The number one mistake made by crypto newbies is to completely ignore market capitalization. Are you included in this group of investors that don’t understand what market cap is or how it works?
Not knowing the basics about market cap can lead to sub-optimal investing decisions. After you read this blog post, you will be able to understand the importance of market cap and why it is a more important indicator than a crypto’s price.
How is the market cap of a Crypto calculated?
You don’t have to be a rocket scientist to work out the market cap of a cryptocurrency. Let’s recalculate Bitcoin’s market cap using the following simple formula.
Market Capitalization = Latest Price X Circulating Supply
Where the circulating supply is the total number of coins or tokens that are actively available for trade and are being used in the market. It is important to distinguish this from the total supply which is the total number of coins or tokens that will ever exist.
Bitcoin Market Cap = $42,864.90 * 19,006,281 = $814,702,334 (Figures from coinmarketcap.com as of 08/04/2022)
Even though the market cap of Bitcoin is $815bn, this does not mean that exactly $815bn has been invested in Bitcoin. The market cap is heavily dependent on whatever the last price a buyer and seller agreed to exchange Bitcoin for.
As you may be already aware, the price can be volatile especially when there are positive or negative news.
Technically there is also not 19.006m Bitcoin in circulation, a lot of Bitcoin has been lost forever through error and lost addresses, etc (Even the Bitcoin owed Satoshi Nakamoto is unlikely to ever be in circulation again). This would lead us to believe the true market cap of Bitcoin is much lower than $815bn if we were to rerun the numbers and removed Bitcoin that has been lost.
Why it is more important to look at market cap rather than price
A common misconception for new investors is that they will look at the price of a crypto like Dogecoin, which is currently priced at $0.14 at the time of writing, and think wow its so cheap when compared to Bitcoin. They think it has the chance of one day reaching the same price as Bitcoin ($42,865).
Then they go and buy as much Dogecoin as possible hoping it will make them rich. But that is not the case whatsoever, Dogecoin could indeed increase in price significantly but it already has a market cap of €20bn. the price is dictated by the circulating supply of the crypto and its market cap.
It is very dangerous to be making crypto investing decisions purely on price, there are numerous other factors and research that you should be taking into consideration.
Here is why only looking at price can be misleading:
|CRYPTO A||CRYPTO B|
|Circulating Supply||400,000 Coins||50,000 Coins|
|Price Per Coin||$2 per coin||$4 per coin|
From the above table you can see clearly that even though Crypto A has a lower price of $2 than Crypto B, its market cap is 4 times as big as Crypto B.
So an uninformed investor may mistakenly think that Crypto A has much higher upside potential because it has a lower price, but in reality the potential returns for the investor could be much lower as is has already grew to 4 times as big as Crypto B.
The general rule is the larger the market cap of a crypto the bigger the network effect it has had and the more popular is it as an investment.
Also larger market cap cryptocurrencies will generally have less volatility the bigger they are. But if you are looking for large outsized returns they will most likely come from lower cap coins, but these investments will come at a much higher risk.
Circulating supply changes can also have a massive effect on market cap and price
It is also important to be aware of the effect of changes in the circulating supply on the price. Changes in circulating supply will have a massive effect on the supply and demand – in crypto this is more commonly known as the tokenomics.
Tokenomics is the combination of token and economics, refers to a crypto asset’s qualities that make it appealing to investors. It refers to the supply and demand characteristics of the crypto.
When new crypto project hits the market it creates a particular number of tokens, only a portion of it instead of the whole supply is made available for circulation.
For example, World Mobile Token ($WMT) was launched in the last year. As you can see its market cap is $149m but its fully diluted market cap is $1.2bn.
The difference is because only approximately 12% of WMTs tokens are currently are circulating at this early stage. WMT will periodically increase the supply over the coming years. Many projects include this on their roadmap/Whitepaper.
A good place to start when researching the market cap and circulating supplies of the crypto projects you are interested in are CoinMarketCap.com and CoinGecko.com. These are the basics and you should get your head around them before you start investing.
Market cap is great for measuring relative size of crypto projects when making investment decisions. If you are investing based on price alone you are not seeing the whole picture.
A crypto project may have a very low price but still have a huge market cap relative to other because of a large supply of tokens or coins on the market. But market cap should just be one of many indicators used as part of your research into a project.
Disclaimer: This blog post is for informational and educational purposes only and should not be construed as financial advice.