The valuation of crypto assets has been a subject of debate for almost as long as they existed. While late Charlie Munger didn’t hide his disdain for anything crypto, dubbing Bitcoin (CRYPTO: BTC) as “more expensive rat poison,” digital assets evolved like any other following the price discovery process.
Changing prices based on fundamental economic principles also meant these assets could be studied and evaluated like traditional ones. In the absence of a comparative regulatory framework, this approach has become invaluable to many retail and institutional investors who are increasingly looking to diversify their portfolio holdings.
CFA Institute’s researchers tackled these issues in their latest guide, developing a comprehensive classification and best evaluation practices based on the asset subtype.
The first group consists of basic cryptocurrencies, with Bitcoin being the most prominent example. In a comparison to traditional assets, this group would correspond to basic money. The purpose behind it is to transfer value, and its demand comes from the utility as a means of exchange, store of value, or a unit of account.
Money-comparable assets often use the total addressable market approach. A simple formula uses the value of the target market (size of market opportunity) multiplied by the level of penetration (reasonable market captured), all divided by fully diluted supply (21 million for Bitcoin).
This approach requires a rather accurate prediction of the target market and level of penetration, both of which are moving targets. Another limitation of this comparison is its relatability only to traditional assets, without accounting for competition from comparable crypto assets.
Another popular method is the stock-to-flow model, authored by pseudonymous contributor PlanB. This model attributes Bitcoin as a store of value owing to its scarcity, arising from its limited supply and decreasing inflation rate (decreasing amount of Bitcoin entering circulation, while total supply increases). Thus, stock (Bitcoin) increases while the flow (new minting) decreases. Yet, critics of this approach refer to gold as an example. Over the last century, gold’s total market cap fluctuated wildly while the stock-to-flow ratio remained steady at around 60, indicating a lack of correlation between the…
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