Fundamental analysis is the process of finding the intrinsic value of an asset, with the aim of determining whether the asset is overvalued or undervalued. This information can then be utilized along with technical analysis to decide whether to invest or trade the asset.
In the fundamental analysis of cryptocurrency, the approach is slightly different than the one usually used to evaluate legacy market assets. Crypto assets do not have the necessary historical data, as there is usually no history of income statements or profit and loss statements.
For cryptocurrency analysis, all available information about the asset must be sought through research that includes investigating use cases, networks, the team behind the project, the vesting schedule, the list goes on. By looking at the right set of factors, traders can determine the fundamental value of the underlying project before investing.
Here are the 10 steps I found most helpful:
1. Read the white paper
Especially for long-term, buy-and-hold investments, it is important to read the token’s white paper. This is a document that provides a deliberate and detailed description of a project. A good white paper explains:
- The purpose of the project
- Use cases and distribution
- Team vision
- The technology behind the token
- Plan for upgrades and new features
- How tokens provide value to users
2. Define the statement of the white paper
Be skeptical because the people behind the project may bend, or even distort, the truth.
This happens more often than most realize. For example, Michael Alan Stollery, CEO and founder of Titanium Blockchain Infrastructure Services, raised $21 million in an initial coin offering (ICO).
He later admitted to falsifying part of the project’s white paper.
It is important to ask some hard questions and get complete answers before putting money into the project.
Some questions to consider:
- Are the tokens actually distributed as promised?
- Did they meet the roadmap expectations?
- Do they create problems just to solve them?
- What are others saying about it?
- Are there any red flags?
- Do the goals seem realistic?
3. Look at your competitors
According to some industry sources, almost 40% of the cryptocurrencies listed in 2021 will no longer exist.
That serves as an important truth investors should take into account; many projects – close to half and probably more – fail, and fail miserably.
Examining the project’s white paper reveals the use cases that crypto assets are targeting and the problems they are trying to solve. One then has to consider whether the use case is, in fact, viable and desirable.
Furthermore, it is important to identify competing projects and examine existing projects that this new one could replace, if successful. Bottom line: Smart investors look for whether this project is better than others or not.
4. Look at the team behind the project
A project is only as good as the team behind it.
The person offering the job must have the right skills to do the job. A white paper should have information about each team member, but doing independent research can also help.
Some questions to consider about the people behind any project:
- Have they worked on valuable and successful projects in the past?
- What are the credentials? What do they experience?
- Are they a reputable member of the crypto community and blockchain ecosystem?
- Have they been involved in questionable projects or scams?
What if there is no team? Then find a developer community.
Find out if the project has a public GitHub. Check to see the number of contributors and activity level. More consistent development activity across projects is better.
5. View on-chain metrics
On-chain metrics are available by looking at the data on the blockchain.
The data can be pulled from websites or APIs – such as on-chain analysis, data charts and project reports – specifically designed to inform investment decisions.
Some data to consider:
- Transaction count – a measure of the activity taking place on the network. The more activities, the better.
- Transaction value — how much value has been transacted over time. The higher this number, the better.
- Active addresses – how many block addresses are active at any given time. Again, the more active the address, the better.
- Fees paid – how demand for block space increases or decreases for tokens based on fees.
- Hash rate – a measure of network health in proof-of-work cryptocurrencies. The higher the hash rate, the harder it is to successfully mount a 51% attack.
- Staking – the amount staked at a certain time shows the level of interest, or lack of it, in the project.
6. See tokenomics
Invest in projects that make the token useful, otherwise the token may have no utility in the market.
In addition, if the token is useful, it remains to be determined how the market will embrace it, so that it can understand the price movements of the token and allow investors to make profits on a continuous basis.
Some questions to consider:
- Are tokens useful?
- How do people get tokens?
- What is the rate of inflation or deflation?
- What are ICO assets?
7. Market capitalization, trading volume, liquidity
Some of the most important analyzes are about the financial metrics of tokens related to the project, including:
- Market capitalization – the value of the network represented by the hypothetical cost of buying each unit of the asset. “Market cap” provides insight into the network’s growth potential, and is calculated by multiplying the circulating supply by current prices.
- Trading volume — the amount of value traded at a given time (daily, weekly, monthly). This indicates that the token has sufficient liquidity.
- Liquidity – an indicator that measures how easily tokens can be bought and sold. The more liquid a token is, the easier it is to sell at the current trading price.
8. Society
When the community behind the project, it tends to help the token project appreciate in value.
Social media, for example, can have a significant impact on the price action of crypto assets. Meme coins such as Dogecoin and Shiba Inu have increased in value, in part, due to social media excitement.
Just recently, Solana’s BONK token saw a price increase as social media activity pushed the level of interest in the asset to new highs.
A community that supports a coin is a powerful catalyst, so here are some questions to consider:
- Is the community active and excited?
- Are there many shilling accounts?
- Is it a good sentiment?
- Are there many developers?
Remember, the token price increases only if there is interest and market action. The more people talk about and invest in the token, the more its value will appreciate.
9. Marketing
Currently, there are approximately 21,910 cryptocurrencies that investors can choose from – that’s a lot of competition!
The team behind the project must actively market the token to distinguish itself from the crowd, and industry insiders say that it is now harder than ever to stand out.
Moreover, with the constant arrival of new tokens in the market, established cryptos are struggling to retain their market share.
So, the team behind the project needs to actively build brand awareness, acquire customers and retain customers to increase sales and profits.
Some questions to consider before investing in a project:
- Is the core team marketing the product well?
- Do they have a dedicated marketing team?
- Are they increasing their market share or not?
10. If the core product is available, test it out
This may be a bit difficult for people who only want to invest in the project’s base token. However, let’s say that someone is considering investing in Ethereum (ETH).
Since Ethereum is a decentralized global software platform, a functional and secure digital network technology will definitely show how the platform works.
Knowing this can certainly help inform potential investment decisions.
After all, if the platform is hard to use, time-consuming or else creates more problems than it solves, it may be wise to steer away from investing in that platform until this problem is addressed.
So there you have it – 10 steps to good fundamental analysis to help you evaluate the profit potential of any asset before investing or trading.
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Cointelegraph is a publisher of financial information, not an investment advisor. We do not provide personal or individual investment advice. Cryptocurrencies are volatile investments and carry significant risks including the risk of permanent and total loss. Past performance is not indicative of future results. Figures and graphs are correct when written or as specified. Directly tested strategies are not recommendations. Consult a financial advisor before making any financial decisions.
All ROIs quoted are accurate as of February 16, 2023…