Wonder how all those people investing in the previous crypto bull runs knew where to put their money – and how long to hold for? You may think some of them were just lucky. While that may be true for some, many relied on analysis and assessment used by professional securities investors for decades: fundamental analysis (FA).
In this article, we explain fundamental analysis and how to use it to become a better crypto investor.
What is Fundamental Analysis?
In traditional finance (TradFi), fundamental analysis is a method of determining if a company’s stock is trading over or under its fair market value by analyzing its fundamentals (e.g. profitability, liabilities, assets), as well as those of the industry it's in and even global economic conditions.
Why is Fundamental Analysis Important in Crypto?
Many look at crypto as completely separate from traditional finance (TradFi) and believe it will replace our current financial systems. Despite these speculations, there’s no way to know the future.
However, we can confidently say that the crypto industry is very much an interwoven component of global finance. It’s subject to many of the same laws and regulations, with new ones being introduced at an increasing pace.
In short, while the medium of exchange, infrastructure, and organizations may be different and new in crypto, most of the dynamics behind the scenes remain the same.
Knowing this, it stands to reason that we can apply many of the same strategies used in traditional investing when analyzing crypto projects.
This is where the role of fundamental analysis in crypto comes in: using tried and true techniques from TradFi to help us find success stories in a competitive industry.
What Does Fundamental Analysis Measure?
As the name suggests, fundamental analysis looks at a company's fundamentals, its industry, and even global economic conditions affecting both.
It’s mainly used by investors to gauge whether an asset (e.g., stock, bond, option) is overvalued or undervalued. As in, if it’s priced above or below what’s justifiable.
1. Fundamentals of Economies
No company lives in isolation: It’s part of an industry within an economic sector.
The performance – and the stock price – of companies within the same industry tend to be affected by similar factors. These factors are often bigger than any industry and can affect entire sectors.
Economies, sectors and industries:
While sometimes used interchangeably, sectors and industries have some differences. Economies are segmented into four sectors:
Primary Sector (e.g. agriculture, mining, fishing, and forestry)
Secondary Sector (e.g. energy, construction, manufacturing)
Tertiary Sector (e.g. retail, finance, tourism, and transportation)
Quaternary Sector (e.g. research and development, and professional services)
For example, government regulations and unexpected innovations can make certain businesses non-viable while helping others prosper.
Bigger factors like supply chain disruptions and inflation massively impact all sectors and the global economy. These factors and how governments respond to them (e.g., interest rate hikes, subsidies) can have major impacts down the line, boosting certain industries and paralyzing others.
Think of it like this: If there’s a supply chain disruption, a business can’t transport its goods to the store. Even if the demand for these goods is huge, that won’t do the business any good. This is an example.
When doing fundamental analysis, start from the top and work your way down. This provides a fuller picture of what to expect from any potential investment.
2. Fundamentals of Industries
To gain a clearer picture of an industry’s trajectory, you’d look at the overall performance of all companies engaged in business within it.
For example, if we’re witnessing industry-wide layoffs, examine why that’s happening. Some potential reasons may include:
A recently-passed law incentivizing companies to move their operations overseas.
New technology taking away jobs from skilled workers.
Demand for this industry's products and services is slowing down. This could be due to anything from socioeconomic factors (like changing wages) to a cultural shift in people’s desires and perceptions.
At this stage, people can view reports on a specific industry (issued by governments and specialized research firms. It’s best to search for data on technologies that the industry is working with, the amount of competition, any new and disruptive laws, and the desires/abilities of the people who consume these products.
3. Fundamentals of Companies & Businesses
Simply put, for individual companies, fundamentals include everything from the business' financials (e.g., profits, assets, liabilities including debt, accrued expenses, and revenue). But it doesn’t end there: Fundamentals can also include the efficiency of processes, management practices, and even employee satisfaction.
Fundamental vs. Technical Analysis (TA)
Fundamental analysis is the preferred method for analyzing investments amongst so-called “value investors”.
Value investing is the practice of acquiring undervalued assets in order to make a profit on them in the future. FA is one of the main methods that value investors use to understand whether these assets are undervalued.
Technical analysis (TA) is more often used by day traders (i.e., people who attempt to profit from short-term fluctuations in asset prices). Unlike FA, TA is entirely focused on the price movements of the asset. When doing technical analysis, investors are encouraged to completely disregard external information (like a company’s fundamentals) and only look at the charts.
Technical analysis relies on a series of established patterns that can be found in price charts. These patterns have been proven to provide relatively consistent results. Additionally, there are a number of indicators that help to further clarify the price trend. Investors and traders will analyze these patterns and try to predict future price movements.
Crucially, technical analysis is more oriented towards short and medium-term results (i.e., hours, days, weeks), which is why it’s preferred by traders.
Fundamental analysis attempts to look farther into the future (i.e., months, years).
Common Indicators in Fundamental Analysis
Fundamental analysis is a way to uncover the “real” (i.e., intrinsic) value of an asset. This can be done by looking at both qualitative and quantitative factors from its issuing company.
Quantitative data: refers to numeric, countable variables (e.g. yearly profit, debt)
Qualitative data: refers to the categories or “types” of variables (e.g. customer satisfaction, company culture)
Qualitative elements include a company’s corporate structure, leadership, business plans, and anything else that’s not hard numeric data.
Quantitative Factors in FA
Quantitative factors include data expressed in numbers, like revenue, profits, and expenses.
Common quantitative FA indicators used to judge the health and profitability of traditional companies include:
Earnings Per Share (EPS) - An indicator of a company’s profitability, EPS is calculated by dividing a company’s net profit (profit after dividends) by the number of its shares outstanding.
Price-to-Earnings Ratio (PE Ratio) - A ratio between the EPS and a company’s share price. It’s a useful indicator to judge a company’s growth over a period of time (usually a year).
Price-to-Book Ratio (PB Ratio) - A ratio between a company’s market capitalization (i.e., total value of outstanding shares) and the total value of the assets the company holds on its balance sheet.
Return on Equity (ROE) - Used to measure a company’s profitability, ROE is the company’s net income (after expenses) divided by shareholders’ equity.
How Fundamental Analysis in Crypto is Different
So far, this article has discussed FA in traditional finance. It’s true that global economic, geopolitical, and social factors influence crypto projects in a similar way to traditional companies.
How Do Traditional Companies Work?
Traditional companies are almost always centralized. Leadership is typically concentrated within a small group of individuals – and management decisions are almost always made in a “top-down” way.
Complicated corporate structures can develop when different legal entities (e.g. subsidiaries, holding companies, consultancies, etc.) become intertwined through complex legal agreements. This can make the structures of big companies difficult to comprehend, let alone analyze. Business dealings are obscured from the general public to protect competitive advantages, and the only way to get information on them is from the data they release themselves.
Publicly traded companies release financial statements to the public. Private ones rarely release such information due to a lack of meaningful incentives to do so.
How Do Crypto Projects Work?
While some crypto projects are more centralized than others, as a whole, the crypto industry is substantially less centralized than companies operating in traditional business climates.
Crypto projects leverage cryptocurrencies to provide users access to the services they offer. With cryptocurrencies existing on decentralized blockchains, decentralization is at the heart of crypto projects’ operations.
Crypto projects vary in their level of decentralization. Some are run by centralized companies and merely take advantage of crypto technology to provide their services. Others are owned and run entirely by Decentralized Autonomous Organizations (DAOs) with no single individual making management decisions.
Most, however, are a mix of both centralized and decentralized practices. Often, semi-centralized crypto companies establish DAOs and other decentralized governance structures – for their users to participate in – but don’t let go of their decision-making power entirely.
How Does Decentralization Affect Fundamental Analysis in Crypto?
Public transparency sits at the foundation of blockchain technology. Depending on their level of decentralization, crypto projects naturally share a lot more information about their everyday operations than traditional companies (even public ones). Though individual privacy-preserving, crypto transactions are fully traceable and can be viewed by anyone. Due to the open-source nature of development in the industry, most of what happens under the hood of a crypto project’s product is immediately visible.
This creates a cultural expectation, where users expect these projects to share their progress, much like how shareholders expect a traditional public company to share financial performance reports. In crypto, this process occurs more than quarterly: Sometimes, it happens continuously.
All this publicly available information is a treasure trove of data to analyze and draw conclusions from.
Because most crypto services are tied to cryptocurrencies – and how and when they’re used is recorded on the blockchain for all to see – we have access to a multitude of data points to sift through. This data is often real-time, both furnishing investors with immediate feedback on their investments and cultivating a more competitive and innovative industry.
Here’s a practical example:
Traditional public companies like Amazon or Netflix must report their profits, growth, expansion into different markets, and elements like daily active users. Companies like these generally release these reports on a quarterly or yearly basis. This means investors have to wait to see whether they’ve made the right call when buying company stocks.
Decentralized crypto projects like Uniswap for example, don’t have to disclose any data because it’s already on the blockchain or on publicly available databases. Anyone can see the number of daily users, growth rate, traffic patterns, the capital it controls at any given time (including how it’s being allocated), and much more.
What to Look for When Analyzing Crypto
1. Consider World Economy and Global Crypto Regulation
Crypto, like any industry, is influenced by factors that are larger than itself: global factors.
The world has recently seen a global pandemic, wars, global supply chain disruptions, inflation, joblessness, and political and societal tension. In response to these events, governments around the world have taken varying measures like:
Interest rate hikes
Restrictions on the movement of people and goods across borders as well as domestically
Increased government spending toward defense and healthcare
These actions have resulted in:
Increases and decreases in inflation that have rapidly changed the price of goods and services
Global increases and decreases in borrowing and spending by companies and individuals
Economic uncertainty across the board, prompting companies to take a more conservative approach to spending and risk management
Less corporate spending means fewer investments across all new projects (crypto included). Innovative industries with an unclear future (like the crypto industry) need constant funding in order to grow and mature, after which they hopefully begin to generate more value than they consume.
When funding dries up, even the biggest and most innovative projects suffer, retail interest in the space dwindles, and projects – just like regular companies – are forced to hunker down and wait out the storm. This means less money being spent on research and development, longer roadmap timeframes, and employee layoffs.
Follow Governmental Crypto Regulations
Governments around the world are scrambling to implement laws to manage the crypto industry. While many are hoping to spark innovation and become the next tech hub by trying to create favorable legislation, there’s no certainty that they’ll hit their mark. If governments suppress crypto innovation through poorly-drafted laws, many of your favorite projects won’t survive.
Stay Informed About Global Shifts
The only way to learn what’s happening on the global stage is to closely follow what global opinion makers are saying and to read:
reports by government agencies and research firms
news from multiple sources,
analyses by industry professionals
Stay curious and constantly analyze the undercurrent of global events – and what’s driving the changes you’re seeing. In time, you’ll develop what the Germans call “Fingerspitzengefühl” (“fingertip feeling”), an intuition that will guide your assumptions more accurately.
2. Understand the Crypto Industry
The crypto industry is new and rapidly evolving , making it exceedingly unpredictable.
At any given moment, hundreds of development teams across the space are competing to see who will be the first to deliver another technological breakthrough. In the blockchain world, these spurts of innovation happen surprisingly often, and they can lead to new waves of excitement and investor interest.
With rapid development and growth comes a lot of uncertainty, especially because crypto is fickle and trends don’t last for long. What seems to be the next big thing one day can be totally forgotten a few months later. Massive communities form around innovative projects in days and dissolve just as quickly.
No matter how many booms and busts the crypto market sees, the industry has always managed to recover and reach new heights. Throughout its existence, Bitcoin and Ethereum have endured, setting the tone for what the blockchain space has come to represent and establishing its technological trajectory.
Why Analyzing Bitcoin and Ethereum Is Important
Watching the performance of crypto’s two biggest projects, Bitcoin and Ethereum is the best way to gauge the crypto market’s overall performance and health. Together, they’re responsible for the blockchain industry’s two biggest innovations:
Decentralized blockchain-based cryptocurrency
As Bitcoin is the first successful project in this space, its place at the top is no surprise. The innovations it introduced sparked the emergence of the crypto world. Not long after, Ethereum came along and added programmability to the blockchain in the form of self-executing smart contracts – it’s directly responsible for the arrival of concepts like DeFi, Web3, and the metaverse.
Today’s traders and investors mostly look at Bitcoin as a store of value and a long-term investment. Its value lies in its proven track record and security, decentralization, community, and prominence. Bitcoin’s cryptocurrency (known by the same name) accounts for a huge chunk of the whole crypto space’s market capitalization, giving it massive influence over how other cryptos perform.
The value of Ether (Ethereum’s cryptocurrency) is based on all of the above, including the performance of its decentralized application(DApp) ecosystem. A big part of DeFi runs on Ethereum, so the project’s financial performance can directly reflect attitudes toward the broader crypto space.
3. Analyzing Individual Crypto Projects
After you’ve looked at macroeconomic factors and have a solid grasp on what the crypto market is doing, dive into your project of interest.
There are countless crypto projects out there, and numerous ways to analyze them – which go far beyond the scope of this article. Thankfully, we’ve created another article that walks you through analyzing crypto projects with Token Studio, our crypto analytics and tracking app.
Still, these are the main elements you should assess when analyzing a crypto project:
What’s Its Purpose?
Many investors are surprised at the number of projects in the crypto industry that have no legs to stand on. Ask yourself the following:
What is the project about and why does it exist?
What problems does it address and how?
Does it even make sense?
The financial status, performance, and long-term sustainability of crypto projects can be understood by looking at its tokenomics (i.e. token economics). These include familiar indicators like Market Cap, Supply, and Volume and ones exclusive to the crypto industry: Total Value Locked (TVL) and Burn/Mint schedules.
Roadmap and Past Performance
Just like regular businesses, crypto projects require a plan for the future. It doesn’t need to be set in stone and should allow for some flexibility. However, projects without a clear roadmap should raise some alarms.
Make sure you understand the key points in the roadmap and cross-reference those with the other items on this list. This way you’ll see if – and under what conditions – the project can achieve its goals.
A crypto project’s team is one of the most important factors to consider. Out of all the items on this list, a team’s expertise and experience impact a project’s success most.
Public perception of a project can play a vital role in its growth and adoption. Check out social media and forums to determine people’s attitudes towards it. Because appearances can be deceiving, dive deeply into a project’s socials. Don’t just gloss over and take things at face value.
In crypto, community is everything. A strong community can see a project through hard times. It’s always a great sign when a community is active, dedicated, and growing.
If you’re building a product, you’ll need users eventually. Even if everything looks perfect, a crypto project without users won’t succeed. Understand how the project plans to attract and keep new users.
Collaboration is the name of the game in this space and it’s the easiest way for new projects to grow organically as well as form loyal followings. Projects which partner together in meaningful ways tend to survive longer.
Investors and Funding
Developing and scaling tech products isn’t cheap – and most crypto projects are no exception. Assess a project’s funding and how much runway it has before things go bust. For most crypto projects, this data is publicly available on-chain.
Additionally, don’t just look at a project’s war chest: Explore who its financial backers and investors are. These can often bring a lot more value to a venture than a simple capital injection. Investors have connections and invaluable expertise to share with projects they’re supporting.
Last but certainly not least, assess how secure a project is. Crypto is new and comes with a lot of unique security concerns (e.g. when handling funds and interacting with smart contracts). If you’re looking to invest, uncover how and why a project’s security might have failed in the past – and how it plans to protect itself in the future.
It goes without saying: Learn how to detect and avoid crypto scams.
Top Tools for Analyzing Cryptocurrency
Crypto is, for the most part, completely open and provides a continuous stream of financial and user data for analysis.
The Best Crypto Research Firms
Crypto research firms provide a lot of useful info, often for free, that investors can tap into in order to uncover trends and stay up to date on market conditions.
Some of the best crypto industry research firms include:
Use these resources to gain a deeper understanding of macro trends in the crypto market, as well as deep-dives into individual projects.
Best Crypto Analytics Platforms
Crypto analytics platforms allow users to move from the macro to the micro view and analyze individual projects while still keeping an eye on the broader market. They provide numerous tools that show you everything from tokenomics to social performance, on-chain data, funding data and loads more.
Some of the most popular platforms for researching crypto projects include:
These platforms are great for analyzing DeFi projects.
For portfolio tracking, analytics, and crypto news aggregation Sonar offers Sonar Studio, our all-in-one suite of crypto tools.
Block explorers are tools created by blockchain projects that help people see what's happening on-chain.
For a more complete view of a project’s blockchain (including individual transactions and smart contract functions), use block explorers like:
Note: Most blockchains have their own dedicated block explorer app.
Predictions for Fundamental Analysis in Crypto
As the blockchain space matures and its tech and tools become more refined, so does the process of fundamental analysis in crypto. While we can’t make predictions about the future, trends have consistently shown us that the traditional and crypto markets are becoming more intertwined over time.
We’re seeing greater adoption by both individuals and institutions and – unless some very disruptive government regulation breaks that trend – all signs point to a future where the lines between the crypto and stock market will blur.
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