Investors use market capitalization (market cap) to estimate the value of a public company’s shares. But what does market cap mean in crypto? Let us have a look at the traditional stock market first.
Traditional stock market caps are the number of outstanding shares in a company multiplied by the value of one share. For example, a company might have 500 shares outstanding, and the value of a share is $5. The company’s market cap would be $2,500.
What Is Market Capitalization?
Market caps have three categories: Large, mid, and small. The dollar value of a company or cryptocurrency determines its overall value.
Companies initiate market cap through an IPO (Initial Public Offering). Companies attempt to sell their shares to the public during an IPO. Before this, investment banks determine the amount and prices of a company’s shares.
After a company is listed on an exchange, supply and demand determine the price of the shares. The more the shares are in demand, the higher their price. But if investors sell large amounts of the shares, the share price drops. Hence, market cap (outstanding shares x value of one share) is a fairly accurate assessment of a company’s value.
Companies with a value of $10 billion or more are large cap. They are well established and provide investors with modest returns and sustained long-term growth.
$2 billion to $10 billion is mid-cap. These are companies in an industry with rapid growth. They are riskier than large cap companies, but their potential growth is higher. This means that mid-cap companies might bring greater returns in the short term.
Small-cap companies are below $2 billion and more than $300 million. They are the riskiest and potentially have the greatest returns. They are susceptible to economic declines due to their lack of resources.
Investors use market caps in stocks to have an overview of a company’s size. Traders find it useful when making short term trades because it is a good indicator of showing the value of a company’s stock alone.
But it is not the full picture. Companies might have valuable shares, but it does not equal a valuable company. Potential buyers of a company need to look at a company’s debt as well as their balance sheets.
So, What Does Market Cap Mean In Crypto?
Cryptocurrency market cap is different from the stock market cap. The total amount of coins in circulation is multiplied by the value of one coin. For instance, if there are 200 coins in circulation, and the value of each coin is $2, the market cap of the cryptocurrency is $400.
Cryptocurrency traders and investors can use the market cap to estimate the value of cryptocurrencies for short-term and even long-term investments. These currencies are historically quite volatile, so there might be greater risks, returns, and losses than traditional stock trading.
Bitcoin, Ethereum, and Ripple are large cap cryptocurrencies. Like, large market cap companies, these currencies have a large userbase, and the value of the coins is mostly stable. Investors could gain small or no returns, but there are long-term benefits for future crypto to fiat currency exchange.
Mid-cap crypto is less stable than large cap crypto, but it has a lot of growth potential. This means that the crypto is in a strong position of value, but it can gain more value in the future. It can expand its network and increase its utility. Mid-cap cryptocurrencies allow investors to receive returns from their expansion.
Small-cap crypto provides the biggest returns of the three market caps. These are start-up or emerging currencies that are experiencing fast growth in the market. The values of the coins depend on the crypto market as a whole, and this causes small-cap crypto to be much more volatile than the other market cap cryptos.
More and more coins will be added to the circulation, so the demand and use of the coins might also increase quickly, but the opposite might also occur. Investors and traders could instantly lose their investments because the value of the coin rapidly drops, or the cryptocurrency fails.
Whales In Crypto
Market cap is a reliable barometer for viewing the value of coins, but whales could skew the results. Whales are investors who purchase large amounts of a cryptocurrency and do not spend it. They store the coins in a wallet.
Whales have been operating since the early days of crypto. They bought coins when the values were down and did not spend them. Some whales own large proportions of coins, so the circulation of the currency is heavily affected.
Some whales are criminal organizations. These whales gain crypto through illegal activities, like the silk road trading network, which offered illegal products and services for coins. They also store their proceeds in wallets and are reluctant to use their coins regularly.
Now, whales control the market by placing large buy or sell orders. A whale might want to purchase 20% of the total coins in circulation. This would increase a cryptocurrency’s market cap because there would be a large demand for coins, which increases the value of the coin.
It has the opposite effect when a whale sells 20% of its coins. It would push down the value of the coin.
If a whale does purchase a large proportion of coins and does not spend them, it would drive down a crypto’s coin value. The fewer coins that are in circulation, the lower the market cap. Ultimately, though, a whale’s influence lies in its powerful buying and selling power.
Investment Risks For Crypto Market Caps
In getting to understand what does market cap mean in crypto, consider that small-cap crypto carries the most risk for investors. They are highly volatile. Their coin value fluctuates daily or even hourly. Investors could lose all their funds but also make a quick profit. Therefore, small-cap crypto is popular among traders. The risk is high, but the rewards are high too.
Mid-cap crypto is a safer option for investors because they are much less volatile than small-cap crypto. They are also in the process of expansion, so investors might see their coins steadily increase in value as the crypto grows and adds more coins into circulation. That said, potential mid-cap returns are lower than small-cap returns.
Large cap crypto is relatively stable. There are a lot of coins in circulation, and the value of the coin does not fluctuate regularly. Investors could purchase these coins for long term returns due to modest growth over a long period. It is the safest investment option in crypto.
Investors should invest in a combination of these crypto market caps. Diversifying your investments is a proven method of minimizing risk, but due to crypto’s volatile nature, there are more aspects to consider than a crypto’s market cap or varying investments.
Other Methods Of Assessing Crypto Value
Market cap provides a broad view of a crypto’s value, but investors can use other methods of gauging a coin’s value. They could look at a crypto’s token velocity. Also, they can use a network value (market cap) to the Metcalfe ratio.
Metcalfe’s law dictates that a network’s value is proportional to the square of the total number of active users. For example, if there are 200 users on a network, the network value would be 40,000. Taking the Metcalfe law and dividing it by the network value of a cryptocurrency is the network value to Metcalfe (NVM) ratio.
A high NVM ratio means that a specific coin is overvalued by the market or the coin is expected to grow in users. Also, they can use this ratio to determine undervalued coins. A lower NVM ratio could indicate that it is a good time to buy a cryptocurrency.
An investor should also consider token velocity. This is the number of times a coin is used in a transaction. An investor takes the total transaction volume (TTV) of a coin in dollars and divides it by the market cap (MC) of the currency. If TTV is $2,000 and MC is $5,000, the token velocity would be 0.4. This indicates that investors and traders hold on to their coins more often.
A high token velocity would mean that traders are spending their coins at a high rate. This would decrease a coin’s value because there is less demand for the coin.
Investors and traders need to look at the NVM ratio, token velocity, and market cap to assess the value of a coin. But it is important to remember that cryptocurrencies are not the same as the stock market. They are more volatile, and there are little long-term benefits for investment.
Market cap is a useful method to use to quickly assess whether a crypto is worth investing in or not. Investors can see whether a crypto is large, mid, or small-cap.
Yet, market cap is only one method of gauging value. Investors should also consider token velocity, cryptocurrency whales, and the NVM ratio of a crypto. This will provide a much clearer assessment of a cryptocurrency’s value.