Introduction
You can earn more than your expectations if you back your investment with solid analysis. The cryptocurrency market needs analysis more than indices, stocks or commodities do. You might think that if the science of investment had been as simple as mastering through analyses, many would have earned billions, but most people lose money and only a handful succeed. Yet, strengthening your research with fundamental analysis, in combination with some technicals, you may be one of those few who come out victorious in the crypto market.
An Overview of Fundamental Analysis
Whenever you try to get information about a crypto coin or token, the first thing you come across is charts and complicated trendlines that repel you instead of attracting you because you feel at a loss to get anything out of them. But this kind of data pertains to technical analysis.
Fundamental analysis, in contrast, lets you go into the intrinsic value of the blockchain. It has some internal as well as external aspects. Internal aspects include the analysis of a network’s market capitalization, circulation supply, maximum supply, tokenomics, active wallets, net transactions and speed, etc. It is also important to consider which narrative the coin is operating in. External factors include market competition, overall economic situation, inflation, etc.
If you study the network’s credentials first and then move to the external factors, you are following a bottom-up approach. On the other hand, if you analyze the external factors before narrowing down to the company-specific aspects, this approach is called a top-down approach. Both these methods are widely adopted by those who prefer fundamental analysis to technical analysis.
The Purpose of Fundamental Analysis
The purpose of fundamental analysis is to determine whether the coin is undervalued or overvalued. An undervalued coin is the one whose current market price is lower than what the fundamentals indicate. This situation indicates a buying opportunity. An overvalued coin is the opposite, with the current market price higher than the fundamental indicators suggest. Such coins need avoiding, or selling if you have already bought them.
Fundamental Analysis Vs Technical Analysis
A new trader or investor may feel indecisive when faced with the choice between technical analysis and fundamental analysis. With the help of charts and patterns technical analysts claim that future price predictions are possible by studying candlestick psychology. In fact, charts are the representations of the confidence or hesitation of investors. For example, long wicks on the lower side show that sellers have tried to dump the market, but the buyers have successfully pulled it back. If such wicks co-exist with high volume candles, the possibility of bullish trend dominates. Similarly, high wicks indicate the upper hand of sellers and onset of bearish trends or at least a dip.
The premise of fundamental analysis is that the current market price of a cryptocurrency is not the actual price of the asset. It makes decisions on the fact whether the coin is undervalued or overvalued, as has already been discussed.
There is a notion namely Efficient Market Hypothesis (EMH), which states that markets are too smart to be beaten by an average investor. Technical analysis mainly relies on past price actions to predict future prices. But EMH claims that the past information is public, and markets tend to outperform that knowledge. In short, EMH falsifies that claims of technical analysis as well as fundamental analysis.
Consequent upon the comparison, it is safe to assert that neither of the two types of analysis has an upper edge. You can combine them to get better results.
Indicators of Fundamental Analysis
Network Value-to-Transactions Ratio
NVT is calculated by dividing the total worth of the network by the daily transaction volume. Suppose coin X and coin Y have a market cap of $50,000,000. Daily transaction volume of coin X is $250,000 and that of coin Y is $500,000. The NVT of X is 200 and of Y, it is 100. The lower value shows that the coin is undervalued and that the price may soar in future. Overvalued coins have higher NVT, indicating downtrend in future.
Active Addresses
The more activity a cryptocurrency has, the larger its number of active addresses on the blockchain. Although the number can be manipulated easily, it is nevertheless a useful indicator to determine how alive the project is.
Price-to-Mining-Breakeven Ratio
In POW (Proof of Work) projects like $BTC, the participants spend energy to mine new blocks and earn the reward. When we divide the coin’s current market price (CMP) by the mining cost, we get a handy indicator called Price-to-Mining-Breakeven Ratio. If this Ratio is under 1, miners are at loss, and we can expect a pump soon. Conversely a higher ratio may indicate profit-taking and capitulation events soon, indicating a dump.
White Paper
The most important way to find out where a coin may be going in future is to study the white paper. It gives you information regarding the project’s roadmap and the integrity of its team. The white paper tells you how many use cases of the coin there are, and what the track record of the team is.
Pros and Cons of Fundamental Analysis
Pros
When we study the history of the world’s leading businesspeople, we discover that their rigorous research featured intensive study or experimentation before the real investment. The best advantage of Fundamental Analysis is that it is based on studying information, which almost anyone can do.
Secondly, fundamental analysis reliably sifts undervalued projects out of the overvalued ones. This filtering out helps you choose the right destination for your hard-earned money.
Cons
A glaring disadvantage of Fundamental Analysis is that the information on a project may be too little or too much. Anyone can study the fundamentals, but it is not always easy to decide what to trust and what not to.
Moreover, there is no guarantee that an undervalued coin may pump. There are numerous examples of crypto projects that failed to deliver what they promised in the white papers, but people lost millions by investing and shilling the coin.
Also, fundamental analysis is suited for long-term investment more than day trading or scalping, etc.
Conclusion
In short, fundamental analysis is the study of internal and external aspects of a crypto network to find out its actual worth. It uses indicators different from the ones used in technical analysis, but answers the same question: what can be the future price of the coin?
