Fundamental Analysis Returns: More fun with ‘damental’ part!
The Basics IV — Part 2 The Fundamental Analysis (FA) of Crypto Assets continues…
In order to reduce the amount of annoyance, when tackling theoretical topics like fundamental analysis, we sprinkled pictures everywhere — mostly of charts and not octopus-mermaids — to make everything seem more easily digestible.
In our previous FA kickoff post we wrote about why we look at network strength, when analysing crypto assets, as one of the primary factors influencing an assets value. Now we will continue to dissect some indicators that try to quantify a networks value and see what ratios we can create with them. Let’s go!
Traditional FA indicators imported into crypto
A handful of smart minds, with a finance background, that knew about bitcoin from quite early on, went along and identified indicators, as well as created ratios to better analyse crypto assets. A noteworthy mention is Trace Mayer the creator of the Mayer Multiple Ratio, a widely used ratio that you’ll soon learn to love, if that hasn’t already happened.
We also found this article from Jake Ryan profoundly helpful when acquiring an overview of the most frequently used indicators and ratios.
Indicators, as the name suggests, indicate a trend. Are they rising, falling or holding steady; translates into bullish, bearish and neutral.
Unique addresses (daily)
This is a very basic indicator of how many unique addresses are accessing the network per day. This is somewhat comparable to the Daily Active User (DAU) indicator used in web apps or games. According to Metcalfe’s law the value of a network grows in proportion to its active users.
It’s important to note that one unique address doesn’t always equal one active user, in all decentralized network protocols.
Please don’t waste your time to allocate specific asset values to a number of users, rather look at the trend of the values, is it growing, then the value is growing and vice versa. When viewed in the appropriate context this trend indicator can give true and valuable insight into the analysed asset.
Yes bitcoin price and number of unique addresses do look similar. Metcalfe had a point it seems.
Let’s try some basic alchemy, shall we? Start by fully grasping this indicator and the implication of Metcalfe law. Then continue to the next one and fully grasp it. Afterwards you combine both understandings and receive the power of greater and much more precise value estimation of any given network.
Transaction Volume (daily)
When pondering about the value of bitcoin it it seems very logical that the more value is transported over the bitcoin network, the more valuable itself becomes. For no one would transport huge values over a network that is not doing what it’s supposed to do, in bitcoin’s case that is secure transport of value without intermediaries.
This is again a trend indicator, that signals a growth in value when rising and vice versa. Allocating specific asset values to a number of daily transactions is not advised, better look at the trend of the values, is it growing, then the network value is growing and vice versa.
Now when analysing other assets (eg. that are not contentious hardforks), bear in mind that the underlying networks might have a different use- or business case wrapped inside the protocol.
In some cases the impact of the daily transaction volume trend to the overall network value is much lower.
Mining Costs & Profitability
The cost to mine, for example bitcoin, depends on the hash rate required to receive a block reward. This required hash rate rate grows and shrinks in proportion to the number of miners, adjusted via the ‘difficulty’ parameter in the bitcoin protocol. An unprofitable return is a profitable one for someone else in different circumstances; theoretically this leads to a constant supply of miners.
Hence the mining costs can be linked to the value of the asset, for the more the cost to mine grows, the more the network is being used. Remember Metcalfe 😉
The mining profitability is calculated with the following equation
USD/Day for 1 THash/s
If the profitability indicator value is < 3.2 and trend is pointing up, the market is or will turn bullish.
In case its >3.2 and trend is pointing downwards, the market is or will turn bearish.
If the profitability is below one, it’s a signal for a bearish or neutral market sentiment.
Watch for the context (underlying consensus mechanism and use case) of the asset when taking this trend indicator and its implications on the network value into account! Proof of Stake (PoS) protocols, for example, don’t use mining.
See the difference!
Traditional FA Ratios
As you now know the real magic happens when you combine indicators to conjure up ratios that could reward you with a great knowledge about the true value of a network and the asset running on it. Come and see.
Network Value to Transactions (NVT) Ratio
The very basic of it’s kind is the price/earnings ratios, migrated over from the stock market and divides a given companies stock price by a its earnings.
Since this is not possible with crypto assets (yet!), it has become a good practice to divide the network value by the number of its transactions.
A high ratio, relative to its typical range, may mean that the future is bright and investors are expecting transaction growth, or it can mean overvaluation. […] Just like stocks, a high ratio is often seen in the early, high-growth stage: a network price is high, but transaction activity hasn’t yet caught up.
NVT = Market Cap / daily USD transaction Volume
Please be aware that the market cap can be influenced by many different factors at different times, such as data sources used or emission of pre mined tokens, Proof-of-Stake coins, vested founders assets or stable coins.
A more evolved version of this ratio is the “Market Value to Realised Value (MVRV) Ratio” described in a comprehensive article here from David Puell.
It takes into account lost coins and gives a more truthful value as his ancestor the NVT.
Now what can this ratio tell you? You guessed it, look for the context.
Did the asset just suffered a pullback and fear of bear season is lingering but the NVT is in the normal range (apr. 30–100) it would mean a healthy network is consolidating the price. Is it climbing after having had a huge run, this could be a strong sign for the bears. Vice versa, if it’s climbing after being in a bear market, this signals a bull run incoming.
Here is some further reading on the joy this basic ratio can bring.
Mayer Multiple Ratio
This one is a bit more technical, might be because it was invented and named after Trace Mayer, as mentioned above. It estimates how common a price level is when compared to the historical data of the 200 day moving-average (MA). What now? Well it shows you how likely an investment will turn apr. what profit. For example if the ratio is below 1 and has been historically higher, it’s a very sure shot at x% of profit.
Mayer Multiple = Price / 200 DMA (200-day moving average)
Thankfully you can trust and only need to occasionally verify, this twitter account that tweets the ratio on a daily basis
Based on historical data research done by Trace Mayer (here) the following can be stated with decent certainty:
Mayer Multiple — Bullish is <1.0 and Bearish is >2.4
Amazing tool to have in your toolkit, not only to set lucrative entry and exit points.
Seems a lot to digest already, let’s stop for now and continue with FA after taking in some more technical analysis (TA) next time when revisiting our The Basics series.
From crypto for crypto
Always be on the lookout for great free content and ideas from mindful persons in the crypto space.
Take for example this simple & comprehensive checklist you can use start your analysis with. It has been created by one of the main pillars of crypto FA on Crypto Twitter (CT): CryptoBulld0g
Wow, look what i found. Who would wear this???
Thanks for your time & hope to have you back for the next digital ink outburst from the 🐙 family!
