In the domain of asset valuation, a dichotomy exists between intrinsic and relative valuation methodologies. Intrinsic valuation seeks to ascertain an asset's inherent value through its capacity to generate cash flows, while relative valuation, often referred to as pricing, gauges an asset's worth by comparing it to similar assets in the market. This bifurcation is pivotal in understanding the valuation landscape, especially in the evolving realm of cryptoassets, where traditional valuation frameworks are continuously adapted to address the unique characteristics of these digital assets.
The valuation of cryptoassets necessitates a nuanced approach, given their diverse nature and the different economic roles they play within the digital economy. This diversity is well captured through the categorization into three broad asset superclasses as proposed by Robert Greer: Capital Assets, representing ongoing sources of value akin to stocks or bonds; Consumable/Transformable Assets, which are tangible commodities that can be consumed or altered; and Store of Value Assets, which, akin to currencies and collectibles, do not yield income but are held for their value retention over time.
Cryptoassets span across these superclasses, with governance tokens, functioning similarly to equity in providing voting rights and a claim on governance, classified as Capital Assets. Utility tokens, which underpin the economic mechanisms of their respective platforms without yielding direct returns, fall into the Consumable/Transformable category. Non-fungible tokens (NFTs), embodying digital collectibles or art, are quintessential Store of Value Assets, reflecting their non-income-generating nature yet holding significant value.
Intrinsic
Intrinsic valuation of cryptoassets like Ethereum (ETH) involves methodologies akin to those used in traditional finance, such as the Discounted Cash Flow (DCF) model. This process entails estimating the net present value of future cash flows, which for Ethereum validators include transaction fees and token issuance, reflecting the network's economic activity and growth potential. By applying a conservative discount rate to these projected cash flows, one can derive a valuation that reflects both the expected income and the inherent risk associated with the asset, providing a rational basis for investment decisions.
There also exist three primary types of token-specific yields:
- Network Staking Emissions: Yields (at the protocol level) that are distributed to validators or delegators who contribute to the proper functioning of blockchain middleware
- Token Holder Rewards: Yields (at the protocol level) that are provided to individuals who stake or hold a specific token
- Participatory Rewards: Yields that are awarded to users who actively engage with and utilize a particular project (ex: DeFi or airdrops)
It is important to note that the yield properties of these token-specific yields are project-dependent and as such, realized returns can vary greatly. The yield that is accrued over time is hypothetical and denominated in the project's token price. It is only realized through the act of selling from one party to another. Therefore, there are underlying assumptions that must be met in order to realize the yield, such as the ability to sell on the open market, zero price movement, and the proper functioning of underlying mechanisms.
As an example, staking ATOM, as of January 2024, offers a nominal 15% staking reward. This sounds incredibly attractive, especially if you are bullish long-term on the ATOM token. However, that 22% ROI is not net ROI. We must account for the token inflation that is subsidizing those rewards, staking fees, lock-ups, and token price action.
Once taking into account dilution via token issuance, the net ROI on staking ATOM is closer to . So, staking rewards are closer to 6% minus the fees if a user chooses to delegate. This is competitive with other top PoS protocols like Ethereum and Solana and forces the user to take into account opportunity cost. If the ROI is similar, which crypto asset would you rather hold/will maintain its value?
Token Holder Rewards and Staking Emissions: A Closer Look with Ethereum
In the case of Ethereum, ETH holders can stake their ETH to help provide crypto-economic security to the network. For this act, stakers receive their proportion of the network’s inflation plus transaction fees. In Ethereum, one must stake to become a validator.
A validator is a person or entity who locks up (stakes) 32 ETH in order to run a validating node and secure the Ethereum blockchain. Validators are “are “entities responsible for ordering and packaging transactions into discrete data structures called blocks which are then proposed to the network to validate.” This means rather than relying on energy/electricity for security, as is the case in PoW, Ethereum security will rely upon staked capital. With PoS and staking rewards, ETH becomes a productive capital asset with yield as well as money underpinning network transactions and executing smart contracts.
The launch of Ethereum’s Beacon Chain in December 2020 marked an enormous milestone that has been on the roadmap from the early stages of the project in 2015 and has already become the largest, most decentralized PoS blockchain with ~900,000 validators
There are several different ways a user can stake ETH. The most autonomous and preferred method is to personally run a staking node. However, this requires at least 32 ETH plus some intermediate technical knowledge of the protocol, nodes, and computer hardware.
Bitcoin's valuation, particularly from the perspective of crypto-commodities, introduces the concept of marginal cost of production as a fundamental component. This approach considers the electricity and operational costs associated with mining Bitcoin, offering insights into the lower bounds of its market price. While not a direct indicator of intrinsic value, this cost-based analysis provides a pragmatic floor price, reflecting miner profitability and the economic viability of Bitcoin mining operations.
Relative valuation techniques, prevalent in traditional finance, are equally applicable to cryptoassets, facilitating comparisons based on market metrics and sentiment. This method is particularly relevant for assets like Bitcoin, where intrinsic value is more challenging to ascertain due to its role as a store of value. By considering market size and potential penetration rates, investors can derive comparative valuations, offering a market-based perspective on an asset's worth relative to its peers.
The valuation of cryptoassets, therefore, encompasses a blend of traditional and innovative methodologies, tailored to the unique attributes and economic roles of these digital assets. Whether through intrinsic valuation models adjusted for the digital age or relative comparisons grounded in market dynamics, these approaches provide a structured framework for assessing the value and investment potential of cryptoassets. As the digital asset landscape continues to evolve, so too will the methodologies and models applied to their valuation, reflecting the ongoing integration of traditional financial principles with the innovative nature of cryptocurrency.
