possess.
Let us take a detailed look at some of the essential factors you have to consider before investing in cryptocurrencies.
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Crypto asset investing is highly volatile and unregulated in some EU countries. No consumer protection. Tax on profits may apply.
Factors That Affect Cryptocurrency Value
Utility
For starters, you should know that one of the attributes of successful money whether fiat, crypto, or metal is utility. If the specific money doesn’t have a strong use case, it is a sign that millions of people do not have faith in that asset as a medium of exchange.
This is the primary reason why numerous experts feel that the utility of money has a strong correlation with its value.
Let us use two sets of cryptocurrencies as a case study.
90% of cryptocurrencies were created to serve as transactional currencies while others that perform additional functions can also be categorized under transactional currencies/decentralized finance (DeFi) tokens.
Examples of purely transactional currencies are Bitcoin (BTC), Bitcoin Cash (BCH), Dash (DASH), Dogecoin (DOGE), ZCash (ZEC), and Litecoin (LTC).
Examples of transactional currencies/decentralized finance tokens are Ether (ETH), Cardano (ADA), Tronix (TRX), Polkadot (DOT), Eosio.io (EOS), Stellar (XLM), and Binance Coin (BNB).
For all these cryptocurrencies to become successful, they must be accepted by millions of people who use fiat currency (USD, EUR, or GBP) in their day-to-day activities.
This is the primary reason why one of the three main factors that lead to a spike in the price of a cryptocurrency is listing as a payment method.
If you follow the space keenly, you could attest to the level of demand of cryptocurrencies as a financial instrument when Elon Musk listed Bitcoin (BTC) as a payment method for Tesla products. There was also a spike in the price of DOGE when the entrepreneur and owner of the Dallas Mavericks of the NBA, Mark Cuban announced the meme-inspired token as a payment method for tickets and paraphernalia.
As transactional currencies, all the listed coins are involved in thousands of transactions. Therefore, an asset could be measured in terms of utility.
For a cryptocurrency to go beyond mere speculation, exchange listing, or listing as a payment method, it needs to perform other functions in the cryptocurrency space. Smart contracts-backed tokens such as Ether (ETH), Binance Coin (BNB), Stellar (XLM), EOSIO (EOS), and Tronix (TRX) play an invaluable role in the execution of commands and development of applications in their blockchains.
You will need their novel tokens before you can effectively navigate their respective ecosystems. As a result, the more people use the Ethereum Network, Tron Network, Binance Smart Chain, Stellar Protocol, and EOSIO blockchain to develop decentralized applications and execute transactions, the greater the demand for such tokens. The resultant effect is a substantial increase in the price of these smart contracts blockchain-backed coins.
As a result, as an investor, you can assess the fundamentals of a crypto-based on its categorization.
You should always ask the question, is a particular coin relying simply on speculation, or does the coin perform other functions that see more liquidity thrown at it because of its extensive usage in an ecosystem?
Scarcity
One of the successful attributes of money is scarcity. In basic economics, when supply is greater than demand, the price of a commodity goes down. And when demand is greater than supply, the price of a commodity goes up. Is this the same for cryptocurrency?
Many traders and investors have asked the questions, does scarcity affect cryptocurrency, what happens when Bitcoin becomes scarce, and what cryptocurrency is scarce?
Bitcoin (BTC), Litecoin (LTC), Bitcoin Cash (BCH), and Dash (DASH) are known as coins with a finite supply. They are coins that could become scarce someday.
Scarcity affects cryptocurrency in a very odd way. According to analyst Frances Coppola of Coindesk, “Bitcoin is scarce (and therefore valuable) when demand for it exceeds the available supply, not because of its 21 million cap”.
By 2030, 97% of BTCs would have been mined. Unfortunately, the last final BTC is slated to be mined around 2140.
The mere presence of a crypto project having a finite supply sparks an increasing demand for its tokens. This is because many people instantly relate the coin’s supply to the laws of economics.
Potential scarcity is the primary reason why Dash (DASH) ($211.04) and Litecoin (LTC) ($189.02) command a relatively higher price than Dogecoin (DOGE) ($0.2415).
Although the joke currency continues to be involved in thousands of daily transactions and sees more investor interest in daily trading volumes, its infinite supply doesn’t help its course towards new price milestones. This is the primary reason why it continues to trade below $1.
Some crypto projects employ a burning mechanism. This destroys a portion of the total coin supply which eventually leads to potential scarcity. A great example of this can be attributed to Ether (ETH) and Binance Coin (BNB).
A portion of Ether (ETH) used in transactions will be sent to a burning address as per the details of Ethereum’s latest upgrade called the London Hard Fork.
Chanpeng Zhao structured the Binance crypto project in a way where a portion of coins would be burned over some time. The last Binance Coin Burning took place on 15th April 2021.
On that day, a total of 1,099,888 BNBs worth $595,314,380 were burned. The anticipation of the burning took BNB from a price of $302.35 on 1st April to a day high of $556.83 on 15th April 2021, eventually settling at an all-time high price of $690.93 on Monday, 10th May 2021.
As a trader or investor, you can analyze the fundamentals of a coin by looking for potential scarcity. This is mostly spelled out in their whitepapers. Additionally, the total and maximum supply of coins can be found at CoinMarketCap. You can track the increasing circulating supply on that website. By following news and forecasts on crypto news portals, you would be able to know the future of coins and decide on them.
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Crypto asset investing is highly volatile and unregulated in some EU countries. No consumer protection. Tax on profits may apply.
Perceived Value
Although several factors play a role in the valuation of an asset’s price, the primary determinants are what investors are willing to pay for it, and the future value investors put on the core development of the project.
Therefore, always watch out for crypto projects that continue to achieve the milestones set out in their whitepaper. A great example of this is Cardano, Stellar, and Internet Computer.
Additionally, you must analyze the partnerships and collaborations of the project’s tokens with well-established companies. This is one of the primary drivers of a coin’s price. Examples of these have been earlier outlined in the case of Bitcoin and Dogecoin.
Other areas you should consider are the factors why certain cryptocurrency exchanges decided to list the digital asset on their platform for trading. Exchanges such as eToro and Coinbase normally conduct in-depth research into the potential of a coin based on the possibilities of its blockchain network. Once you read such content from the CEOs of such exchanges, continue to get to know the other exchanges that list the coin for trading.
More importantly, you can also track detailed stats of a project by visiting Coindesk’s profile of the coin as well as Bit Info Charts to get insightful information about block time, the number of transactions processed daily, weekly, monthly, and their total worth.
These are the key elements that affect the value of a coin.
Trading Education wants you to take these three factors into account so that you can value coins before deciding to risk your hard-earned money on them.
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Crypto asset investing is highly volatile and unregulated in some EU countries. No consumer protection. Tax on profits may apply.
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