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What is Fundamental Analysis in Crypto and How to Do It?

28 Sep 2022 By : Rohit Khandelwal
Southeast Asia’s Lar

Key Takeaways

  • Fundamental analysis involves assessing all market components and fundamentals that impact the value of the asset.

  • It assists in determining the intrinsic value of a crypto asset.

  • Fundamental analysis focuses on both quantitative and qualitative metrics.

While considering an investment or trade in cryptocurrencies, you may have doubted if a certain coin is overpriced or underpriced. You can use a technique known as crypto fundamental analysis to determine whether it's worth investing in or trading in a coin or not. It is done by looking at its use cases, community, and project team to determine whether the token is intrinsically underpriced or overpriced. 

There is a significant difference between cryptocurrencies and other traditional financial assets like stocks. Fundamental stock analysis comprises examining a company's financial health and viability using financial documents. However, in the case of crypto, financial statements or reports are not available to support analysis. So, a little bit different approach is being used.

What is fundamental analysis?

Fundamental analysis is a method of determining an asset’s fair market value. In crypto, it's all about determining the asset’s fundamentals, which contribute to its value. It is the process of analyzing and evaluating an investment to estimate its future worth or to evaluate if a cryptocurrency has an intrinsic value that isn't represented in its current market price.

It includes research of everything that has the potential to impact the value of a security, from macroeconomic issues like the state of the economy and industry circumstances to microeconomic elements like the effectiveness of the company's management. 

As an investor, you may then use this data to purchase or sell holdings tactically based on whether the coin is overvalued or underpriced. It also helps traders to trade with confidence, whether they are non-technical investors or seasoned traders.

 Unlike technical analysis, which looks at historical data to anticipate future occurrences, fundamental analysis looks at the larger picture, taking into consideration facts such as the crypto user community, financials, real-world application, and future use.

How to do a fundamental analysis?

Fundamental analysis is conducted by focusing on both qualitative and quantitative metrics. 

It mainly includes the assessment of the project’s potential, financial stability, and blockchain or the protocol deployed. 

Project Metrics

The project metrics are based on a qualitative approach that takes into account the performance of the team, the whitepaper, and the competitors. They investigate how crypto works and how it came to be, with a focus on the development side.

The Whitepaper

A whitepaper is a technical document that explains the goal of the project. It assists investors in understanding how the project differs from others in the crypto market. While undertaking analysis, going through a company’s whitepaper is a good idea to cross-reference this data with the project’s objectives.

You can learn more about the goals and what other people are noticing as red flags. Additionally, it also helps in determining the road map, token economy, and distribution strategy of the project. 

The Team 

You should examine the developer team behind the project in several aspects. Discover more about the project's crew, and look for information on their official website, social media accounts, or platforms like GitHub or Bitbucket where they showcase their open-source projects (developer community). 

It gives you the complete picture of the project’s feasibility and legality. How many people contribute, and how active are they? Check to see whether any of the team members have the necessary abilities to complete the assignment. Have they conducted any prior successful projects of this nature? Are they now employed, or have they been tied to any unethical activities or fraud schemes?

The Competitors

It's also a good idea to do a thorough examination of your selected coin's rivals. While a coin may look tempting, if other cryptos are more valued and frequently used, it may not last long.

Financial Metrics

The financial metrics of a project are based on the quantitative approach. Data on the current traded asset, liquidity, external factors, and market reaction are examples of financial indicators.

Market capitalization

The first thing investors consider when considering a cryptocurrency is its market capitalization. It represents the overall market capitalization of cryptocurrencies in dollars, illustrating how much room for growth there is.

However, market capitalization is insufficient on its own. When other indications, like liquidity, are not taken into account, market capitalization might yield false values.

Liquidity

It refers to the ease with which an asset can be bought or sold. If a cryptocurrency asset can be purchased or sold fast without significantly changing its market value, it has high liquidity. Many buyers and sellers will be queuing in an order book for a liquid cryptocurrency coin or token. This, in turn, reduces the bid-ask spread, which is a good indicator of liquidity.

Volume

Trading volume can be used to predict a coin's or token's capacity to maintain momentum. It is used to assess liquidity since it displays how much money was exchanged in a certain period. If a price increase is accompanied by strong trading volume, the gains may be more likely to last. Price swings without sufficient trade volume, are not long-lasting. 

Circulating Supply 

Circulating Supply is the total amount of coins in active supply that are available to the public. The circulating supply, unlike the total supply or the greatest potential supply, is not static and can fluctuate over time since coins can be burnt. It is one of the criteria that traders should pay close attention to.

Blockchain Metrics

These are on-chain metrics, which correspond to blockchain activity and are supported by network data. It can provide information about an asset's behavior as well as the technology and procedures that enable it to occur.

When analyzing a cryptocurrency using blockchain metrics, the three most important factors to analyze are hash rate, active addresses, and transaction amounts and fees.

The Hash Rate

The hash rate of a mining machine is a measure of its ability to perform hashing computations efficiently and effectively. It determines a miner's or mining pool's profitability.

A higher hash rate suggests a greater possibility of mining a block and, as a result, a greater likelihood of obtaining the block reward. A drop in hash rate, on the other hand, indicates that miners are leaving the network since it is no longer feasible for them.

It also indicates the health and security of a  network. As an investor, search for coins with a larger network since they are more resistant to assaults and data tampering.

Active Addresses 

Active addresses are the total number of active blockchain addresses throughout a certain time period. To measure activity and interest in the coin or token, depict the active addresses over a period of days, weeks, or months and compare the rise or fall. Another method is to count the number of unique addresses over a set period of time and then compare the results.

Transactions Values

Fundamental analysis, like technical analysis, is also concerned with calculating transaction values. The presence of a continuously large transaction value indicates that the cryptocurrency is in widespread use. 

Fees on transactions

Fees directly reflect the blockchain demand: how many transactions pay to be included in blockchains, or how many users compete to get their transactions included as fast as feasible. Ethereum gas is a nice illustration of these costs.

The total amount of fees paid over time gives you an indication of how secure the currency or token is. Transaction costs might naturally climb over time as the block subsidy or block reward decreases in accordance with the mining difficulty. This benefits those whose block rewards are decreasing, such as Bitcoin. Crypto miners will begin to lose money if the reward is not changed, and they will abandon the blockchain.

Bottom Line

Fundamental analysis is critical to increasing your chances of acquiring and generating a profit, especially if you want to make a long-term investment, also known as HODLing, where you buy and keep cryptocurrencies for the long term. It also helps traders to trade with confidence, whether they are non-technical investors or seasoned traders.

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