Is market liquidity a better way to classify crypto than their capitalization?

Building a cryptocurrency ranking based solely on their market capitalization is not entirely fair compared to the most liquid projects that generate a huge daily trading volume. Market capitalization is a simple concept, understood as the product of the quantity of assets in circulation and their prices. The use of this indicator means that many other statistical data, such as for example market liquidity, are omitted from the comparison. It is defined as the level at which it is possible to trade assets at stable prices. This, however, is related to the volume of trading.

If the cryptocurrency experiences a high transaction volume, this indicates that the investor is interested in the project, which is represented by the given token or cryptocurrency. This also works the other way – if the tokens have a small trading volume, there is not much interest in the project itself. It may be characterized by high market value, but we do not have many sellers and buyers on the market, and a large percentage of holders.

Assuming that the trading volume reflects the level of market interest, we believe that it would be interesting to try to find strong positive and negative outliers by comparing the market capitalization of cryptocurrencies with its 30-day turnover.

The initial hypothesis assumes that if the token turnover value exceeds its capitalization, it is a sign of a live market and a lot of interest. Such markets allow for quick purchase and sale of assets without causing a drastic change in their price. However, if the value of turnover is a small percentage of its market value, it is much more susceptible to intense fluctuations, because usually there is a lack of enough buyers or sellers to make large market moves. A better illustration of this phenomenon can be found on the infographic below:




This phenomenon gives very valuable information to institutional investors. Projects whose trading volume is low in relation to their capitalization will not be able to handle large movements, because the orders of individual investors will be able to cause price changes by 10-20%. This means that the largest investors (the so-called “whales”) will have difficulty in buying or selling large volumes of low-value assets at the prices offered at the very beginning.

It turns out that several of the most recognizable cryptocurrencies, such as Bitcoin (BTC) and Ethereum (ETH), have a volume close to their market capitalization in one month, which was expected with the rest. This shows relative stability and balance in investor interest. However, there were significant differences when other tokens with a lower level of market capitalization were tested.

Tokens such as IOST, Nebulas (NAS) or EOS have a much higher trading value compared to the most popular cryptocurrencies. The IOST turnover volume at the peak moment was 7 times its capitalization. (Note: Huobi Token (HT) has been excluded from the comparison because it is used for trading on the Huobi exchange, which in turn may cause distortion of the data).

Conversely, cryptocurrencies such as RChain (RHOC), Augur (REP) and NEM have reported extremely low liquidity. It turned out that to reach the level of capitalization of RChain, you need as much as 14 months of trading at a similar daily level. Surprisingly, seemingly popular projects, including Stellar and XRP, were at the very end of the ranking, which may indicate an imbalance between the recognisability of the project and the real interest in its possession and turnover.

In conclusion, the classification of tokens by means of market capitalization does not give a clear picture of the size of the market and what is traded. A more integrated approach would be to examine how long individual digital asset trading would take to reach the equivalent level of their market capitalization. This, in turn, can provide information on which assets are more liquid than others. In the case of IOST, it turned out that the level of its liquidity exceeds the outstanding and most recognized projects such as Bitcoin and Ethereum.

About the author:

Kacper Żytkowicz holds the position of Development Director at the Berlin office of the IOS Foundation (Binance: IOST). IOST is a new-generation blockchain that is decentralized, scalable and based on open source.


Podziel się wpisem

Leave a Reply

Your email address will not be published.