Network Value to Metcalfe (NVM) ratio

In a previous article, we looked at NVT, the Network Value to Transactions ratio, which is a basic way of valuing a crypto network.

NVT is simply the overall market cap of a crypto divided by the volume of transactions that take place on its blockchain. The thinking is pretty straightforward: more valuable blockchains should see more transactions. Comparing NVT for different cryptos, you should be able to see which are under- or over-valued. And changes in NVT do broadly correlate with price inflections.

But it’s not a particularly sophisticated metric, and doesn’t account for a lot of important factors (a spam attack, for example, sees a lot of transactions on the blockchain, but doesn’t reflect underlying value). A more nuanced approach is NVM, or Network Value to Metcalfe ratio.

NVM is not nearly so simple as NVT to grasp, but it turns out it’s quite good at predicting when bitcoin is over- or under-valued. Robert Metcalfe was an early Xerox PARC employee, and came up with the principle that the value of a network is proportional to the square of its nodes or users. So a telephone system with 200 users is four times as valuable as one with 100 members — not twice as valuable, as you might first think. This is why bitcoin is so valuable: its network is that much larger than any altcoin’s network, and the impact of that difference is squared.

Taking different implementations of Metcalfe’s law, Cryptolab Capital has come up with a model that works surprisingly well. Read the article in full for a proper overview, but the take-home message is that a rise in value should be accompanied by a rise in Daily Active Addresses — if not, price may be getting ahead of ‘real’ value (i.e. a bubble).

This may all change with the introduction of proper custodial services and exchange-traded products, but in the immediate future it’s another useful tool to add to the crypto investors kit.

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