Cryptoasset investors often speak of investing based on “fundamentals” rather than hype, sentiment, or technical analysis. However the analytic infrastructure for a rigorous understanding of a cryptoasset’s value relative to another is virtually nonexistent. Equity investors have had 80 years to mull over and refine Graham and Dodd’s principles of value investing, but digital currency investors have had no such privilege.
Most mainstream security analysts would argue that “investing” is a misnomer when applied to Bitcoin and its cousins; that generating a return on a digital currency is entirely reliant on the existence of a greater fool; that speculation is a more apt term. Perhaps this is the case. But the precise nature of the asset does not dictate the investing/speculating divide. The SEC has just approved four times leveraged ETFs for retail investors. Binary options, peer to peer lending, exotic derivatives, margin and shorts with unlimited downside – these are all available to retail investors in the regulated landscape, with relatively few barriers to entry. Are these investments? Or speculative assets? What’s the difference? The fact that stocks carry guarantees and investor protections? This is poor consolation to retail investors that saw their portfolios wiped out in 2008, or saw their interests subjugated to those of creditors time and time again. Esteemed equity analysts couldn’t save investors from the catastrophic Dot-com bubble, despite their models and expertise.
Yet individuals that do not have the expertise or desire to participate in equity markets have few options. Due to quantitative easing and central bank policy, bonds offer poor yields, and regular bank accounts offer almost no interest. Risk free rates are essentially zero – negative in some cases. The modern saver has few options, and they find themselves forced into a world of ETFs and brokerages and 401ks that they do not necessarily want to participate in. It’s a great paradox of investing that individuals are expected to achieve some level of competence in equity markets, even while academics tell us that it’s no use, as no one can beat the index. But blindly relying on continued upward growth at a market peak is a painful and risky enterprise. What option, then, do individuals have when buying at historic valuations? Schiller CAPE ratios tell us that, given the current level of earnings multiples, American investors can expect a measly 2% real return over the next five years.
Inflationary macroeconomic policies mean that holding cash is a non-starter. Thus when Satoshi Nakamoto introduced a decentralized, universal, disinflationary currency in 2008, savers for the first time had access to a finite store of value outside of the reach of central banks. Currency, commodity or asset – Bitcoin is treated as digital gold, and each token is a claim on a limited reserve of bitcoins, deterministically capped. The largest computing network in the world secures each transaction, and expenditures are irreversible. This technological development – an immutable, distributed database – opened the door for a flood of new innovation. Now the cryptoasset universe encompasses hundreds of cryptocurrencies, smart-contract assets, cryptotokens, and has radically enhanced developer access to capital markets.
Faced with this buffet of assets, investors require consistent, comprehensible research that clarifies their options and sheds some light on appropriate cryptoasset valuation. Variable inflation policies, large premines, misleading market cap indicators, empty volume, and obscure governance structures are just a few of the issues that impede market efficiency today. Markets are still relatively inefficient, and many investors will lose money betting on assets they do not understand, or which are happily manipulated by founders.
Thus over the coming months the coinmetrics team will be introducing comparable metrics, along with detailed explanations of our methodology, thought process, and their place in your analysis. While ratio analysis is no substitute for a discounted cash flow model in equity investing, it still allows analysts to find under- or overvalued assets relative to their peers. For cryptoassets, there are no cash flows to discount, so ratios are one of the best tools in the investor’s arsenal. This is especially the case in irrational markets. Investors making fundamentally sound decisions will have a colossal edge over their peers trading on noise or sentiment.
More generally, our plan is to equip serious investors with the tools to appraise cryptoassets in a rigorous, careful manner. Fundamental measures of valuation can be extracted from the trove of data available today, and peer group comparisons will spotlight undervalued assets. Efficient markets mean efficient allocation of capital, and that is an end we intend to pursue. We hope that our metrics and analysis can assist you in your understanding of these markets.
