How to Value Cryptoassets

Ian Greer -

There are 5 main ways to value a cryptoasset: total addressable market, the equation of exchange, Metcalfe’s Law, cost of production, and stock-to-flow.

Total Addressable Market

  • Estimate the addressable market and compare that estimate to the cryptoasset's current market capitalization.
  • For Bitcoin, you could compare it to the market cap of gold, bonds, equities, and/or real estate.  
  • Ethereum could be compared to the current financial institutions like JP Morgan, Visa, etc.
  • Solana could be compared to stock exchanges like the NYSE or NASDAQ.

Flaws:

  • This is a very rough estimate of a cryptoasset's value.

The Equation of Exchange (MV=PQ)

  • Made popular by Chris Burniske and Jack Tatar in the 2017 book Cryptoassets: The Innovative Investor's Guide to Bitcoin and Beyond.
  • MV=PQ

M = Cryptoasset market capitalization

V = Velocity: Average frequency with which a unit of the cryptoasset is spent

P = The average price of transactions executed in a certain time period

Q = Number of transactions executed in a certain time period

Flaws:

  • The equation of exchange is hard to estimate because velocity is hard to estimate. Small changes to the velocity estimate can lead to drastically different price targets.

Valuing as a Network (Metcalfe’s Law)

  • The value of a network is the square of its users.
  • A cryptoasset becomes more valuable as more people use it. Because its usability increases.
  • If only 1 person has a Bitcoin wallet, it is not very useful (or valuable). But if everyone has a Bitcoin wallet, it is very useful because you could quickly and cheaply transfer money to anyone.

Cost of Production Valuation

  • The value of each bitcoin can be valued at the marginal cost of mining (mainly, the electrical costs of mining).

Flaws:

  • This valuation model is circular in reasoning and not very useful.
  • This model only ‘works’ for proof-of-work cryptoassets (like Bitcoin).

Stock-to-Flow Model

  • Stock-to-flow models the price of bitcoin based on the amount of stock (the current supply) to its flow (the amount mined every year).
  • Made popular by Plan B in a 2019 blog post.

Flaws:

  • This model only applies to bitcoin.
  • This model assumes scarcity is the only factor in bitcoin’s price.

This article is largely based on Cryptoassets: The Guide to Bitcoin, Blockchain, and Cryptocurrency for Investment Professionals by Matt Hougan and David Lawant.