Crypto Fundamentals Don't Matter...or do they?
A discussion on crypto fundamental analysis
Will Scheinman and I discussed fundamental crypto investing on a recent Twitter Spaces hosted by Artemis. Will is a partner at Road Capital, a crypto fund focused on public and private investing. Will and I share a background in public and private markets investing. We apply that lens to crypto investing.
Our discussion covers:
Is fundamental analysis possible in crypto?
Does it even matter?
Will it matter?
What fundamental valuation heuristics apply to crypto?
What needs to happen to popularize crypto fundamental investing?
Listen to the replay of our Twitter Space here (start at minute 8):
Highlights
Yes fundamental analysis is possible
Shocker….yes we think fundamental analysis is possible in crypto. There is data to gather. Usage metrics, revenue, costs and even a form of profitability. Data can be analyzed to assess how a protocol is performing. Analyzing the data informs what the asset could be worth.
Fundamental analysis can lead to better returns
Crypto investing lends itself to alpha generation more so than tradfi investing. There are two avenues of alpha generation in crypto: data sourcing and conclusions drawn from the data. Tradfi investing has once source of alpha: conclusions drawn from the data. The data is available to everyone in tradfi investing. Public companies file financial statements regularly. Investment banks conduct sale processes for private companies. Potential buyers are granted access to nearly any information they want. There is a lot more data, and real time data, available in crypto. It’s all on-chain. But it’s not easy to access. Sourcing information in crypto investing is an edge.
The more sources of alpha an investor has, the greater the chance of generating superior returns.
Fundamentals weren’t relevant…but they’re increasingly important
Crypto fundamental investing hasn’t been relevant…but it’s becoming increasingly important. Fundamental metrics, such as number of transactions, TVL and revenues, are having an impact on price.
Fundamentals are about to get a whole lot more important. The industry needs it for capital formation. Capital doesn’t get injected in an industry whose assets cannot be valued. History indicates that fundamentals grow in importance. Crypto markets are analogous to stock markets. The US stock market in the 1920s was riddled with fraud. Stocks were viewed with a similar disdain as crypto is today. Stock market regulation followed the 1929 crash. Regulation legitimized the market. Fundamental analysis first reared its head with the publication of Securities Analysis in 1934. But it wasn’t until the 1980s that fundamental analysis took hold. Until then, stock market investing was divorced from fundamental analysis. Now fundamental analysis is common place in tradfi investing. A similar history will unfold in crypto markets.
Stocks used to be predominantly owned by retail investors. Over time as fundamental investing took hold investment managers emerged. The industry professionalized and specialized. Crypto token holders today are mostly retail. We conjecture that a similar professionalization will transpire in crypto markets.
Three ways to think about crypto fundamental value
Economic assets are valued in one of two ways: absolute value and relative value. Absolute value derives a discrete price for an asset. Relative value deduces an asset price relative to a reference asset. I wrote about this in Crypto Relative Value: A Method to Triangulate Crypto Value.
Economic assets produce something of value. Some crypto assets hold the properties of economic assets. Attributes of some crypto assets, namely BTC and ETH, are also store of value assets. Store of value assets have a demand for them beyond the income they generate. People have determined they’re valuable. Their value is inferred by the market clearing price.
Crypto assets embody attributes of store of value, productive and utility assets. All three are a lens to value crypto assets. Depending on the asset one methodology may be more appropriate than another.
Fundamental valuation heuristics need adoption
The most theoretically sound crypto valuation methodology is useless if it is not widely adopted. Proliferation of crypto valuation heuristics will come from several forces. A maturing educated market will rely more heavily on fundamental analysis. Trackable value creation on-chain increases the examples of crypto value. Access to on-chain information, the likes of which Artemis powers, enables fundamental analysis. Investors generating returns through fundamental investing will prove its soundness.
Stay curious.
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Awesome discussion Sam and Will!