Last night I had dinner with my brother (@Exyle) and besides a very enjoyable evening, we had a really interesting discussion about traditional finance and the value of cryptocurrencies. I was defending the current financial system and for instance explaining why inflation and central banks are – in my opinion – not a bad thing. My brother was not fully convinced. He is smart and likes to overthink these subjects thoughtfully. Looking forward to our next meetup to hear his view!
I thought a lot about a logical explanation for the value of Steem. I like logic and always try to understand the explanation for a certain event.
A share in a company
In traditional finance this is doable. If you buy a share in a company for instance, you are actually buying a piece of ownership of that company. That piece of ownership gives you the right on a pro rata part (your share divided by the total amount of shares) of the free cash flow that company generates.
Disregarding special circumstances, that company generates an amount of free cash flow every year.
If that company is successful and grows, it will generate more free cash flow (or its prospect of generating it increases).
You as a shareholder will benefit as your share in that company will now give you the right on a pro rata part of a larger amount of free cash flow that company generates.
Logically, more people are now interested in buying that share as it provides a higher yearly flow of free cash flow than before.
More demand, than supply results in an increasing price of that share.
As explained in my previous blog it is possible to calculate this, although it will be heavily dependent on analysis, assumptions and believes on the future fee cash flow generating capacity of that company.
Market capitalization of shares and cryptocurrencies
If you multiply the number of shares outstanding with the market price per share it will give you the market capitalization of that company, i.e. the total equity value of the company.
In cryptocurrencies the term market capitalization is also used. It is calculated by multiplying the circulating amount of coins with the price per coin, i.e. the value of all outstanding coins together.
For Steem the market capitalization is - at the time of writing - around USD 1.25 billion. This is calculated by multiplying the approx. 250 million circulating coins with the approx. USD 5 price per coin.
A very positive element of Steem - in my perspective - is that it is known how the amount of circulating coins will develop over the coming years. Every year more coins will come into circulation, although this is limited and follows clear and transparent rules.
Be careful of intransparency
For a lot of other cryptocurrencies this is a less lot clear. Often, they have an enormous amount of total supply of coins and only a small part of the total supply is yet circulating.
As only the circulating coins are used to calculate the market capitalization, the calculated market capitalization can be very deceptive. Why?
In a company the shareholders decide if that company may issue new shares, i.e. the shareholders are in control over the total amount of shares outstanding.
In a cryptocurrency, the coin holders are in general not in control over the circulating amount of coins. The cryptocurrency project founders/leaders are in control. They have a lot of freedom and can bring additional coins from the total supply into circulation.
If the market capitalization remains stable – which should be the case if no value is added to the project - and more coins come into circulation this can only mean one thing. The price must come down.
Next time...
The amount of coins was the easy part of the equation. Next time we will look in more detail to the price.
All the best,
