There are merits and demerits in existing approaches such as technical analysis and fundamental analysis.
We don’t want to do a PhD in cryptocurrencies, but at the same time we don’t want to take the topic too rashly. It is a balance. We need a quick and practical guide. It has to be a relative approach that compares good against bad. That is what this book is about.
Digital assets are still very much in their infancy. New valuation models for them will emerge – in a few decades, we will see Nobel prizes coming in this space. Analyzing this asset class requires a different mindset.
We need something that is timeless. It must work in bear markets and bull markets. Be applicable to top currencies and to smaller ones. Work in upward and downward markets and even in sideways markets. But it must not be laborious and time consuming. Retail investors and traders already don’t have enough time; we can’t scare them with a complicated model. It has to be practical, real, and tangible.
Criteria for Selection
So let us first define the criteria that make a valuation method right for us.
- It should help with our ultimate need: our decision whether to buy, sell or hold. Unfortunately, many existing models do not cater to that basic need.
- It should be practical in terms of time consumption and require only easily available information.
- It must work in small markets and even when liquidity is low.
- It should be able to predict accurate results in absolute terms.
- The energy spent on the process of valuation itself should be minimal.
- It must be applicable across assets.
- The decision should be explainable to ourselves and others as needed. It must be auditable and traceable.
- It should be programmable, at least to some extent. It should have a significant confidence score.
- We should be able to empirically prove that it works and to backtest it with past data.
- It should be intuitive and native to the domain we’re applying it to, not a superimposition from other fields where different boundaries and constraints apply.
We need the three angles as shown in Figure – the VC lens, technical analysis, and fundamental analysis – to decide whether to invest or divest or just hold.
The VC lens gives us the greatest potential in terms of coins we can earn. Do we gain twice, 10 times, 100 times our investment – or even more? How good are our chances? The VC lens captures the bigger picture and the story. If you do this right, the most you can lose is what you risk, but your gains can be 1000 times that.
A fundamental analysis gives us the proof for what the VC lens shows. Is it so? Is it as we imagine? Are things happening? Is this whole thing possible? Fundamental analysis is a reality-checker. In the near term we are able to measure. So fundamental analysis gives us near-term valuation plus a reality check on what the VC lens shows. With fundamental analysis you can reduce drawdowns, and if you do it right, gain ten times your investment.
Technical Analysis gives us the timing – when is the right time to buy, sell or stay away – based on the market at that instant. It takes into account how other parties might react in the market and the behavioral decisions of humans in the market.
Perhaps TA is complete by itself, if all that matters is the price. This is true in many markets and likewise in crypto. But if you want to increase your win ratio and win-to-lose amount and don’t want to have the wrong stop-loss triggers, consider FA and the VC lens as well.
The same holds true for long-term investors with only a VC lens. If you shun TA, you will lose in the short term. Your return on investment might be less than it would be from using TA tools. TA results are useful market insights. In my view and experience, the best investors are grateful for meaningful knowledge that gives them an edge.
Fundamental analysts have well-backed opinions on the assets they have in hand, but forget that the market encompasses a much more varied set of information. It is a good idea to at least be aware of basic TA and have a longer view of future options through VC. Without the TA and VC angles, you are walking through a jungle without knowing either what direction you’re heading in or where the pitfalls are.
There are many excellent books about TA in general, covering many different TA tools. Not all tools work in all markets. In this book I try to be specific about what does and doesn’t work in the crypto world. You don’t need to spend your time learning about all the TA tools. The VC lens is subjective in nature, so please treat my thoughts on the long term potential as subjective too. The fundamental factors in the crypto world are peculiar compared to those in other asset classes, so we will cover the fundamental analysis in detail. Fundamental analysis is the bridge between the future – the focus of the VC level – and the present – the focus of TA analysis. The factors that affect traditional asset classes in specific countries – such as inflation, the prevailing interest rate, unemployment rates – are not major factors in this asset class.
So when you aptly combine the three approaches, you get the benefit of all of them. You reduce your risk by using TA and FA and you aim for VC returns of 100 times your investment – and you never get caught in a pump-and-dump manipulation. Combining strategies in this way will help reduce your drawdowns. And the beauty of it is that it works in both the short and long terms.