Imagine you are a doctor. One of your patients regains consciousness from a state of coma since 2017. He wakes up and tells you that Bitcoin was trading for around $20,000, as per his last memory. What is its price now? So, do you save him a moment of shock by mentioning that it is still the same? Or do you tell him that it went up to $68,000 just to come back at the same price? This doctor’s dilemma is true for most of the investors in the crypto space. One often wonders how cryptocurrency price changes so absurdly.
If you HODLed strong in the current headwinds, you might wonder what affects the value of cryptocurrency. You must have come across some critics who claim that cryptocurrency has no fundamental value. Do you tend to believe them in such situations?
Well, if that’s the case, do not fear. Today, we plan to help you learn how cryptocurrency price changes and what affects its value. Let us get started.
How Is the Value of Cryptocurrency Measured?
Time to bust some myths. A lot of people use the words, value and price, interchangeably. However, that is the worst way to approach any investment. Price is simply what you pay to buy an asset (cryptocurrency in our case), and the value is determined by the underlying fundamentals. It is what resides in the asset.
While price is decided by the market forces of the seller/buyer, the value is determined by the crypto project’s overall history, revenue, and growth prospects.
Here’s a quick example to prove this. Back in August 2020, Tesla did a 3-for-1 stock split. This means that every individual who holds 1 stock of Tesla (say at $1000) would now get 3 stocks worth $333.3 each. Many companies do this to ensure reachability and retail participation in their shares. Does it mean that Tesla’s value reduced to a third after this stock split? Hopefully, your answer is a solid NO.
Now the bigger question is how to find this value. Because if you know the value of a crypto, you can compare it with its market price and predict if it should go up or down.
If the market price > value, the crypto is said to be in an overbought zone and thus overpriced. It is assumed that prices will match their real value in the long run. If the market price < value, the crypto is undervalued or oversold. You can take a bet on the prices going up to match the value in the long term.
Factors Influencing the Price of Cryptocurrencies
It is time to dig deeper into short-term price action. How does cryptocurrency price change on a day-to-day basis?
1. Supply and demand
In the short run, market forces of supply and demand impact the price of a crypto. It is economics 101. If the supply>demand, the price falls; on the flip side, if demand>supply, the price jumps up.
In the case of cryptocurrencies, one needs to be wary of the total supply of the tokens. Since these tokens are not dependent on any production metrics, they can be generated out of thin air. A whitepaper would give you a fair idea of how many total tokens there are and how they are distributed.
For example, Bitcoin is capped at a supply of 21M. On the other hand, Ethereum has an unlimited supply.
2. Availability on exchanges
When a new token is launched in the market, it is often made available on a decentralized exchange first. Listing on a decentralized exchange is easy; anyone can do it by creating a crypto. However, purchasing via a DEX is not as simple. There is a very niched subset of super users who use DEXs to buy crypto.
As a result, a lot of crypto projects, after getting established, plan their listing on Centralized exchanges or CEX. This exposes them to a newer audience, and hence the demand pumps up, pushing the price upwards.
Being on multiple exchanges also helps projects tap into various geographies.
3. Governance and regulation
Cryptocurrencies are always perceived to be the holy grail of decentralization. As a result, they (especially Bitcoin) are often considered a threat to the monetary system established by the government.
This is why there is a lot of uncertainty and a gray area around the regulation and taxation of these assets. This impacts the prices every time a news piece is pushed by the media. Positive news like El-Salvador accepting Bitcoin as a legal tender would push up the prices, and on the other hand, rumors of some governments banning crypto would hurt the market sentiment.
Finding Value in Cryptocurrency:
Now that you know the drill, you must be itching to find out how you can discover the underlying value of a cryptocurrency. Here’s a model that could help.
1. Fundamental valuation: Crypto asset valuation engine (CAVE)
A quick disclaimer before we proceed, this model is one of the many models to evaluate cryptocurrencies. A prudent investor always does his own research before investing. Coming back to this model. It tries to find the intrinsic value of the cryptocurrencies using the following metrics:
- Revenue: It is extremely important to know the source of revenue of a crypto project. A lot of projects have dubious and shady revenue streams. One should clearly define this in their whitepaper.
- Organization: Do you invest in stocks where you are unaware of the company’s founding team, team size, advisory board, etc.? No right? Then why should crypto be any different?
- History: Recently, an infamous project called Terra collapsed. It resulted in wealth destruction of $50B. Once the project went to the dust, people started digging up the past of the founder- Do Kwon. It was revealed that he was the face behind another failed, similar project. If someone had conducted this due diligence before that, it would have saved them from this mayhem.
- Code: Cryptocurrencies are digital. There is nothing physical backing them up. Therefore, the core fundamentals of a project lie in its algorithm and code. In a realm where the ‘code is law,’ one needs to evaluate it before punting their money. If you aren’t equipped with the skill to audit code, some websites could do it on your behalf.
- Socials: Finally, you must check if the project has omnipresence across all social media platforms. Is the community vibrant enough? Are they talking about the project or just GMing every morning?
P.S. Here is your guide on how to research before investing in cryptocurrencies. You can also start investing in cryptocurrencies through Coin Sets on Mudrex.
2. Fundamental and Relative Value
We just found out how we can determine the worth of a cryptocurrency using fundamental analysis. Another key metric to approach this problem is known as relative value.
While fundamental analysis entirely focuses on the asset’s intrinsic value, relative value helps us gauge its value as compared to its peers. This is the equivalent of comparing the price-to-earnings ratio of different stocks in traditional finance.
In crypto terminology, you could use relative value to compare the prices of different sectors like L1s, L2s, DAOs, P2E tokens, etc.
3. Volatile behavior
Even the volatility of crypto is a function of its price discovery. Market equilibrium is a situation where the price is equal to demand. However, that is barely the reality for any financial market worldwide.
This is even more relevant to cryptocurrencies which are much younger than their counterparts. Maybe mass adoption will pave the way for stability. But for now, the roller coaster rides are real.
FAQs
1. How to know which cryptocurrency will go up?
There are many factors that can help you determine how cryptocurrency price changes. For instance, the demand and supply of a crypto, if the demand>supply, then it is likely that it will reflect in its price. Other factors include their availability on exchanges and the regulations around crypto in a specific geography.
2. Who controls the value of cryptocurrency?
There is no single person/entity who controls the value of cryptocurrency. They are rather influenced by multiple factors, such as:
- Supply-demand: Value increases as demand increases and supply remains limited for a cryptocurrency
- Availability on exchanges: Compared to DEXs, when new tokens get listed on centralized exchanges, they are exposed to wider audiences, thereby pumping the value.
- Governance: New policies by different governments can also impact prices.
3. Does crypto mining improve its value?
Mining cryptocurrency is profitable, and it also increases the supply of cryptocurrency. The harder it is to mine crypto, the limited its supply would be, and if that crypto has a rising demand, you can expect some positive results in its price.
4. What is the next biggest crypto?
Market volatility restricts one from making any predictions. However, for the longest time though, Bitcoin and Ethereum have dominated the crypto market. For anyone else to overtake or compete with them, they must have solid fundamentals and relative value.
5. How long does it take to mine one Bitcoin?
It takes about 10 minutes to add a new block to the Bitcoin blockchain. Each block comes with a reward of 6.25BTC as of 2022. This reward is halved every four years. Miners connected to a mining pool will likely discover a block sooner than any miner solo. Large mining pools can generate up to 179.1 BTC/day, but for solo miners to discover a block, it can take up to years.
