Use TVL for Better Crypto Investments — All about Total Value Locked
We all want to protect our money from rug pulls, hacking thefts, and founders gambling our money away on highly leveraged bets like what happened with FTX. One way to evaluate projects is by assessing the Total Value Locked. Let’s dive deeper into how to use the TVL indicator to make better crypto investments.
♦What is the Total Value Locked (TVL) indicator?
TVL is the value of capital or assets stored in DeFi protocols, including:
- staking mechanism
- liquidity pools
- decentralized lending systems
- market makers
TVL is an applicable indicator for DeFi blockchains only. So Bitcoin does NOT have DeFi protocols, but Ethereum’s and Binance’s do.
♦Why use Total Value Locked (TVL)?
When choosing a bank, you usually look for one with many depositors to make sure it’s trustworthy.
The greater the volume of deposits, the stronger investor confidence is.
Similar concepts apply when choosing DeFi protocols. That is why investors resort to protocols with higher TVL.
The higher the value, the stronger is the investor confidence.
Total Value Locked (TVL) also affects liquidity pools and market makers or AMMs.
Most often a low TVL on a protocol mean there’s a poor liquidity pool, which high slippage from the market makers.
If coin = $1, and you want to buy 1000 for $1000, you’ll end up getting less, paying a higher price per 1 coin because of slippage.
The higher the TVL, the more powerful the LP, and the less slippage you’ll face.
♦How is Total Value Locked calculated?
TVL on a protocol is calculated by using the sum of money stored on it.
- Protocol TVL= staking deposits + liquiduty pools + borrowing collateral +treasury
- Network= Protocol TVL + Protocol TVL
The calculations should be done considering the market cap and max supply of the coins stored.
TVL is considered good if it exceeds $1 billion.
Yes, there are not many above this amount. The acclaimed best ones are Ethereum and Binance.
♦Beware of this red flag!
A project with low TVL offering high APY for staking is a red flag!
Small projects have a small number of depositors, so when they offer a high yield that might be either for marketing or to steal depositors’ money.
♦What is the Total Value Locked (TVL) Index?
Another indicator that will help you make better investments!
- Calculated by: dividing market cap by TVL.
- = less than 1 → project is undervalued → the value locked is more than Market cap → more investor confidence
- = more than 1 → project is overvalued
Similar concept is found in TradFi or traditional finance. If the market cap of a company is less than its annual profits → company is undervalued!
Hypothetical Example:
- A project’s Market cap= $5 Million. TVL=30 million.
- TVL Index = 5 divided by 30
- = 0.16 → less than 1 → undervalued
That’s good because it means people trust it enough to store their money in it.
♦Is it reliable?
Using TVL is NOT reliable all the time.
Sometimes, founders place the team’s coins in the TVL increasing the number, and deceiving investors into thinking there’re a lot of depositors so they put their money in the protocol.
Not every high TVL reflects a project’s strength or quality, so use it with caution. The best you can do is use these indicators with other ones in order to judge a project in more than one way.
You can learn more about other indicators from my past articles!
Not financial advice, so make sure to DYOR!
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Disclaimer: This content is for educational purposes only and should not be considered as financial or any other advice. Always do your own due diligence before investing any of your money, and stay up-to-date with all crypto regulations in your country.
