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DeFi investing is riddled with potholes. Here are a few tips on how to avoid them.
Welcome readers, and thanks for subscribing! The Altcoin Roundup newsletter is now authored by Cointelegraphâs resident newsletter writer Big Smokey. In the next few weeks, this newsletter will be renamed Crypto Market Musings, a weekly newsletter that provides ahead-of-the-curve analysis and tracks emerging trends in the crypto market.Â
The publication date of the newsletter will remain the same, and the content will still place a heavy emphasis on the technical and fundamental analysis of cryptocurrencies from a more macro perspective in order to identify key shifts in investor sentiment and market structure. We hope you enjoy it!
DeFi has a problem, pump and dumps
When the bull market was in full swing, investing in decentralized finance (DeFi) tokens was like shooting fish in a barrel, but now that inflows to the sector pale in comparison to the marketâs heyday, itâs much harder to identify good trades in the space.
During the DeFi summer, protocols were able to lure liquidity providers by offering three- to four-digit yields and mechanisms like liquid staking, lending via asset collateralization and token rewards for staking. The big issue was many of these reward offerings were unsustainable, and high emissions from some protocols led liquidity providers to auto-dump their rewards, creating constant sell pressure on a tokenâs price.
Total value locked (TVL) wars were another challenge faced by DeFi protocols, which had to constantly vie for investor capital in order to maintain the number of âusersâ willing to lock their funds within the protocol. This created a scenario where mercenary capital from whales and other cash-flush investors essentially airdropped funds to platforms offering the highest APY rewards for a short period of time, before eventually dumping rewards in the open market and shifting the investment funds to the greener pastures.
For platforms that secured series funding from venture capitalists, the same sort of activity took place. VCs pledge funds in exchange for tokens, and these entities reside in the ranks of the largest tokenholders in the most lucrative liquidity pools. The looming threat of token unlocks from early investors, high reward emissions and the steady auto-dumping of said rewards led to constant sell pressure and obviously stood in the way of any investor deciding to make a long investment based on fundamental analysis.
Combined, each of these scenarios created a vicious cycle where protocol TVL and the platformâs native token would basically launch, pump, dump and then slip into obscurity.
Rinse, wash, repeat.
So, how does one actually look beyond the candlestick chart to see if a DeFi platform is worth âinvestingâ in?
Letâs take a look.
Is there revenue?
Here are two charts.
![3 reasons why DeFi investors should always look before leaping 2 41f01de5 537f 470c a74f 198b44e0b95a](https://crypto21.online/wp-content/uploads/2022/10/41f01de5-537f-470c-a74f-198b44e0b95a.png)
![3 reasons why DeFi investors should always look before leaping 3 3cc85669 c560 48b4 a9bf 577537032a2b](https://crypto21.online/wp-content/uploads/2022/10/3cc85669-c560-48b4-a9bf-577537032a2b.png)
Yes, one is going up and the other is going down (LOL). Of course, thatâs the first thing investors look for, but thereâs more. In the first chart, one will notice that Algorand (ALGO) has a $2.15-billion circulating market cap and a fully diluted market cap of $3.06 billion. Yet its 30-day revenue and annualized revenue are $7,690 and $93,600, respectively. Eye-raising, isnât it?
![3 reasons why DeFi investors should always look before leaping 4 2380fb0a 9884 451b 9904 726bec0a9a52](https://crypto21.online/wp-content/uploads/2022/10/2380fb0a-9884-451b-9904-726bec0a9a52.png)
Circling back to the first chart, we can see that while maintaining a $2.15-billion circulating market cap and supporting a wide ecosystem of assorted decentralized applications (DApps), Algorand only managed to produce $336 in revenue on Oct. 19.
Unless thereâs something wrong with the data or some metrics related to Algorand and its ecosystem are not captured by Token Terminal, this is shocking. Looking at the chart legend, one will also note that there are no token incentives or supply-side fees distributed to liquidity providers and token stakers.
Related: 3 emerging crypto trends to keep an eye on while Bitcoin price consolidates
GMX, on the other hand, tells a different story. While maintaining a circulating market cap of $272 million and an annualized revenue of $28.92 million, GMXâs cumulative supply-side fees have steadily increased to the tune of $33.9 million since April 24, 2022. Supply-side fees represent the percentage of fees that go to service providers, including liquidity providers.
![3 reasons why DeFi investors should always look before leaping 5 f66bf7eb 2bcb 400e bb8a af1780334034](https://crypto21.online/wp-content/uploads/2022/10/f66bf7eb-2bcb-400e-bb8a-af1780334034.png)
Issuance and inflation
Before investing in a DeFi project, itâs wise to take a look at the tokenâs total supply, circulating supply, inflation rate and issuance rate. These metrics measure how many tokens are currently circulating in the market and the projected increase (issuance) of tokens in circulation. When it comes to DeFi tokens and altcoins, dilution is something that investors should be worried about, hence the allure of Bitcoinâs (BTC) supply cap and low inflation.
![3 reasons why DeFi investors should always look before leaping 6 aa05b760 f98d 413c b8be 51a0d1c68a55](https://crypto21.online/wp-content/uploads/2022/10/aa05b760-f98d-413c-b8be-51a0d1c68a55.png)
As shown below, compared to BTC, ALGOâs inflation rate and projected total supply are high. ALGOâs total supply is capped at 10 billion, with data showing 7 billion tokens in circulation today, but given the current revenue generated from fees and the amount shared with tokenholders, the supply cap and inflation rate donât inspire much confidence.
Before taking up a position in ALGO, investors should look for more growth and daily active users of Algorandâs DApp ecosystem, and there obviously needs to be an uptick in fees and revenue.
![3 reasons why DeFi investors should always look before leaping 7 25411142 49e0 4981 a022 66afbca7aba6](https://crypto21.online/wp-content/uploads/2022/10/25411142-49e0-4981-a022-66afbca7aba6.png)
Active addresses and daily active users
Whether revenues are high or low, two other important metrics to check are active addresses and daily active users if the data is available. Algorand has a multi-billion-dollar market cap and a 10-billion ALGO max supply, but low annual revenue and few token incentives present the question of whether the ecosystemâs growth is anemic.
Viewing the chart below, we can see that ALGO active addresses are rising, but generally, the growth is flat, and active address spikes appear to follow price surges and sell-offs. As of Oct. 14, there were 72,624 active addresses on Algorand.
![3 reasons why DeFi investors should always look before leaping 8 71b0fa6e 4d51 4bef a1e8 f7670ff7411e](https://crypto21.online/wp-content/uploads/2022/10/71b0fa6e-4d51-4bef-a1e8-f7670ff7411e.png)
Like most DeFi protocols, the Polygon network has also seen a steady decline in daily active users and MATICâs price. Data from CryptoQuant shows 2,714 active addresses, which pales in comparison to the 16,821 seen on May 17, 2021.
![3 reasons why DeFi investors should always look before leaping 9 9ec1ee20 f39e 4900 99c8 a0fee85acddf](https://crypto21.online/wp-content/uploads/2022/10/9ec1ee20-f39e-4900-99c8-a0fee85acddf.png)
Still, despite the decline, data from DappRadar shows a good deal of user activity and volume spread across various Polygon DApps.
![3 reasons why DeFi investors should always look before leaping 10 7911a2af bb9b 497f ae30 59080442936f](https://crypto21.online/wp-content/uploads/2022/10/7911a2af-bb9b-497f-ae30-59080442936f.png)
The same cannot be said for the DApps on Algorand.
![3 reasons why DeFi investors should always look before leaping 11 82c9254f a5f5 40e6 a97e 65b83b57057c](https://crypto21.online/wp-content/uploads/2022/10/82c9254f-a5f5-40e6-a97e-65b83b57057c.png)
Right now, the crypto market is in a bear market, and this complicates trading for most investors. At the moment, investors should probably sit on their hands instead of taking kiss-and-a-prayer moon shots at every small breakout that turns out to be bull traps.
Investors might be better served by just sitting on their hands and tracking the data to see when new trends emerge, then looking deeper into the fundamentals that might back the sustainability of the new trend.
This newsletter was written by Big Smokey, the author of The Humble Pontificator Substack and resident newsletter author at Cointelegraph. Each Friday, Big Smokey will write market insights, trending how-tos, analyses and early-bird research on potential emerging trends within the crypto market.
The views and opinions expressed here are solely those of the author and do not necessarily reflect the views of Cointelegraph.com. Every investment and trading move involves risk, you should conduct your own research when making a decision.