Total Value Locked (TVL) is an EXTREMELY strong indicator to calculate a crypto's current value and future potential.
Investments should always be backed by thorough research and understanding. Before spending your hard-earned money toward any asset you should look at all the possible metrics.
"Total Value Locked" is one of the more important indicators in the DeFi industry.
TVL basically indicates the overall health of the DeFi market. The TVL of individual projects denotes the amount of investor faith in the protocol. A rapid increase in TVL shows that investors value the project, and more money is flowing through its network.
Here's another good read on TVL's and how does it matter?
It helps investors determine if a protocol is healthy and worth investing in. If you see the TVL rapidly rising it might be a project that's worth investing into since it's becoming more popular as we speak. You can also use the TVL to see if an asset is potentially undervalued or overvalued before even investing into it.
A token can be overvalued or undervalued if its market cap is high or low relative to the TVL of the entire project/protocol. This is called the "TVL ratio". For this, we need to divide the market cap by the TVL of the token. An asset is undervalued if the TVL ratio is less than one and vice versa.
But how do we actually go about doing this?
Let's take an example with DefiLlama
DefiLlama is the absolute best analytics FREE dashboard you will ever need.
It tracks DeFi platforms and their Dapps and uses TVL to show which DeFi protocols are the largest and how they develop over time.
Now here is where things get interesting.
The images below are examples of the most popular blockchains and their total TVL. The first image shows you the exact TVL amount in $.
The second image shows you the TVL ratio (Mcap/TVL).
This ratio is the one you need.
The LOWER the number the better. If a protocol or individual project has a high market cap but low TVL the ratio will be higher.
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If a protocol or individual project has a low market cap but high TVL the ratio will be lower. A high ratio isn't always bad. For example, Ethereum has a TVL ratio of 5.93
There are competitors that have a lower number (better) and yet Ethereum has the highest TVL $ value of all. It just means Ethereum is valued correctly and has the value to show for it.
A protocol showing a ratio of 0.5 has a higher TVL than its own market cap. It might still not even come close to the total TVL in $ than Ethereum. So it's not likely to compete with Ethereum directly BUT as an investment for us it might be extremely attractive.
It means Protocol X with a high ratio might not give you the same multiplier than protocol Y with a low ratio regardless if protocol X is the better project overall. The ratio purely tracks the money that flows through the protocol (interest) compared to its market cap.
Also keep in mind you won't find every project you invest in on Defillama. Not all projects have smart contracts or any form of staking, lending or liquidity pools available and importantly not every project has any TVL.
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