It turns out that coming up with a cryptocurrency valuation is complicated. On one hand, there’s what the market says a crypto is worth. And then on the other hand, there are other kinds of values at play that might be relevant/significant.
The crypto market is far from mature, and so the current price of a crypto token or asset might not accurately be the best gauge of its value. After all, over the last ten years or so, we’ve seen crypto assets that were overblown and way overpriced, and assets that for a time, were underpriced. Along the way there has been plenty of market manipulation and straight-up pump and dump scams.
One thing that makes crypto valuations so tricky (or interesting, depending on your vantage point), is that crypto assets are more than just financial placeholders — they also have components information networks. And in the case of network tokens, they can also function like a utility.
This combo of financial products plus planetary scale networks make developing comprehensive valuation methods and models a new kind of task, which is why there are so many different ways to try to answer the question, “What is this crypto really worth?”
In this first part of a series all about different methods of valuing cryptocurrencies. And the idea is that this series fits into the larger “Do Your Own Research,” methodology.
Cryptocurrency fundamental analysis is all about context
Imagine you're at a fancy art auction. There's a painting that everyone's raving about, but you can't figure out why. It looks like a bunch of squiggles to you. But then, an art expert leans over and whispers about the artist's history, the rarity of the technique, and the cultural significance of those very squiggles. Suddenly, the painting's high price tag makes sense.
Cryptocurrency fundamental analysis is a bit like that art expert. It's a method of evaluating a cryptocurrency's intrinsic value by examining various factors, from the technology behind it to its real-world applications.
On its face, fundamental analysis — at least looking at the basics that we’ll outline below — looks pretty straightforward. And it is. But it’s also a great way to start at the foundation and decided if a crypto project is even legit and worth dedicating more time and money to learn more.
The key components of a fundamental valuation
The whitepaper: Most cryptocurrency projects start with a whitepaper, a document that outlines its purpose, technology, and mechanics. It's like a business plan for digital currencies. A well-written whitepaper can be a sign of a project's legitimacy and potential.
Key elements to look for in a whitepaper are how the underlying technology will work. At one extreme there are a number of blockchain projects that launch as just straight-up copy cat projects, or that are merely a thin veneer on projects that are already working. At the other extreme, projects sound so outlandish (or they are based on shaky tech) that they are likely full of security holes or they are just propped up by marketing hype.
The team behind the dream: Who's steering the ship? A project's success often hinges on its crew. A team with a track record in blockchain, finance, or related fields can be a good sign. If Satoshi Nakamoto were on a project team, you'd want to know, right?
So far, this kind of analysis might seem pretty straight forward, or even overly simplified. But, it is kind of amazing how many well-marketed crypto projects can get debunked even at this point. At times, founding teams have been fabricated, or even recycled from other projects that went bust. So doing some basic due diligence into the tech stack and the people behind the project can save a lot of time and energy.
Real-world application: It's all well and good having a fancy new cryptocurrency, but what's it for? Can it be used for everyday transactions? Does it solve a particular problem? Or is it just another coin in the vast crypto sea?
There is a lot of speculation in the crypto world, so taking a look at basic user metrics like number of wallets, or number of transactions, is always a good part of fundamental analysis. Be sure to try and find on-chain data sources or things like block explorers (specialized tools that provide on-chain info for specific blockchains) and don’t just believe marketing hype or media reports.
Supply, demand, and tokenomics: How many coins are there, and how many will there ever be? Scarcity can drive value. Just ask bitcoin.
All cryptocurrencies have their own economic systems. And its this facet of crypto that still seems widely misunderstood or not full clear yet for people just getting started. Sometimes you will see influencers or hype artists on social media talking about how a certain crypto is going to get to some outlandish price.
But if you dig into the fundamentals you can see that the maybe the supply is unlimited, or at least the supply of the crypto is designed to be massive. In other words, basic math will never allow for the crazy high price that the people on social media are raving about.
Meanwhile, other cryptocurrencies are designed around scarcity (like bitcoin and its forks, for example) and have a fixed supply. Still other cryptos, like Ethereum, for example, have changed their economic fundamentals over time as the project has evolved and been upgraded.
Community participation: On one hand, since cryptocurrencies are networks, they need active communities of developers and users to really thrive. So trying to get a handle on what the community behind a project looks like is a good idea.
But, it’s also important to note that not all communities are the same. Some crypto networks are notorious for having shill armies, or people that only talk about the project because they are speculating on the price — like a meme stock.
The takeaway here is to understand who is invested in the crypto project, and how they will benefit if the project gets any kind of traction.
Examples and resources to dive deeper
- Bitcoin: This is the whitepaper that started the crypto revolution. It’s impressive for it’s novelty and simplicity (in terms of distilling down a massive innovation into a handful of pages). It’s also impressive for how durable the original idea and whitepaper have become over time.
- Ethereum: At this point, the Ethereum ecosystem is way more than just a cryptocurrency. Its documentation is a treasure trove of information.
- Tether: Rounding out the current top three assets by market cap, Tether is unique in this short list because it is a stablecoin (an asset designed to have a fixed value), but like other crypto projects it provides a great example for looking into the fundamentals and trying to tease out how it actually works by starting with the Tether whitepaper. Tether’s site does note that the whitepaper is now out of date, but it’s still a good place to start for the purposes of fundamental research.
The wrap up
Cryptocurrency fundamental analysis isn't just about numbers; it's about understanding the story behind the asset.
The process of fundamental analysis will probably be a little bit different for each crypto and project, but should provide a great starting point or context to dive deeper.