A debated metric: Market cap and its significance in cryptocurrency markets

A fervent debate has been raging in the crypto community ever since its inception regarding the importance of market caps. Market cap, a measurement popularized by traditional securities, is counted by multiplying the number of available stocks with the price of a single stock. Traditional markets have various financial metrics and ratios (price to earnings ratio, earnings per share, the current ratio, earnings growth etc.) which are used to examine stocks and their movement. Crypto markets don’t have these as projects don’t publish financial statements, leaving only a few metrics available to measure their performance. Market cap is one such metric as it roughly shows the size and value of each cryptocurrency.

 

In crypto, the market caps are determined by multiplying the price with the supply of a currency. The price is calculated by taking the volume weighed average of all prices reported on each market while the supply is the circulating one, representing the approximate number of coins that are currently circulating in the market and in the public’s hands. The circulating supply is instead of the total one as the total supply contains tokens that are locked, reserved and untradeable at the moment and are thus unable to affect the market price.

Best case of why the circulating supply needs to be used to calculate the market cap was seen with the Auroracoin example. The coin was Iceland’s attempt to create a national cryptocurrency that would break the shackles of fiat and help the people stand up to the politicians who contributed to the crash of the country’s financial system in 2008. The coin was supposed to be airdropped to the Iceland’s population, with each countryman receiving 31.8 Auroracoin tokens.

Before the coin was distributed, speculators used the predicted supply numbers to inflate the token price up to 0.1698 BTC, or about $111 on March 3rd. As a result, the coin reached a predicted market cap of 1 billion dollars. The day of airdrop came and so did the demise of the Auroracoin, as people who were airdropped the token started selling it off, mostly due to the fact that they had nowhere to actually spend it. The price plummeted and the coin is now dead, after suffering multiple 51% attacks because miners abandoned it due to its price drop. The lesson learned here was that the market cap, the size of a currency, should be judged by what people trade.

Steem had a similar issue with its market cap valuation. The market cap was shown to be at around $400 million USD in the summer of 2016, but it was soon realized that this value is artificial. Half of the Steem tokens that were issued at the time were in fact locked away as Steem Power and their holders were unable to trade them on the open market. The valuations counted these locked tokens in as well and the numbers were clearly skewed.

Market cap is an important metric to consider when evaluating a currency but it shouldn’t be your be-all end-all when deciding on your next investment. There is usually much more that determines the coins overall value. Trading volumes are important because coins with more volume have market caps that are more legitimate. The rate of issuing and the decentralization of the supply are also important factors that can suggest where the coin will be going in the future. Finding market gems will depend on other factors like coin’s utility, security, regulatory compliance, speculator influence etc. Use market cap to determine the “size”, value and potential of the currency; don’t rely on it as the only factor driving your investment decisions.

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CaptainAltcoin's writers and guest post authors may or may not have a vested interest in any of the mentioned projects and businesses. None of the content on CaptainAltcoin is investment advice nor is it a replacement for advice from a certified financial planner. The views expressed in this article are those of the author and do not necessarily reflect the official policy or position of CaptainAltcoin.com

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