I am a person that likes logic. I hate it when I cannot get my head around an event or a concept. I trust my brother (@Exyle) unconditionally, but for me his absolute conviction in the success of Steem was difficult to comprehend. A month ago, I decided to buy some Steem and get to grips with the project. It is not easy! I bought my Steem @ 2 USD, they went straight up to 8 USD in a week, came back to around 3 USD and now hover around 6 USD. And that in a month. How can that ever be logic?
Value is a complex animal. To begin with it is dependent on:
- Circumstances. In my first blog, I gave the following example to explain this:
The value of a can of coke for me right now behind my computer is completely different from the value of the same can of coke for me if I walked for a day in the dessert without any water.
- People. Various people attach different values to an object under the same circumstances.
A personal situation, emotions or past experiences can influence people enormously in attaching a value to a house for instance.
The disappointing conclusion can only be that it is extremely difficult, if not impossible, to truly understand value as it has a dynamic nature.
With that in mind, lets revert to theory to explain traditional financial value. I will try not to make it too technical.
Time has an impact
A basic rule is that the value of receiving one € today is higher than receiving one € tomorrow. Why?
You can invest that one € a day earlier and start earning a return on it. If you put – for instance – that € on your saving account @ 2% interest it is worth € 1,00005 a day later.
This is known as: The Time Value of Money
Cash Flows are key
One step further. How to determine the value of an asset, like a company or a project?
The value is the sum of free cash flow that asset generates through time until eternity. These free cash flow streams need to be discounted to the present value, because they will be received in the future (The Time Value of Money).
Off course it is impossible to exactly forecast the free cash flows an asset will generate until eternity. A forecast is normally based on assumptions, analysis and believes.
Risk needs to be incorporated
If you have two assets, both forecasted to exactly generate the same future free cash flows. Only one is far riskier than the other. Which one has more value?
The answer is the one with the higher certainty of generating free cash flows. A 95% chance on one € tomorrow has a higher value than a 75% chance on one € tomorrow.
The more certain a forecast of future cash flows is, the lower the discount rate will be. A lower discount rate translates into a higher value.
To sum up
Hopefully, this was not too technical and makes it clear that valuation is not science. It is always very subjective.
Nevertheless, I believe that the better the input, based on hard work (analysis), the better the estimation of value.
I still did not start investigating if I can somehow relate all those traditional value concepts to crypto. It will be a real challenge for me.
Next blog will really be on this subject.
If you have any question on the above, let me know.
Hope you enjoyed it and all the best,
