This article will help you make crypto investments from a fundamental standpoint to help strengthen your portfolio under any market conditions.
Bear markets humble the world and force us to view investments for their fundamentals instead of what they could be worth tomorrow.
Now that we’ve all been sufficiently humbled, we decided to write an article on investing and valuing crypto projects like a true professional. Although we can agree the traditional finance structure is not one built to last, through decades of trial and error, they have figured out some gems when valuing projects. This article will discuss six different lenses you should use to look into your investments.
Problem & Need
If there isn’t a problem, there is no need for a solution. In the past year, we’ve seen many projects come and go offering better and better yield farming returns. Unfortunately, this is not solving a problem but simply attempting to create value out of thin air. These projects are less common today as growth fell off and the barebones were exposed.
We also saw some great examples of solutions making their way to the forefront of crypto, such as Ethereum layer 2s. The problem is that the Ethereum mainnet was getting too expensive for the average user, and the blockchain needed to scale without compromising security. Arbitrum and Optimism have been leading the way with their optimistic rollups as more users daily bridge their funds off of mainnet and towards these new innovative protocols. Bridges are also an example of a solution to a common problem in crypto; the ecosystem was developing multiple blockchains without a secure decentralized way to move funds from one to another. We now rely on many successful bridges as they identified a problem and came forward with a functional solution.
If you can’t answer the question “What problem does this product solve?” further research is required, or it may be time to move on to another investment.
Many projects work hard to sell consumers a vision; whether high-yields forever or the next metaverse, it’s essential to understand the product from fundamentals, not headlines. How should you go about gaining this understanding?
- Read the Whitepaper
Reading the whitepaper is an easy first step when looking at an investment. If done correctly, it will include an excellent overview of a project’s “what” and “how.” If done poorly, note its shortcomings and continue to dig.
Depending on your level of expertise, whitepapers may seem daunting with economics formulas, mathematical equations and complex financial terms - it is worth it to spend the time to understand these concepts. Take the time to learn and grow your knowledge base before moving forward.
- Use the Product
Before investing in a product, make sure you enjoy it! Head over to the platform, connect your wallet and attempt to use the platform from all angles. This will give you a proper understanding of the UI/UX and will help shape your decisions.
Example: If you are looking to invest in Uniswap (UNI), make sure you swap on different chains and LP so that the product works from all angles!
- Check for Audits
Smart contract hacks suck and historically have been quite prevalent. If you can’t audit the code yourself, check it to see if a credible auditing agency has gone through and given their stamp of approval. This small step could save some heartache down the line.
- Look at the Revenue Model
Many crypto projects launch without a model for collecting revenue. This can be a great strategy for product adoption, but your investments should be profitable at the end of the day. Reading the docs and contacting the team can be a great tool for determining the project’s revenue model in the future. This model can be in the form of collecting swap fees, selling order volume or a subscription system.
Looking into the team can be an excellent tool for determining the security and authenticity of a project. There is no greater fear than the fear of being rug pulled, and it repeatedly occurs, often with a lack of due diligence. Step one is to find out if the team is doxxed. “Doxxed” refers to whether or not the team has shared their identities with the public. If the team is doxxed, spend some time looking into their history. Are they known builders in crypto? Have they previously worked in finance or web2? These are all signs of a more trustworthy team.
If team information is hard to find, contacting them can be a great step. A team with nothing to hide will be able to answer the difficult questions surrounding their product and will be excited to discuss its future. A team with poor intentions may divert from hard questions and push back to traditional “hype” tactics. Regarding character evaluation, there is no playbook but to trust your instincts.
Each product is working to infiltrate a specific market. These markets can be niche with a goal to take over a smaller industry or massive, with examples like Bitcoin and Ethereum attempting to conquer the current financial system. Knowing the size of the market and the competitors can help evaluate an investment’s possible upside. For example, in the early days of Uber, investors evaluated the product against the size of the entire taxi market to give some perspective.
When it comes to crypto, although most products are refreshingly new and exciting, there are often TradFi comparisons that can be made. Bitcoin currently has a market cap of 400B (at the time of writing), with the market cap of gold hovering around 11.6T. Bitcoin bulls can compare the two markets and see great potential upside for Bitcoin, given their similar traits of hard money and store of value over time. Finding the TradFi comparison to your favorite crypto investment can be a helpful tool whether it is a broker, a bank or an insurance company.
It is also possible that the product you are analyzing isn’t even needed at the moment but will be a helpful tool later. These investments can be riskier and more lucrative if done with great foresight. When Ethereum launched its ICO in August 2014, there wasn’t yet a market for many of the products built on Ethereum today. The early investors believed that smart contracts could enable new and exciting features and that the world would eventually value a programmable blockchain. Fortunately, these investors were correct and have made outsized returns. Note when the product will be at peak value when entering into an investment.
Differentiation & Competition
The world of crypto is built almost exclusively with open-source code. Although open-source has many advantages, a few costs come as well, the first being the ability to fork and recreate. We’ve seen countless examples of this, with Bitcoin Cash forking from Bitcoin and SushiSwap forking from Uniswap, to name a few. It’s never been this easy for a competitor to go from zero to one in the building phase, so it’s essential to take note and acknowledge the pros and cons of your potential investment.
In such a competitive environment, the winning products have key features to set them apart from the rest. Is it lower fees? Yield farming rewards? A strong community? Pay attention to whichever traits you admire about the project, monitor its growth and change your conviction if needed. No one wants to be a bag holder for a project that isn’t what it used to be.
Failures are almost guaranteed when it comes to investing, but that doesn’t mean they are always negative. When looking back at your losses, one of the most critical tasks is to evaluate why they happened. This insight can help you make more informed decisions moving forward, and more failures will only make you a better investor tomorrow.
Go to Market
Going from 0 to 1 is the hardest step when taking on a new task. Playing sports isn’t so hard once you know how to run, and finding a job is much easier after you’ve already been employed - but how do projects get their feet off the ground?
A “go to market” analysis is much less technical than reading a whitepaper or checking for audits. The easiest way to get started is by looking at the community and spending time on the project’s social platforms. This can mean checking Twitter threads and replies or chatting in the community discord. A healthy community often shows rational optimism and a give-and-take relationship between the creators and users. Many projects appear to have a vibrant community while price action is in their favour, so check in while prices are down to get a nuanced view. If you want to see some cold hard data on engagement, head to LunarCrush, where you can view social mentions and engagements for your potential investment.
Some projects do a great job of launching by using partnerships to piggyback off existing communities. Chainlink is an excellent example of this, with new partnerships being announced frequently for years. If your potential investment has partnership opportunities, it is worth figuring out who they are working alongside.
Picking winners when investing can be difficult, but success is only a few trades away with the proper framework. If you’re looking to dive more into the crypto side of investing, feel free to read our article on tokenomics.