How to Value Crypto Assets — 3 Evaluation Techniques That Might Just Save You From the Next Bubble

Are crypto-currencies, crypto-commodities, and crypto-tokens just a bunch of digital fairy dust that have no value??
OR
Are they digital assets that actually hold both utility and speculative value??
While crypto assets aren’t companies and they don’t create cash flow…
The users of the network do create and capture value through its current utility and future user adoption.
Because this industry is not even a decade old, since the inception of Bitcoin in 2009, and even less since the rise of alt-coins, we don’t have elaborate financial modeling techniques that can predict the current and future value of a crypto asset at any given time…
The traditional asset valuation metrics like the Dividend Discount Model, Discounted Cash Flow, or PE Ratio don’t work in this new world and thus, new methods will have to not only have to build on these traditional methods, but also create completely new ones.
Many thought-leaders in the industry have already proposed different ways we can look at valuing these new assets and continue to advocate working together as a community to create thoughtful discussion around the topic of how to value crypto assets.
In this article, I’m going to layout the 3 most useful evaluation techniques that I have found to be helpful when evaluating a potential investment into a particular crypto asset.
1. Equation of Exchange: an age-old macroeconomic monetary model that puts into relation money supply, velocity of money, the price level of the resource, and the quantity of the resource into a simple equation.
MV=PQ

Innovators, like Chris Burniske, have proposed the use of this absolute valuation model to value crypto assets…
Which seems to do a decent job of valuing crypto-currencies that are used transactionally, more like digital cash than a store of value, like a digital gold.
So, depending on how you see Bitcoin, the model could be “used to derive each year’s current utility value (CUV). Then, since markets price assets based on future expectations, one must discount a future utility value back to the present to derive a rational market price for any given year.”
Chris shows a comprehensive example of this on a Medium post here. I highly recommend giving it a full read to understand how this model could potentially be used with crypto assets.
Although we have a digital ledger of transactions, including the circulating supply, that we can verify to be accurate according to the blockchain…
It is still quite difficult to pull all the necessary data points, like velocity for example, and deriving that these transactions aren’t just a user shuffling coins in and out of an exchange, which would make it seem like there was more transactional volume than there really is.
2. Network Value to Transactions Ratio (NVT Ratio): similar to a PE ratio used in traditional equities markets, these ratio can be applied to crypto assets, like Bitcoin, to indicate whether it is currently overvalued or undervalued.
Bitcoin’s NVT is calculated by dividing the Network Value (circulating supply * price per coin) by the the daily USD volume transmitted through the blockchain.
Willy Woo first presented this research in October of 2017, laying out a way to use NVT to conduct fundamental analysis on a crypto-network.
If more investors would have been aware of this research and understood the context of it, they may have been saved from the extreme market correction that ended up coming at the end of December and lasting still to this day.
At that time, the NVT Ratio clearly pointed at Bitcoin being overbought, based on the price growing at a faster rate than the circulating supply, inferring a possible bubble on the horizon…

If we take a look at the NVT Ratio (red line) and where it crosses the 95–100 threshold…
We can see that the Network Value (orange line) takes a hit and goes into sell-off mode.

At the end of 2017, we saw a massive run-up in price while everyone and their mama wanted some bitcoins…
Which drove the overall Network Value up to unsustainable levels…
Boosting the NVT Ratio.
We can see from the chart above that the NVT Ratio follows Network Value, so if you were to buy and sell based solely on the NVT Ratio, you would have missed the peak by a couple of weeks…
As the price of Bitcoin went from $19,000 to $13,400 in a matter of just two weeks at the end of December going into the new year…


Using solely the NVT Ratio would have put you behind the market by about 14 days.
Hence why the 3rd way to value a crypto asset was introduced…
3. Network Value to Transactions Signal (NVT Signal): using the NVT Ratio that was originally proposed by Willy Woo, Dimitry Kalichkin, from CryptoLab Capital, presented a new form of the ratio in February of 2018 that took into account the lag when evaluating whether or not Bitcoin is overbought or oversold…
Solving the problem of being able to identify a bubble before it bursts…
Not weeks or months later.
(Because what good is a ratio that lags behind the actual market??)
By smoothing out the transaction values using 14-day moving averages that take into account past and future performance…
Kalichkin was able to create a signal that helps predict whether bitcoins are undervalued or overvalued.
By rethinking the way the Network Value Ratio is derived…
Kalichkin created a proactive approach to the market, rather than the original reactive ratio that Willy Woo first proposed.
Now with both evaluation techniques, we can now take a look at the NVT Signal to determine the state of Bitcoin at any time…

As you can see from this chart, the timing of the signal is much more accurate and could actually help an investor make an intelligent investment decision whether to buy or sell.
If you were to have access to this same evaluation technique back in December, I am sure that you would have made a different decision (as I know I would have).
However, when evaluating crypto assets, we still have to understand that they are not perfect methods and that there are still many unclear data points, as this method only takes into account on-chain transactions…
Meaning that the velocity (how many transactions are sent) and the Daily Active Addresses (how many different wallets and users on a daily basis) are not accounted for in this evaluation framework.
So the question you all really want to know the answer to…
Is Bitcoin currently overvalued or undervalued at $7,375 per coin?

Well, according to the NVT Signal, Bitcoin is currently overvalued.
Let’s take a look…

The last time we was a NVT Ratio as high as 174, was back in mid-December…

I don’t think I need to remind you of what has happened to the price since then, do I?
Like I mentioned before, the NVT Signal shouldn’t be used as an end-all-be-all solution…
It is just ONE technique that can be used to determine current market conditions…
At the end of the day, investors really have to do their own research and come to their own conclusions… rather than relying on ONE signal to base all of their decisions off of.
However, learning how to value crypto assets will give you the foundational knowledge to build upon, as you add other evaluation techniques to your research and analysis on crypto assets.
This article originally appeared on my blog.
