Tokenomics |What it means.
It is very crucial to understand crypto tokens’ tokenomics before investing your cold cash into such coins.
The importance of understanding Tokenomics before investing can never be over-emphasised.
Just as it is important for a country to understand their yearly monetary budget, financial management and cash flow in and out of the country to curb issues like inflation and loss of monetary value, it is important to understand the Tokenomics of any coin you want to put your money into.
If you notice, the word Tokenomics sounds more like Token-economics. Only that this time, the letter E is silent and also absent. For you to understand what Tokenomics is, you will need to acquire basic knowledge of key factors:
What is a Token?
A token is a digital unit of a cryptocurrency that is used as a specific asset or to represent a particular use on the blockchain.
A token is user-defined, so created via some programmatic method from a specific address.
Tokens have multiple use cases, but the most common are security, utility and governance tokens.
Security tokens (also known as Investment Contracts) are digital assets (tokens) that get their value from an external source. Mostly, security tokens are subject to securities and regulations which makes them government regulated. (which to an extent makes them a safer choice).
Utility tokens are tokens that can be exchanged for utility (as the name implies). An example is the Basic Attention Token (BAT) which can be used to pay content creators for creating good content.
Governance tokens are tokens that give holders a voting right to make changes to the operation of a protocol (usually a DAO). Rather than a project being controlled by the developers or central authority, Governance tokens give a layman the voting power to suggest possible changes and possibly change the operations of a DAO.
CLASSIFICATION OF TOKENS
Generally, tokens are classified based on fungibility. That is, we have FUNGIBLE TOKENS and NON FUNGIBLE TOKENS (NFT).
Fungible tokens are tokens that have the same value and can easily be replaced or exchanged for the same amount. A good example is your $100 note. Your $100 note is not different from any other $100 note. In essence, it has the same value and exchanging your $100 for another $100 doesn’t make you richer or poorer.
NON FUNGIBLE TOKENS:
Non Fungible Tokens on the other hand are the direct opposite of Fungible Tokens.
Non Fungible Tokens are tokens that do not share the same value and so cannot be exchanged for another.
A good example to understand the concept of token fungibility is to put into the case, Bitcoin and The Bored Ape Yacht Club Nft.
The value of your one Bitcoin is the same as any other person’s Bitcoin and so even if exchanged or swapped, it will still retain its value because it is fungible.
Unlike Bitcoin, The BAYC Nft is unique and each NFT has its rarity feature which makes it almost impossible for an NFT to be traded for another. Each has its value and feature making each of them unique.
Now you have gotten a good basic knowledge of what a token is, the use cases of a token and the classification of tokens. Let’s Dig into what Tokenomics is all about.
Tokenomics is usually stated in a project’s whitepaper or sometimes on their main website. Tokenomics gives investors a solid idea of what the token use-case would be like, the allocation process, how many would be supplied and to an extent the future value of the token.
Tokenomics determine two things about a crypto economy — the incentives that set out how the token will be distributed and the utility of the tokens that influence its demand. This is what determines the value of any token.
WHY IS TOKENOMICS IMPORTANT?
Tokenomics is important to an investor because it helps in answering the following questions:
- What is the total supply of the token?
- Has any of the tokens existed before or is any hidden?
- Would there be an increase in the supply in the future?
- Would there be a future demand for the token?
- What is the use-case of the token?
- What are the incentives for holding such tokens?
- Who owns the token and how many of the tokens are they holding?
- Is there a schedule for some tokens to be burned in the future?
- What value does the token have that would make it worth your investment in the future?
Tokenomics is an important concept to consider when making an investment decision. An investor would want to stake their money on a project that has a future value. Unlike the fiat currency that we have in our real world that can be touched, and is very easy to determine its value; cryptocurrencies are intangible and as such, a deep view of the tokenomics of any crypto token would help an investor to determine the value of such token.
CORE FACTORS IN TOKENOMICS.
When considering the tokenomics of any crypto token, any factor that will cause a reduction in the value of such token should be highly considered.
Here are some core factors to consider when considering an investment in any crypto token.
- The Distribution Of The Token: An investor should consider how a token would be distributed. Some projects usually have a private sale where they sell some of their tokens to venture capitalists and other insider investors(whales). When investing in any crypto-token, you have to make sure that you discover how many of these tokens are been held in the whales’ wallets (you can do that using tools like defilama and other blockchain explorers). If the amount of tokens held in the wallet is too much, there is a chance of a dump which would affect the value of the token. But if a project is generous by distributing more of its token to the general public, then there is a chance that it’s a good project. ( Note that this is just one factor in the Tokenomics of the crypto token, considering all factors will determine if you should invest or not).
- Supply of The Token: What is the Supply of the token? This is a very crucial aspect in the Tokenomics of any token. There are 3 kinds of Supply: Total Supply, Circulating Supply and Maximum Supply. Even though they are all supplies, they are very distinct and each plays a key role in understanding the tokenomics of a crypto token. Total supply is the amount of tokens that exist presently, excluding the tokens that have been burnt. This shows the amount of tokens that have either been traded or are being staked. Circulating Supply has to deal with the number of tokens that are in circulation currently. The maximum Supply is the number of tokens that will ever exist. A token with a total supply of 1 billion $tokens and its Maximum Supply is 20 billion $tokens. There is a high chance that more will be minted in the future and based on when they are minted, distributed or allocated will determine if the value of the token will reduce.
- Inflationary or Deflationary: Based on a token’s model, an investor should be able to decide if a token would be inflationary or not. An inflationary token will lose its value over time while a deflationary token would not only retain its value but also pump. Most times inflationary tokens are tokens that do not have a Max Supply or have a high Max supply; this means that there would be too much in circulation and it would make the token lose its value. Also, some PoS (Proof-of-Stake) tokens that reward their delegators and validators with extra tokens may be inflationary. An investor should take all of these into consideration.
- Token Burn: A token may have a Max Supply that suggests impending inflation, but if the team has plans to destroy some tokens or reduce the supply, then there are chances of the token recovering from inflation. An investor should always make research on burning schedules if there are any.
- Market Capitalization: The Market Cap of a token is the total market monetary value of a token. It is calculated by multiplying the current price of a token with the circulating supply. Even though a Market Cap may not give full insight into the whole project tokenomics, it sure gives the value of the token in the market. A high market cap with a low token supply signifies a high valued token.
- The real value of a token that will cause demand: So, the token has a good supply gauge and so on, but if it has no utility or rather a use-case that will make people want to buy it and hold it then it is almost considered useless.
- Incentives: Some projects give holders and investors the opportunity to stake their tokens in exchange for more tokens. In as much as this is good, an investor should also consider how much of the rewards would be given. If too much is given, it will cause inflation and if too little is given it may discourage people from staking which will lead to a weak Ecosystem.
Understanding tokenomics is very crucial when making investment decisions. In fact in the real world, it may take a lot of time before an investor may understand the real tokenomics of a crypto token. The list above is not sufficient enough to serve as a template for an investor when making a decision. There are other factors to consider like, the team behind it, the venture capitalist and sponsors, and the community.
As an investor one thing that is advisable is that you get to know the in and out of any project you want to invest in. Also, try not to get distracted by the hype of a project, and always ask futuristic questions when given the opportunity to in a community. Also, you should be asking “what if” questions like “what if this or that happens, what will the developers do?”. All of these help in making your research and also deciding whether a project is worth your time and money.
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