Market capitalization applies as much to stock markets as it does to cryptocurrencies and blockchain projects. It tells us the current market value of a given cryptocurrency or blockchain network.
An equally important metric is the total market cap of the entire crypto industry. In some sense, it can be used as an estimation of the cumulative value of the blockchain and cryptocurrency industry.
Calculating the market capitalization of a cryptocurrency project is relatively simple. While most enthusiasts will compare the market cap of individual projects, it can also be useful to keep tabs on the bigger picture.
All of the top cryptocurrency data aggregators report the total crypto market capitalization, making it relatively easy to keep tabs on this metric. But what does it mean and what can it tell us about the market? Let’s read on.
Often referred to as the "market cap", market capitalization is the current market value of a cryptocurrency network. It’s calculated by multiplying the circulating supply of a crypto asset by the price of an individual unit.
So, let’s say we have two networks, AliceCoin and BobCoin. AliceCoin has a total supply of 1,000 coins, and they’re all circulating. BobCoin is a Proof of Work chain, where currently 60,000 out of a max supply of 100,000 coins are circulating. The current market price of AliceCoin is $100, while BobCoin is $2. Which coin has a bigger market cap?
Market cap = circulating supply × price
AliceCoin market cap = 1,000 × $100 = $100,000
BobCoin market cap = 60,000 × $2 = $120,000
Even though one BobCoin is 50 times cheaper than one AliceCoin, the value of the BobCoin network is still higher than the value of AliceCoin. This is why market capitalization is a better estimation of a network's value than simply the price of an individual coin.
The total market cap depicts the total value of Bitcoin, altcoins, stablecoins, tokens, and all other crypto assets on the market combined. This metric is deemed important by many, as it indicates the size of the industry as a whole.
Total crypto market cap since 2013. Source: CoinmarketCap.
Due to the relatively high volatility of the cryptocurrency markets, the values tend to shift around quite a bit. During the first six and a half years of the existence of cryptocurrency, the total market capitalization never surpassed $20 billion. Since the most recent peak at $770 billion in 2018, it has been fluctuating in the hundreds of billions.
The combined crypto market capitalization is often used as a basis for comparison with other sectors in the wider economy. For example, many analysts often compare the total crypto market cap to the market cap of precious metals or stocks.
Why would they do that? Well, it can give them a rough estimation of where the total crypto market could grow in the next years and decades.
Still, no one knows the best way to estimate the valuation of cryptocurrencies and blockchain projects. These comparisons can be useful but are not to be blindly trusted.
Comparing different financial markets is often a futile effort. Different industries attract different types of investors. Cryptocurrency will not automatically appeal to stock traders, foreign exchange traders, or precious metal speculators. Cryptocurrencies are a new and flourishing asset class and should be treated as such.
Making financial decisions based on the total crypto market capitalization can be misleading for many different reasons.
The first order of business is to ensure the correct market valuation for every project individually. This is done by taking the supply figures and multiplying it with the price per asset.
But, it can be difficult to determine the correct supply information. If that data is incorrect, any further calculations will automatically be invalidated as well.
Secondly, it can be possible to manipulate the market cap of some projects. Some projects do it to create a false sense of security and value. Staring at the total market capitalization without questioning what it actually means will lead to potentially harmful financial decisions.
In the end, the total market capitalization is merely a number that represents a certain moment in time. It can represent nine figures today, ten figures next week, and eight figures in 6 months. It only represents a snapshot of the cryptocurrency industry at that time.
There are multiple ways to calculate market capitalization. One way to get an estimation of the future value of a network is called the diluted market cap. Let’s see what it is.
The term "diluted market cap" comes from the stock market. In that sector, this figure represents a company's valuation if all stock options are exercised and all securities are converted to stock.
It’s also crucial to keep the current and future supply of a crypto asset in mind. Not all cryptocurrencies, tokens, and assets have their entire supply available at this time.
To give an example, we know there will be a maximum of 21 million bitcoin. Today, there is 18.505 million bitcoin in circulation. This equals a market cap of roughly $195.2 billion at a price of around $10,550 per BTC.
Calculating the diluted market cap would take the maximum supply of Bitcoin into account instead. As such, we take 21 million and multiply it by the current BTC price of $10,550. The outcome of this sum is the diluted market cap of Bitcoin, which equals around $221.5 billion.
This same concept can be applied to all other crypto assets on the market. A diluted market cap simply takes an asset's current price and multiplies it by the maximum supply to ever circulate. Considering how the prices of these assets will fluctuate, it’s not an exact metric by any means. Still, it can help determine if an asset may be undervalued or overvalued.
Many cryptocurrencies will see their circulating supply increase over the years. In these cases, the diluted crypto market capitalization will be higher than it is today, even if the price stays the same.
At the same time, there are deflationary tokens trying to actively reduce their supply. This can be done in various ways, one of which is through a process known as a coin burn. This helps reduce the future maximum supply of said asset.
If the asset’s value does not increase over time, and its supply keeps decreasing, its diluted market cap years into the future can be lower than it is today.
To provide an example: BurnCoin has a current maximum supply of 20 million tokens at a price of $1 per coin. But, the team decides to buy back tokens from the market and burn them, reducing the maximum supply to 18 million BurnCoin.
Following the announcement of the coin burn, the BurnCoin price remains at $1. Knowing the coin burns will occur in the future, we can calculate the diluted market cap as:
18 million BurnCoin x $1 = $18 million
However, when the coin burn is announced, the market cap is:
20 million BurnCoin x $1 = $20 million
In this case, the diluted market cap is actually lower than the current one. Keeping the above example in mind, a lot can happen in the time between the announcement and the actual coin burn.
Even after the burn, the price can still go up or down. A diluted market cap, especially for deflationary tokens with active coins burns, is far from a precise metric. You could think of it as a snapshot, just like the current market cap – but it’s a snapshot that tries to estimate future value.
Crypto market capitalization is one of the essential metrics to watch. It depicts the ebb and flow of the valuation of the entire cryptocurrency industry. It can also be useful to distinguish between what is being reported now, and what the diluted market cap can be further down the line.
At the same time, it’s important to consider other metrics as well. The market cap is merely one piece of the puzzle. There are other aspects of the industry to research before making any financial commitments.
To find out more about BTC, ETH, XRP, BCH, ADA, and other top market coins, make sure to check out the Ask Academy Q&A platform.