Yes, I know, many people think that fundamental analysis (FA) is a great way to analyze the prospects of a project. It is, for sure. If it’s real FA. The problem comes in when you look at FA in crypto, and you note it’s just hype. It’s all repeated buzzwords. Promotional blurbs and buzzwords are not analysis, they’re not even fundamental. What passes for FA in crypto is not FA like 95% of the time (I made that percentage up based on my non-scientific observations).
What is Fundamental Analysis?
To get my issue with FA in crypto, you really have to understand what FA is and isn’t. Fundamental Analysis is about analyzing internal factors to determine a project’s worth, while Technical Analysis is all about external factors. Price? Market History? Market Sentiment as a whole? That’s TA. Management Team? Economic conditions? Industry conditions? Company Finances? That’s FA. When was the last time FA in crypto included analysis of these topics? It happens very rarely. Fundamental Analysis isn’t just general, non-quantifiable strengths, it’s a mix of quantitative and qualitative features.
Quantitative Aspects of Fundamental Analysis
Quantitative Fundamental Analysis is all about the math. Many people get this confused for Technical Analysis because they see TA as being based in math. They’re not wrong, TA is based in math, but it’s different math. TA is looking for price and market patterns, the underlying value of the project is largely irrelevant, because there is a history of the project’s value charted in real time. The Quantitative Aspects of Fundamental Analysis should not be confused with Quantitative Analysis (QA).
Traditional Business Valuation
In Quantitative FA, the math is about data you get from the company or project itself. There are many models that lead to valuations based on this data. In traditional businesses, you’d be looking at the financial statements, cash flow statements, the balance sheet, the income statement, and some other figures. Using those figures you could use models like the discounted cash flow model, dividend discount model, or one of the ratio valuations, either price to earnings or price to book.
Network Valuation
The rise of nontraditional businesses, like telecom networks, brought us a new type of problem. We were faced with an issue of placing a value on something largely intangible. What is the value of connecting and does that value change with an increase in the number of active users you can connect to? What period of time constitutes “active”? How do we best represent the growing value per user because of the exponential number of additional connections each user enables?
There are countless network valuation models, but my personal favorite is Metcalfe’s Law. They all do approximately the same thing, which is to answer what the value of a collection of connections is and how that value changes with the number of active users.
There are many valuation models other than these, but this is just to explain that the math behind Quantitative FA is based on actual mathematical analysis and available in depth reports. Another type of valuation model you may come across in relation to crypto is focused on SaaS or “Software as a Service”. Some projects offer software type services, which is where those valuation models would come into play.
Qualitative Aspects of Fundamental Analysis
There are many things that can be considered to be part of the quality of a project or company. The Qualitative Aspects of Fundamental Analysis seek to identify and analyze them. There are people who would argue that if you can’t quantify something, it doesn’t have value. However, given two otherwise nearly identical companies at the same point in their growth, with the same figures, you may lean towards the one with the experienced team. You may lean towards the one with a marketing campaign that went viral lending to a better brand recognition.
The value of these things isn’t easily represented in facts and figures, but it still has an impact on company success. Qualitative FA is where most of the “FA” in crypto would fall, if it were any form of actual FA at all. Generally, the closest I see crypto enthusiasts get to real FA is checking out the team. Within the realm of Qualitative FA, there are two categories. The first is focused on the project itself, or in traditional terms, the company. The second is focused on the industry and the company's place in it.
The Project
Some qualitative considerations of individual projects are brand recognition, business model, management team, competitive advantage, and governance. These types of quality focused insights are best represented as questions:
- Who knows about this brand?
- How does this project make money?
- What does this project do well?
- What does this project do poorly?
- How is this project managed?
- What is the governance structure?
The Industry
Crypto is somewhat unique in that most projects have feet in a traditional industry and in the blockchain industry, which makes it complicated to examine industry considerations in qualitative fundamental analysis. If you didn’t know better, you’d use blockchain industry stats to examine project viability on all crypto projects. That isn’t optimal. If a project aims to exist in and revolutionize the solar industry, you need to know if they can cut it in the solar industry.
Who are the customers?
Customers are how most businesses make money. Who are the customers for a project? If a project is solely dependent on one or a few customers, that’s a bad sign for viability.
Who is the competition?
A project with serious competition is going to represent a small percentage of market share, which might indicate barriers to overcome. It could also indicate that competitors are better positioned to take advantage of price breaks and other things that fall under economies of scale (basically it’s cheaper per customer the more customers you have).
What are the barriers to entry?
Can anyone come and compete? Are there hoops to jump through to enter the industry? Have they already been navigated? Is this a failure point for similar companies?
What are the regulatory considerations?
An industry facing new regulations can completely wipe out a business. It’s important that projects don’t rely on the regulatory winds going their way.
Is the industry growing?
It’s harder to gain customers in a static industry, because your potential customers are already someone else’s.
What is the point of the token?
Are you purchasing a digital gift card for services you’ll never use? What is the purpose of the token/coin? What is the appeal of the coin? Who is the buyer of the token or coin down the road?
These qualitative considerations speak to the quality of a potential investment or business. They’re difficult to quantify, but impactful regardless. I rarely see any of these considerations outside of presale/seed round pitch decks. In my opinion, that says a lot about what projects think of the abilities of their ICO participants.
Fundamental Analysis in Crypto
It almost seems like FA is confused for “fundamental catalyst” in the cryptosphere. A fundamental catalyst is news that has the potential to cause a movement in price. Or as we call it in crypto, hype. Hype is not about underlying value, it’s about perceived value in the moment. It’s why we see so many pump and dumps. It’s why many of us follow the “buy the rumors, sell the news” maxim.
When truly analyzing the underlying value of crypto projects, you’ll be left underwhelmed by most of them. Most projects have little to no adoption, no customers, and no plan for sustainability. That makes investments in those projects pure gambling. In addition to no one using these projects, many of them are never even made! Vaporware and token economics are two topics that I could delve into for hours, but suffice it to say, if there isn’t a product or if you’re buying a gift card for a product you’ll never use, what is the point?
Emotional Attachment
I’m not saying not to trade. I’m not saying not to support projects. I’m not saying to not profit on the movements of coins and tokens. I’m not saying to ignore hype cycles. I’m presenting what fundamental analysis is and isn’t for people who are consistently being fooled by hype disguised as FA. If you’re reading FA and it doesn’t cover the items above, you’re likely reading promotional material. It doesn’t make a project inherently valuable. It doesn’t make it worth investing in. It doesn’t make it worth buying and holding the token or coin of that project.
People see the posts hyping a project and think that it makes it worth investing in financially and then emotionally. “Oh it must be good, ______ is on the team.” Or “___ likes it, so it must be good.” This sort of leap isn’t based in logic. It isn’t based in analysis. It’s based in trust.
Stop Trusting Other People With Your Money
Stop trusting strangers to do what’s best for you. Stop thinking that others aren’t looking out for #1 (themselves). Do your own research. Do your own analysis. Stop getting emotionally invested because someone you admire likes it.
There is not a single person in crypto whose opinion I unilaterally trust. There is not a single person whose word I would invest on significantly. And significance is subjective, but if you’re throwing 25% of your portfolio in on a project because someone in a Facebook group or on Crypto Twitter said it was cool, then you’re essentially trusting them with 25% of your portfolio.
"Do not let your money depend on the benevolence of strangers."