Fundamental analysis
Learn about fundamental analysis in cryptocurrency, the difference between coins and tokens, and key factors to consider for long-term investment success.
The Details: For cryptocurrencies and securities, in general, there are three types of analyses you could carry out to evaluate your investments. These are fundamental analysis, technical analysis, and sentiment analysis. Today, we dive into the fundamental analysis.
What is Fundamental Analysis?
Fundamental analysis usually comes first, as it aims to evaluate the long-term value of cryptocurrency projects. It helps you make informed decisions about which coins and tokens you think will be successful in the future.
Whether you're a beginner or an experienced trader, it's a good practice to start with and regularly perform fundamental analysis.
On the Cryptohopper platform, this analysis can guide your decisions, from selecting the coins to use as inputs for your automated trading bot to setting your trading strategy.
Coins vs. Tokens - Is there a difference, and, should you care?
When you delve into the cryptocurrency world, it's crucial to grasp the types of investments you can make. To kickstart your fundamental analysis, you should first distinguish between 'coins' and 'tokens.' This will provide insights into the technology and its development.
Cryptocurrencies are typically designed to serve as a medium of exchange, a store of value, and a unit of account. However, not all offerings in the market fulfill these roles as effectively as Bitcoin does.
Many of the coins currently in circulation are essentially variations of Bitcoin, which means they have made modifications to Bitcoin's original open-source protocol. These modifications result in new coins with unique features, running on a distributed ledger based on the Blockchain.
On these distributed ledgers, transactions are recorded in terms of the specific coin being used.
Alternatively, some coins operate on their own separate blockchains, meaning their distributed ledger is built from scratch.
It's worth researching this aspect to gain a better understanding of a project's development or if you believe Bitcoin's blockchain shortcomings could pose future challenges.
If you are new to crypto investing, understanding the difference between coins and tokens can be a bit confusing.
Coins are primarily used for transferring funds and operate independently.
On the other hand, tokens are built on existing blockchains and are usually distributed to the public through Initial Coin Offerings (ICOs).
They serve various functions, such as facilitating transactions within a project's ecosystem, enabling interactions between decentralized applications, or fulfilling specific roles within the system.
Creating tokens is easier than creating coins because you don't have to build a new distributed ledger.
However, they come with a significant risk. Before investing in a token, you should be confident that the application for which it is intended will be adopted as planned."
The Analysis Process
Conducting thorough research is crucial when dealing with cryptocurrencies because they don't represent ownership in a company. Their value isn't tied to business performance but rather to community engagement, which can be highly unpredictable.
To determine the value of your investment, you should start by categorizing the coin or token based on how it was created and whether it fulfills essential functions to compete in the market or offer unique value.
Next, investigate the coin's adoption and ecosystem, assessing whether its technology is sufficiently developed to handle future growth and if the company has a realistic plan for managing that growth.
Finally, delve into the company itself, examining its resources, roadmap, and marketing strategy for attracting users. Check if the company is currently on track with its roadmap.
To provide a more detailed perspective, let's discuss key factors that many other traders consider when evaluating a coin's quality!
Trust-less Decentralization
In most cases, traders check if a cryptocurrency allows for trustless decentralization. This means enabling transactions with anyone worldwide without relying on a centralized authority.
Since Bitcoin achieved this in 2009, it's considered a fundamental requirement for cryptocurrencies. Consequently, traders seek new projects that offer sought-after features built on top of trustless decentralization.
Long-term Scalability and Performance
If you're investing in a coin with the expectation of its widespread adoption, it needs to be scalable to accommodate increasing transaction volumes from a growing user base.
A project should be able to scale without compromising its core features like decentralization, transaction speed, fees, and security. Otherwise, it may not be a sustainable choice for the future.
You should also pay attention to recent developments aimed at addressing scalability issues in the cryptocurrency space. Additionally, it's important to keep an eye on metrics like 'hash rate' and 'mining difficulty'.
Mining difficulty reflects how hard or expensive it is for miners to discover a new block, while hash rate indicates the level of mining activity. A higher hash rate usually means a more secure network. If the hash rate drops, it can lead to longer confirmation times and higher transaction fees.
However, it's worth noting that certain cryptocurrencies are pre-mined, meaning no new coins will be created. For these coins, these metrics don't apply.
Adoption and Expansion
Adoption is crucial for cryptocurrencies because they benefit from strong network effects. This means that as more people use them and more compatible applications become available, the utility of these currencies increases.
More users mean more potential trading partners and more applications mean more opportunities to trade goods and services.
Without these network effects, a currency is essentially worthless unless it can stand out from a well-established counterpart with groundbreaking innovation.
So, the additional benefits that holders of a currency can get from a smaller network with new and disruptive features must be significant enough for them to forsake the larger network effects of a bigger network.
Therefore, it might be a good idea to start by adding some of the more commonly traded coins to your portfolio.
The easiest way to assess this is by monitoring a coin's market capitalization and observing its growth through trading volume. You can also examine the number of unique addresses using the coin each day, as this can be a dependable indicator of adoption.
Company Resources and Team
One of the key objectives of fundamental analysis is to protect your investment from scammers and fraudsters. Often, you can achieve this by researching the team behind the coin.
As the crypto market evolves and becomes more competitive, you need to assess whether a company demonstrates the expertise, intelligence, resources, and trustworthiness required to deliver a functional product.
Where can I Find this Information?
If you're new to this, you might be wondering where to find these insights. Here are some tips on finding trustworthy sources:
- Begin with white papers. They are typically written by the development team and provide insights into the technology and the people behind it. Comparing the white papers of competitors can also help you understand technologies, teams, and roadmaps.
- Engage with the community on social channels, which are often the official communication platforms of the core development team. Join these channels to get your questions answered.
- If you want unsolicited or less biased opinions, discussion forums are a good option. They can streamline your research and help you spot potential issues from other users' experiences.
Here is a list of websites you might find handy for your fundamental analysis:
To start, it's a good idea to research what sets the top cryptocurrencies apart. This will help you follow the steps we've outlined and develop a critical perspective on cryptocurrencies, considering factors like scalability, mining, price stability, and transaction speeds.
While this article can assist you in evaluating what makes a cryptocurrency a good investment, it's important to exercise caution.
The market is still maturing, as 2022 and 2023 revealed that many companies had to shut down. Several well-known cryptocurrencies, such as FTT and LUNA were essentially wiped out. Your analysis should focus on identifying projects with long-term potential, as many coins may not survive in the future.
We hope you have learned how you can form a more personal opinion about your potential crypto investments. And as always: Happy Hopping!
