You can use a token’s supply and valuation data to make sound investment decisions if you can interpret them.
And that’s what I will help you within this post.
After reading this, you can analyse and interpret any project’s supply and valuation data to help you make more informed decisions.
Understanding supply
As you may already know, a token’s supply refers to how many exist or will ever exist.
And it’s categorised into three:
- Maximum Supply
- Total supply
- Circulating supply
Let’s discuss each of them below.
1. Maximum Supply
Maximum supply refers to the fixed amount of a token that can ever exist. Beyond this number, no new tokens will be created.
Given sufficient demand, the lower the maximum supply of a token, the higher the potential price.
In the same way, the higher the maximum supply, the lower the potential price due to inflation.
1.1 What is the ideal maximum supply for a token?
There’s no magic number. But my preferred range is between 1 to 10 billion maximum supply.
I prefer tokens with a very low maximum supply because, given sufficient demand, their price tends to appreciate more.
However, the main determinant of a good maximum supply for a particular project is its market size or demand.
The larger the number of users a project serves, the more it can afford a large maximum token supply, as there will be enough demand to support its value.
However, a project with a lower user base will not do well with a large token supply as there won’t be enough demand to support its price.
Such tokens’ prices will always be suppressed due to inflation and insufficient demand.
1.2 Token supply that I would avoid
One of my crypto policies is to avoid projects with multiple tokens or unlimited supply.
I consider them money grabs, or the devs are terrible at tokenomics. Either way, I’m not touching them.
Nobody needs multiple tokens for the same project, and an unlimited supply is even worse as demand is limited.
Finite demand vs. an infinite supply is the perfect way to keep a token’s price suppressed forever.
But there are a few exceptions to this.
For example, when a project implements a strong token burn mechanism.
1.2.1 Burning mechanism
If a project has a strong burning mechanism that takes more tokens out of circulation than new ones being created.
This will help contain inflation, reduce the supply over time, and support the token price increase.
But this is a rare exception.
And it’s only possible if the project generates enough revenue to buy back and burn enough tokens to offset its inflation, like Ethereum (ETH).
But few projects have such a strong and sustainable revenue system, so most infinite supply tokens are doomed from the beginning.
2. Total supply
This is the total amount of the tokens created so far, including all locked tokens and those in liquidity pools.
The total supply will continue to increase towards the maximum supply as more tokens are created through block emissions or mining, as the case may be.
Burned tokens are excluded from the total supply, and all future burns may reduce the total supply accordingly.
2.1 What can the total supply tell you about the price of a token?
A lot, but also based on several factors such as:
- The level of demand or hype for the token. Crypto is crazy! Token prices can still pump even with high inflation, given sufficient hype.
- How many new tokens are being created? High inflation means a high potential dump.
- Token unlocks. High token unlocks mean potential dump incoming.
Generally, if the current total supply is far lower than the maximum supply, the token’s price will do poorly in the short to medium term due to inflation.
Because there are still a lot of tokens waiting to be created, with the inevitable selling pressure to follow due to inflation.
This is assuming that new tokens are being created faster than the demand. And there’s no huge hype around the project.
But if demand is strong enough, the price may increase. At the same time, you should expect very high volatility in the short to medium term.
A safe play is to buy and stake the token to accumulate staking rewards and wait it out.
Or you can take advantage of the volatility to trade the token for quick profits if you know what you’re doing.
3. Circulating supply
The circulating supply is the amount of the token that’s been released into the market and is being traded by the public.
Similar to the total supply, the more of the token’s supply is in circulation, the better, as there’ll be less additional selling pressure from inflation.
If 100% of the token is in circulation, the price will be more stable and only subject to fluctuations in demand or general market conditions.
And as the project grows, the token’s price should naturally increase.
Also, the more the token is taken out of circulation through staking or similar programs, the better for the price, as fewer tokens are available to be sold.
Ideally, you want to buy a token with a high circulating supply and have a staking program financed using the project’s revenue.
That means staking rewards are paid with a portion of the project’s revenue or profit.
Understanding valuations
There are three important project valuation metrics you must take note of.
They are:
- Market Capitalisation (MC)
- Fully Diluted Valuation (FDV)
- Total Value Locked (TVL)
Let’s discuss each of them below.
1. Marketcap
Marketcap or Market Capitalisation is the total market value of a token’s circulating supply.
It is calculated by multiplying the circulating supply by the current price of the token.
Circulating supply X current price = Marketcap
MC is a highly misunderstood and overrated metric because most think it means the total amount of money invested in a token.
That’s a very fat misconception, as it doesn’t even remotely reflect the amount of money invested in the token.
For example…
Let’s assume we just created a CST token with a maximum supply of 1,000,000 and a circulating supply of 500,000.
Now, we’ll list CST on a DEX with an initial price of $1. The token is now tradeable on an exchange.
Forward a few seconds later, someone bought 100 CST for $100, and the price increased to, say, $1.2
The marketcap of our new token now will be 500,000 x $1.2 = $600,000.
Notice that only $100 has been invested in this token, but it now has a marketcap of $600,000.
In what way does this MC reflect how much has been invested in the project?
None!
It’s even worse if the token has an even larger circulating supply, as even a $1 investment could give it a marketcap in $billions.
It’s a useless metric when used alone.
2. Fully Diluted Valuation (FDV)
FDV is the total marketcap of a token if its maximum supply is in circulation.
It is calculated by multiplying the maximum supply by the current price of the token.
Maximum supply x current price = FDV
Like MC, FDV doesn’t tell you the true value of a project or how much has been invested in it on its own.
It’s best used to evaluate a project together with TVL and your rough estimate of a project’s value based on its fundamentals.
2.1 How to determine the fair price of a token based on its FDV
You can determine whether a token is currently overvalued or undervalued based on its FDV.
Let’s use the Presearch (PRE) token to demonstrate this.
Presearch (PRE) Token
Presearch has a maximum supply of 500 million with a current FDV of $14 million.
Remember, FDV = maximum supply X current price.
Based on my understanding of the project’s fundamentals and potential, I believe Presearch should be worth at least $1 billion.
Presearch is a billion-dollar project, given its product and tech, market size, fundamentals, competitors’ valuation, etc.
But this is my own opinion of the potential value of the project. Yours or any other person’s could be different.
The most important thing is to make your estimations based on your evaluation and understanding of the information you have about the project.
Okay, now let’s continue with the maths.
Divide your estimated project value by its maximum supply to get its fair price.
For Presearch, it’ll be:
$1,000,000,000 / 500,000,000 = $2
Based on my projections, the fair price price of PRE should be at least $2.
As such, the current price of $0.028 is a massive steal and a strong buy signal.
This is why PRE is one of the tokens I am currently accumulating. Because I believe it’s ridiculously undervalued.
If your estimated fair price of the token is higher than the current price, the token is undervalued.
And if it’s lower than the current price, the token is overvalued.
It’s as simple as that.
3. Total value locked (TVL)
TVL refers to the total amount of real capital deposited on a platform through lending, liquidity, staking, etc.
Unlike marketcap and FDV, TVL is actual money users deposit in a protocol and better represents how popular a project is.
The higher the TVL, the more people trust the platform or find it profitable, and the greater adoption it enjoys.
DeFiLlama is one of the most popular crypto tools that measures the TVL of all popular chains and protocols in DeFi.
How to evaluate a project based on its FDV/TVL Ratio
The FDV/TVL ratio compares a project’s TVL with its FDV, indicating whether it’s currently undervalued or overvalued.
It is calculated by dividing the FDV by the TVL value.
FDV/TVL.
If the ratio exceeds 1, the FDV is greater than its TVL.
That is, the market valuation of the project is higher than the money people have deposited on it.
That means the project is currently overvalued.
But if the ratio is below 1, the TVL on the platform is higher than its FDV and is currently undervalued.
Let’s demonstrate this using the Biswap (BSW) token as an example.
Biswap (BSW) valuation
As you can see from the above screenshot, BSW is currently undervalued with an FDV/TVL ratio of 0.74.
There’s more capital locked on Biswap than its current FDV, which shows that the level of adoption is greater than its current value.
But note that the ratio will also change as the FDV and TVL values change with time.
Conclusion
“You make money when you buy, not when you sell” is a popular saying among investors.
And it means how much you bought a token determines to a large extent whether you will profit from it later on or not.
As such, when investing in crypto, it’s important to try and buy at the right price to increase your chances of making a profit later.
That’s why, in this post, we have discussed the various ways you can estimate a token’s fair value based on its supply, marketcap, and TVL data.
With this information, you can safely evaluate whether a project is overvalued or undervalued and then invest accordingly.
Which is your favourite way of evaluating a token’s fair price?
