How to Analyse Cryptocurrencies in 2023 (A Beginner's Guide)Nov 04, 2022
Wanna Learn How to Analyse Crypto?
So, you wanna learn how to analyse cryptocurrencies to make money in 2023? Great! Keep reading... Crypto is a new and exciting asset class that can be daunting for even the most seasoned investor. This guide will walk you through the basic principles of analysing cryptocurrencies to help you identify great investment opportunities. Investing in cryptocurrencies is not just about buying Bitcoin or Ethereum and hoping they go up in value one day. There is much more to it than that, which we’ll get into below.
What is Cryptocurrency?
The best way to understand cryptocurrencies is to think of them as a new asset class. This means that they are not like stocks or bonds where you own a piece of a company. They are a completely new asset class where you are simply buying a unit of a coin.
Cryptocurrencies are based on Blockchain technology.This means that there is a network of computers that are all storing a record of transactions. These are all linked together and are updated every time a transaction happens. This is a massive improvement on our current system where each bank holds their own records and there is no universal way to update transactions across institutions. This makes cryptocurrencies highly secure as there is no central server to hack.
How to Analyse Cryptocurrrencies Using Fundamentals
The first thing to do when analysing crypto is to understand the fundamental value behind each coin. This will determine how it is likely to perform against other cryptocurrencies and the market as a whole. You need to understand the problem the coin is trying to solve, and who the target market is. This will help you determine if a coin has a chance of being used by the masses or if it’s simply a solution looking for a problem. When doing fundamental analysis you must consider each of the following factors:
1. What is the value proposition of the coin?
There are a few core aspects of each coin that determine its value proposition, such as:
- What problem the coin is trying to solve? This can be different things such as enabling cross border payments, or increasing privacy of transactions. The best coins solve real world problems.
- What is the target market? Who are the people that will be using the coin?
- How big is the market the coin is trying to tackle? A large market with lots of inefficiencies is easier to disrupt than a smaller market.
- How does the technology stack up against competitors? Is the technology better? Does it have an edge?
2. Who are the team behind the coin?
This is an often overlooked aspect of fundamental analysis. The team is critical to a coin’s success. A team with a track record of success behind them is far more likely to execute a successful project. When analysing the team you should look at the following aspects:
- Track record of the team members. What were their previous projects and are they successful?
- The team's composition. What specialties are represented in the team? Investors like to see a balanced team.
- Background checks on each member. Are there any red flags?
- Clear communication from the team. How often do they communicate with the community? Are they transparent?
- Reputation of the team members. Are they well respected in the crypto community?
3. How does the coin compare to it's competitors?
Looking at the competition is key element in learning how to analyse cryptocurrency using fundamentals. You need to understand how each coin stacks up against the other coins in the market. In order to do this, you need to know what the other coins are doing and how the technology behind each of them compares. You should consider the following when performing comparison analysis:
- Who are the competitors?
- What are they doing?
- What are the technology advantages of each coin?
- How large is the market that each coin is trying to tackle?
- What is the reputation of each coin in the community?
4. How is the coin being used?
Measuring adoption is key to determining the future value of a coin. If no one is using the coin, then it’s hard to say if it will be successful.
First you need to find out how many people are actually using the coin. The best way to do this is to use the number of transactions per day as a proxy for how many people are using the coin.
You can then use these numbers to determine how quickly adoption is growing.
5. How is the coin being traded?
The trading behaviour of a coin can give you some insight into its future.
You should look at the price action of a coin over the last few months to get a feel for how it’s being traded.
Does it seem like there is a constant demand for the coin?
You can also look at the order books to see what the supply and demand of the coin looks like.
6. What is the sentiment around the coin?
The sentiment around a coin can tell you a lot about its future. If you are reading a lot of positive sentiment around the coin, then this may indicate that the coin is about to make a jump in value. You can also use sentiment analysis tools, like www.santiment.net, to get an idea of the general sentiment towards the coin.
7. What is the regulatory environment surrounding the coin?
Some coins have regulatory risks that can significantly alter their value. For example, if a coin is deemed a security by the SEC, then this will drastically affect its future. In order to determine the regulatory risk of a coin, you first need to know what the regulatory environment looks like.
8. How does the technology behind the coin stack up?
The technology behind a coin is critical to its future success. You need to understand what the technology is. Is truly revolutionary? You also need to understand how it compares to the technology behind other coins. Is it better? You also need to ask: are there any technological flaws or weaknesses with the coin? Finally, you need to ask: is the underlying technology ready for mass adoption?
9. How is the development behind the coin?
How the development behind a coin is progressing can indicate future success. You need to consider what the development roadmap looks like for the coin and how the team behind it is progressing. You also need to understand how transparent the team is about the progress being made.
10. How will the price of the coin be affected by other factors?
After doing all of the above fundamental analysis, you need to determine how the coin will be affected by other factors, such as:
- Price of the underlying commodity. Is the coin backed by a commodity like oil? If so, then a change in the commodity price will affect the value of the coin.
- How the market is being traded. If the market is bullish, then this will push the price of all coins up. If the market is bearish, then this will push the price of all coins down.
- How the development behind the coin is progressing. Is the team behind the coin making progress on their roadmap? If not, then this can affect the price negatively.
How to Analyse Cryptocurrencies Using Technicals
Now let’s look at how to analyse cryptocurrencies using technical analysis. This type of analysis looks at past price movements to determine future price movements.
The core principle behind technical analysis is that “the market always goes where it has been." This means that if the price has been heading up, it will continue to do so. If the price has been heading down, it will continue to do so. Another core principle of TA is that the higher the time frame, the better the statistical accuracy of predictions. So, try to use 1D+ charts when doing your analysis. Here, we will use the 1W chart.
While TA is not a foolproof way of analysing cryptocurrencies, it is a useful way to determine future price movements. We will cover the 3 basic components of technical analysis below.
Note: If you wanna learn more basics read our beginner's guide on how to trade crypto.
1. Market Structure
Simply put, "market structure" means whether a coin is in an uptrend (bullish), in a downtrend (bearish), or in a sideways trend (neutral).
The easiest way to determine market structure is to use a 1W (weekly) chart and two exponential moving averages (EMAs), the 21EMA and the 55EMA.
Then, you interpret the data as follows:
When the 21EMA (yellow) is above the 55EMA (blue) on the 1W chart the market structure is bullish. See example below.
When the 21EMA (yellow) is below the 55EMA (blue) on the 1W chart the market structure is bearish. See example below.
When the 21EMA (yellow) and the 55EMA (blue) are touching each other on the 1W chart the market structure is neutral, and you will notice price has essentially been going sideways for some time. See example below.
In TA, momentum is a measure of the relative strength of a price movement. The most widely used momentum indicator is called the Relative Strength Index (RSI).
There are many ways of using RSI to determine a coin's price action momentum. However, the most basic and effective method of doing so involves identifying divergences between the RSI and the price action itself.
There are different types of divergences, but we will focus on the two most common ones:
- Regular bearish divergence - Regular bearish divergence occurs when the price of an asset makes a new high, but the underlying momentum indicator does not confirm the move by also making a new high. This lack of confirmation by the momentum indicator suggests that the rally may be losing steam, and a reversal may be imminent. See example below.
- Regular bullish divergence - Regular bullish divergence is a technical indicator that occurs when the price of an asset is making higher highs, but the indicator is making lower highs. This divergence is a signal that the price could start to rise. See example below. (Note: This is a relatively recent signal on the weekly chart, so make sure to come back in the future and see how it played out!)
Volatility is a measure of how much the price of an asset varies over time. It is often referred to as "risk" or "uncertainty." In simple terms, volatility measures the expectation of potential price movement.
Just as with momentum and market structure, there are many way to interpret volatility. However, we will focus on the simplest iterations of these:
- Low Volatility - Low volatility in markets is defined as a period of time when prices remain relatively stable. This can be caused by a number of factors, including low levels of trading activity, a lack of new information, or a general consensus among market participants.
- High Volatility - High volatility in markets is when there is a large amount of trading activity and prices are moving up and down rapidly. This can be caused by a number of factors, including news events, economic data releases, and even rumors.
There are many volatility indicators you can use. Here, we will use one called "Historical Volatility Percentile" (HPV). The specific indicator you end up using is not that important. What is important, however, is identifying when volatility is as at extreme low or at and extreme high levels. This can give you insight into the likelihood of a potential price movement. See examples below.
Example #1: Low volatility in a downtrend. You will notice when volatility expands from the low levels it results in a violent move to the downside.
Example #2: High volatility in downtrend. You will notice when volatility contracts from the extreme high levels it results in a price reversal to the upside.
Example #3: Low volatility in uptrend. You will notice when volatility expands from the extreme low level it results in a violent move to the upside.
Example #4: High volatility in uptrend. You will notice when volatility contracts from the extreme high levels it results in a severe price correction to the downside.
So, as you can see, using technical analysis can help you determine the best entry and exit points for a trade, and can help you make the best decision about when to buy or sell a cryptocurrency. Focus on the 3 basic TA components: 1. market structure, 2. momentum, and 3. volatility, and combine them to analyse cryptocurrencies like a pro!
How to Analyse Cryptocurrencies Using On-Chain Data
Note: If you want to know more about the on-chain analysis software we feature in this section, read our article on nansen.ai!
On-chain analysis refers to the process of analyzing data that is stored on a blockchain. This data can include transaction data, contract data, and other data that is stored on the blockchain. By analyzing this data, it is possible to gain insights into how the blockchain works and how it is being used. Additionally, on-chain analysis can be used to track trends and activity on the blockchain.
You can use this type of analysis to answer questions such as these:
- Do short term traders or long term investors own the majority of supply?
- How much supply is going in or out of exchanges?
- What are the top holders (whales) doing with their coins?
- What is "smart money" doing in regards to specific coin?
On-chain analysis is a complicated subject, way beyond the scope of this article. However, we will highlight 4 on-chain metrics you can use to analyse cryptocurrencies and answer the questions above. (Note: If you want to learn how you can use on-chain analysis to improve your investing skills, sign up for our Free Course! )
On-Chain Metric # 1: Seniority Distribution
Seniority distribution is a graphical representation of how many coins are held by addresses that have been active for different lengths of time. Using simple logic we can deduce that if the majority of coins are being held by long-term holders (people who have owned the coin for years), then there is a significant group of investors who are long-term bullish on that project, and these investors may represent a price floor for the coin, depending on their collective cost basis. For example, below you can see the seniority distribution of a coin called $DOP (an NFT borrow/lend protocol with a marketcap of under $2M at the time of writing). Notice the majority of $DOP tokens are held by long-term investors. We can interpret this piece of on-chain data as being generally bullish for the future price of $DOP.
On-Chain Metric #2: Inflow/Outflow
Inflow is defined as the value of cryptocurrency that is brought into an exchange from an external source. This is in contrast to outflow, which is the value of cryptocurrency that is sent out of an exchange to an external destination. In other words, inflow is coins going into an exchange, while outflow is coins going out of an exchange. Again, using simple logic we can deduce that inflow is bearish because the majority of investors send their coins to an exchange in order to sell them. By the same token outflow can be considered generally bullish because most investors take their coins out of an exchange in order to hold them for the long-term. For example, if we look at the inflow/outflow data for $DOP for the last 7 days we can see there is way more outflow than inflow, which we can interpret as bullish. If we look at a price chart of $DOP for the last 7 days we can confirm that indeed the current short-term bias for this token is bullish.
On-Chain Metric #3: Negative Change in Top Balances
Top balances is a simple metric that measures the amount of coins a specific entity holds. Entities can be individual or collective investors, like hedge funds, which have a bias in regards to the coin's future price (if they hold/own it its because they want the price to go up). However, some entities that hold the coin can can also be direction neutral. For example, exchanges or staking contracts don't care which way the price goes, not the way individual and collective investors do. For example, the table below is a list of the top balances for $DOP. We have crossed out non-directional bias entities and focused only on individual or collective investors. We sorted the table based on negative balance changes for the last 30 days. We want to see if $DOP's top investors are selling all their tokens or if they are keeping significant portions of their stack, and perhaps just taking some partial profits. As you can see there are not many sellers over the last 30 days and those who did sell kept significant portions of their stacks. We can interpret this piece of on-chain data as being generally bullish.
On-Chain Metric #4: Smart Money
On-chain analysis smart money is defined as large investors who buy and sell cryptocurrency based on comprehensive analysis of blockchain data. These investors are usually considered to be more sophisticated and experienced than other market participants, and their trades are often seen as a leading indicator of future market direction. For example, below we can see the smart money token holdings table for $DOP. Notice the smart money token balance has been uptrending for the last 6 months. This piece of on-chain data can be interpreted as being generally bullish.
(Note: Here's a more in-depth explanation of on-chain metrics and how to use them).
As you have seen, learning how to analyse cryptocurrencies can be a complicated and time-consuming process. This is why some people choose to use a cryptocurrency analysis service. A cryptocurrency analysis service can provide you with valuable insights into the market. We don't offer a service like this yet, but we may in the future, so stay tuned! Right now, however, we do offer a FREE COURSE on cryptocurrency on-chain analysis. Our course will help you identify trends and potential investments!
As you continue on your crypto journey it is important to remember that cryptocurrency analysis is not a guarantee of investment success in and of itself. Its simply one of many tools you must possess as an investor in order to be successful. We hope you enjoyed our guide on how to analyse cryptocurrencies, and remember: when making any investment decisions, you should always do your own research (DYOR)! Just like you did when you read this article ; -)