Doesn’t it seem like cryptocurrency markets have been going crazy lately?
From the very first day on that I got into cryptocurrency, I thought the market cap value was totally flawed. New coins are gaining attraction because their market cap value rises insanely fast. Most of them fall as fast as they come up. The main reason for this is how the market cap is being calculated. It can be easily inflated, which directly affects the ranking of a cryptocurrency asset.
Therefore, I came up with RealCoinCap, an approach to making cryptocurrency market cap values comparable.
Market capitalization is a technical indicator derived from the stock market. It is the market value of a publicly traded company’s outstanding shares. Market capitalization is used by the investment community in ranking the size of companies.
Market Cap = Price x Outstanding Shares
This concept has been adopted to the cryptocurrency ecosystem. It is being used on sites like www.coinmarketcap.com as a main indicator to rank currencies.
Market Cap (Crypto Asset) = (Price of Asset) x (Supply of Asset)
We will later see that this indicator does not work well if we want to compare different cryptocurrencies.
Speculation of cryptocurrencies is mainly driven by market cap, which is basically just an indicator. It is yet not known how to determine the fair market value of Bitcoin and other cryptocurrencies. It represents a new asset class for where traditional methods of investment valuations can’t be applied. It is important to understand, that a cryptocurrency asset is not worth xy just by looking at the market cap.
Price is speculative and does not equal value. Therefore, market cap definitely doesn’t equal market value.
Both price and market cap are being heavily manipulated. When it comes to the price, we have all seen manipulation by different techniques like “pump and dump“ scams, spreading FUD, or limiting tradable volume on exchanges. Since it is used to calculate the market cap, price manipulation directly affects this indicator.
Most people do not notice that the supply is also being heavily manipulated. Imagine going to a supermarket and the price tag reading something like this: “Apples 1$, Oranges 10$“. So what is cheaper? As soon as you get closer, you start realizing that you can get 1 apple for 1$, or 10 oranges for 10$. Now this is an easy one. You just take the quantity and the price and instantly know that the price of one apple equals the price of one orange.
When it comes to cryptocurrency, things are a little more complicated. How do you determine the appropriate supply of a cryptocurrency? And how do you compare the supply of one cryptocurrency to another? A lot has been written about circulating supply vs. total supply, but there is more than that what you need to know.
In terms of supply, units of measurement are being totally ignored. At the stock market, a share is a well defined measurement unit. With cryptocurrencies, we are actually using different units of measurement. Things even get worse when we are using these values to calculate the market cap. Just like in our example, we are literally comparing 1 apple with 10 oranges without even noticing.
This knowledge makes it very easy to manipulate the market cap. Now imagine a new cryptocurrency. Let’s call it NoSatoshiCoin. The supply of this new coin is limited to 21 million times 100,000,000 coins. It has no decimals and is therefore not divisible. Then you get NoSatoshiCoin listed on different ranking websites and on exchanges for trading. After providing some trading volume NoSatoshiCoin trades at 0.00000001 BTC per coin. Because of the large supply of 21 x 10^6 x 10^8 coins the market cap of our NotSatoshiCoin is now the same as the market cap of Bitcoin.
You might now think “Wow. NoSatoshiCoin is now worth 200 Billion USD. This is the new Bitcoin. The Flippening is happening.“ Of course, this is not the case. However, this example shows what happens every day in the crypto universe.
Using less decimals dilates supply and price, using more decimals dilutes supply and price. This exponentiates on the calculation of the market cap value and has to be taken account of.
So how can we find a better method to compare cryptocurrencies‘ market values? Applying price and supply is a straightforward concept.
Let’s review the market cap formula:
Market Cap (Crypto Asset) = (Price of Asset) x (Supply of Asset)
In order to get a comparable market cap value of two cryptocurrencies, we need the same units of measurement. Thus, we first need a well defined supply base. With this, we can do basic unit conversion calculation to adjust supply and set the basis for our new calculation of a comparable market cap value.
I will take the supply of Bitcoin as a unit of measurement. Most assets are traded against Bitcoin on major exchanges and it has by far the largest trading volume of all cryptocurrencies. Satoshi is currently the smallest unit which suits best as a well defined supply base.
There are very few crypto assets that are even further divisible than Bitcoin. Actually, those decimals can’t be traded because all major exchanges limit trading to 8 decimals. Therefore, further divisibility can be ignored for our calculations because it won’t dilate or dilute the supply.
Let me introduce you a new indicator: RealCoinCap
1. Normalize supply of each cryptocurrency using Satoshi as a base unit of measurement
2. RealCoinCap = (Price of Asset) x Normalized Supply
Applying this to our example NoSatoshiCoin, there is going to be a normalized supply of 21 x 10^6 (1 Satoshi = 1 NoSatoshiCoin).
First, we define a relation between the supply units of measurement:
1 NoSatoshi unit = 100.000.000 Satoshi unit
Then, we divide both sides by 100.000.000 (Bitcoin units)
1 NoSatoshi-Unit / 100.000.000 Satoshi unit = 1
We can now use this term to convert the supply of NoSatoshiCoin to Satoshis by multiplying. (You can multiply anything by 1 and not change its value). In this case it means dividing the supply of NoSatoshiCoin by 10^8. (Click here, if you would like to dive into converting units of measurment even deeper.)
Now we can calculate the RealCoinCap, which is currently 100,000,000 times lower than the original market cap. Therefore, the RealCoinCap of Bitcoin can now easily be compared to the RealCoinCap of NoSatoshiCoin. It becomes obvious, that no Flippening is going to happen anytime soon.
I created this proof of concept website. The data is being fetched from the CoinMarketCap API, on basis of which described calculations are being conducted in order to generate a new ranking based on the value of RealCoinCap.
Please note, that it is not claimed that this list is complete. The adjusted supply calculations are based on my own research on divisibility of the cryptocurrencies. I did not include utility tokens.
This knowledge can also be applied to adjusted price calculations in order to make them more comparable to their RealCoinCap value. The ranking calculated by RealCoinCap is being kept. Now we are calculating an adjusted price for each coin per 100 million units, using Satoshi as a base measurement unit.
1. Keep the ranking calculated by RealCoinCap
2. Adjust prices to 100 million Satoshis as a base unit
Please note, that it is not claimed that this list is complete. The adjusted supply calculations are based on my own research on divisibility of the cryptocurrencies.
RealCoinCap gives us a much better method to compare the value of different cryptocurrencies than the existing market cap value. It remains an indicator and does not give us a fair market value that you can use to compare to other assets. Bitcoin and other cryptocurrencies represent a new asset class. It is yet unknown how to determine their fair market value. Functionality, use cases, and network effects are the main factors that define the fair market value of a cryptocurrency, but they are hard to take account of. The fair market value could be much higher or much lower.
Applying price and supply is a straightforward concept. With RealCoinCap we are making sure, that we are using the same measurement units on which we base our calculations. Through normalizing the supply, the manipulation of RealCoinCap becomes much more difficult than using the old method.
We cannot prevent price manipulation, but we can make it harder to exponentiate those manipulations on a market cap value. Use RealCoinCap if you want to take a different view on valuation of cryptocurrencies making it easier to compare apples with oranges.
If you like my approach, feel free to use, share, or modify the RealCoinCap indicator. I encourage you to always do your own research. Don’t look at the price and don’t look at the market cap for investing purposes.
Code derived from https://github.com/rdegges/cryptocompare.