This post is a bit of a vent about a pet peeve of mine. I love the site coinmarketcap.com as it is a great way to compare the various alternate cryptocurrencies, see their trading volume, latest price, trends, and of course their “Market Cap.”
It is this last part that bothers me. This has nothing to do with the site, as I said I think it is a great resource, but more with the people who have no idea what Market Cap in this sense means.
I often hear, or read, in forums, online chats, troll boxes, and yes sometimes even in person, about a coin’s market cap. Too often, I sometimes hear comments such as coin x was valued at $100 million yesterday, now it is down to $60 million, someone just walked away with $40 million profit. Wrong!
First, let us look at what a Market Cap is, or more correctly the term; Market Capitalization.
According to Investopedia
What is ‘Market Capitalization’
The total dollar market value of all of a company’s outstanding shares. Market capitalization is calculated by multiplying a company’s shares outstanding by the current market price of one share. The investment community uses this figure to determine a company’s size, as opposed to sales or total asset figures.
Frequently referred to as “market cap.”
Now note that this is talking about a company and its shares. In most cases, these shares are sold to investors and for the most part is a pretty accurate assessment of a company’s value. Some shares may given directly to executives and owners, but for the vast majority they were actually sold for a certain dollar amount so the Market Capitalization has some meaning and value to an investor.
When it comes to apply this same principle to a cryptocurrency, while the logic is the same; i.e. X number of coins (shares) multiplied by Y price of a coin, yields a coin’s market cap.
While this is indeed useful, one needs to consider how most cryptocurrencies are distributed. Most coins are mined into existence over a period of time.
This could take the form of PoW (mining) or PoS (staking), but is intended to give a somewhat fair distribution to interested parties. Some coins pre-mine a certain amount to help fund development and initially promote the coin, which is akin to giving executives of a company shares, which is fine in moderation. Then there are ICO’s and other various forms of distribution, which can more closely mimic a traditional companies share issuance, but where I am going is that for the most part the coins are not nessisairly sold one for one at a certain value to establish a true reflection of its market cap.
For an extreme example of this, let us consider a hypothetical Cryptoyeticoin. Say I mine 10 million Cryptoyeticoins and that is all there can ever be. I distribute these coins to 10 people, including myself, evenly, so each person has 1 million Cryptoyeticoins.
Let’s further assume we manage to list Cryptoyeticoin on an exchange and it then in-turn gets linked to CoinMarketCap.com. Someone takes an interest and buys 1 Cryptoyeticoin for $1 just to check it out, they have no intention of buying any more for the moment.
With this simplistic arrangement, we can see where the problem arises. CoinMarketCap does there thing and knows there are 10 million Cryptoyeticoin in circulation (available) and now knows that someone, somewhere, values it enough to buy 1 at $1.00. Using this information, it does it’s thing and bamm, Cryptoyeticoin now majically has a coin marketcap of $10,000,000 (ten million dollars).
It does not matter that the buyer, or anyone else for that matter, has any intention of buying the remaining 9,999,999 Cryptoyeticoins at $1 each, so the value is mainly cosmetic.
Now let’s take this a step further and say after looking it over for a time our intrepid buyer decides to sell his Cryptoyeticoin, seeing that the market is non-existent, he lists the coin for $0.50 just to be done with it. Someone else comes along and buys it up, again purely for curiosity sake, with no intentions to buy more. Coinmarketcap.com does it’s thing again, and now Cryptoyeticoin only has a market cap of $5,000,000, or half what it was just moments ago.
I can just imagine the trollbox already, “Dude, someone just fleeced the newbs holding Cryptoyeticoin and walked away with $5,000,000, lol, losers!”.. I hope by now what is wrong with this statement and how a coins market cap is only another metric in the toolbox to compare coins to one another and by no means the true valuation.
Now let me finish by saying that market capitalization has its uses, and the more heavily traded a coin is with plenty of volume the more useful this metric becomes, but you need to look at the complete picture and not just one number to judge a coins value.