A Beginner’s Guide on How to Value Crypto Assets

Finding the value of cryptocurrencies can be quite daunting, especially for beginners. Nonetheless, it’s crucial to value crypto assets to calculate their fair market value and predict future or possible market prices. Unlike bonds, stocks, and real estate, where the value of investments is evaluated based on the company’s financial statements, historical price charts, etc.

Crypto assets are evaluated using varied methods. Common ways of valuing financial assets in traditional markets include the P/E method or Price/Earnings ratio, discounted cash flow, and the Gordon growth model. While it’s challenging to value crypto assets, obtaining their real value and making profitable investment decisions is still possible. Here’s an in-depth look at how you can value crypto assets using the available methods. 

History of Valuing Crypto Assets

Crypto assets valuation started with ARK Investment Management– a global asset manager specializing in thematic investment strategies spanning market capitalizations, sectors, and geographies. The company was the first public company to invest in Bitcoin in 2015. At the time, no investment company thought cryptocurrencies were lucrative. But, led by Chris Burniske, co-author of “Cryptoassets: The Innovative Investor’s Guide to Bitcoin and Beyond,” ARK valued Bitcoin at earlier stages and established the potential for significant growth. 

What are the Challenges of Valuing Cryptocurrencies?

Valuing crypto assets is challenging. For a start, valuation approaches in the traditional financial markets cannot be applied in valuing crypto assets. Besides, a precise conventional method for valuing crypto assets is lacking. Some of the challenges of valuing crypto assets include the following: 

Roo's All-In Giveaway, $300,000 in Prizes!

• Cryptocurrencies and blockchain networks that they are built on are not companies. Crypto assets are a medium of exchange independent of any bank or central authority. Therefore, they don’t have cash flows; their value doesn’t depend on their capacity to generate revenue; instead, there is popularity and trading volume. Without any apparent cash inflows, it becomes complicated to establish the precise value of crypto assets. 

• The lack of financial records makes it hard to establish the precise value of crypto assets. Most cryptocurrencies have existed for less than five years and are still developing. Furthermore, Crypto assets are decentralized; thus, financial records are not kept by any central authority. This makes valuation challenging. 

Valuing Cryptocurrencies: What to Consider

Despite the challenges, it’s still possible to value crypto assets by estimating their value based on the interaction of various factors affecting them. Some factors to consider when valuing crypto assets are: 

Utility

The value of crypto assets is mostly affected by their utility. The higher the utility, the higher the crypto asset attracts value. For instance, Ether has a high-value thanks to its utility on the Ethereum blockchain used to develop smart contracts. ETH is needed for anyone on the Ethereum blockchain to execute commands and develop applications. 

Perceived Value

The perceived value of crypto assets also drives the relative value of cryptocurrency. The perceived value of cryptocurrencies is affected by numerous factors, including energy usage, usability, and investors’ interest.

Demand and Supply

Demand and supply directly affect the value of crypto assets. Crypto assets with limited supply and high demand, such as Bitcoin, have a higher value than coins with high supply and low demand. For example, Bitcoin’s total supply is capped at 21 million to keep its value high.  

Approaches to Valuing Crypto Assets

Crypto assets can be valued using both qualitative and quantitative analysis. 

Quantitative Analysis

There are several quantitative analysis approaches in valuing crypto assets, as below. 

• Equation of Exchange Formula 

ARK Investments came up with a unique economic model to assess the value of crypto assets. They established a formula called the Equation of Exchange. The formula is as below: 

MV = PQ 

Where:

M = Size of the asset base

V = Velocity of the asset

P = Price of the digital resource being provisioned

Q = Quantity of the digital resource being provisioned

• Sharp ratio 

A sharp ratio involves valuing an asset’s value by analyzing its historical price data. The quick ratio is calculated by dividing the asset’s return on investment by the asset’s volatility. Crypto assets with a quick ratio above 1.0 are considered valuable. 

• Factor Analysis 

Factor analysis is a valuation method in the traditional stock market that can still value crypto assets. In factor analysis, crypto assets are grouped in a portfolio using several factors, usually three to six. 

Bloomberg carried out a Factor Analysis valuation on crypto assets and grouped them into three portfolios: Size, Quality, and Service. The Size portfolio included Bitcoin, Ethereum, XRP, Litecoin, NEM, and Ethereum Classic. The Quality portfolio included Bitcoin and Ethereum, while the Service portfolio included currencies that offer services, notably STEEM and Iconomi. 

The analysis ranked the Size portfolio to have the highest value, while the Quality portfolio had the most volatility. Bloomberg’s crypto-asset valuation approach has some level of accuracy since it reflects the performance of crypto assets. 

Qualitative Analysis

Qualitative analysis, unlike quantitative analysis, looks at the traits of a particular crypto asset. The analysis involves looking at the following: 

• The community behind a project 
• The core team behind the project and their qualifications in achieving its goals. 
• Analyzing the project’s white paper and determining whether solving a particular issue will be meaningful. 
• We are establishing the views of experts towards a particular crypto project. 

Final Words

Like other financial instruments such as stocks and bonds, cryptocurrencies attract value. However, valuing crypto assets is challenging, considering they lack flows, inventory, and other traditional economic elements. Therefore, it’s impossible to value crypto assets using conventional financial valuation methods such as Discounted Cash Flow, P/E evaluation, and the Gordon Growth Model. Additionally, the lack of a conventional and precise crypto valuation method makes it challenging to value crypto assets. 

Btc

Bitcoin

$26.227
price

0.17781%
price change

TRADE NOW

Nonetheless, it’s still possible to value crypto assets using qualitative and quantitative approaches. Quantitative approaches involve looking at the quick ratio, using the Equation of Exchange formula, performing Factor Analysis, and looking at the Network value to transaction ratio. Qualitative approaches involve analyzing the core team behind the project, the whitepaper, and how other blockchain experts think about the project. So while it’s hard to value crypto assets, it’s crucial to establish their exact value to determine if they’re a lucrative investment.