BTC Fundamentals: Bitcoin On-Chain Metrics You Need to Know About
By: Xena Exchange
Tags: Btc, Metrics, Bitcoin, Trading

What do game changers, low-hanging fruit, and growth hacks have in common? According to Inc.com, they all form part of the 15 most-searched business-related words of 2018. Blockchain is also on this list, although the technology is relatively new.

Bitcoin, one of blockchain’s many use cases, is the most popular of all cryptocurrencies. In the last decade, its value grew tremendously. In fact, Bitcoin is so popular that it caught the attention of Leon Louw, a South African intellectual and Nobel Peace Prize nominee. He told Forbes:

“Every informed person needs to know about Bitcoin because it might be one of the world’s most important developments.”

Figure 1: Bitcoin Visualization: A graphic representation of Bitcoin plotting price, hash rate, transactions, transaction value and transaction source.

To better sync with his advice, aspiring traders and investors must first learn the basics of popular cryptocurrency price valuation models. A better grasp of these models translates to superior trading decisions and, consequently, success. In this article, we simplify relevant terms in the best way possible.

Bitcoin On-Chain Metrics

According to an in-depth analysis by Hans Hauge, a senior quantitative researcher at Ikai, Bitcoin investors employ different tactics to profit from the fluctuating digital asset prices. Some HODL for long-term rewards, and others want to trade and “do more” with these digital assets. Consequently, there are two types of Bitcoin traders: the “veterans” and the “newbies.”

The newbies are the hurried market latecomers that trade coins on whims. They often purchase them at the top and sell at the bottom. This group of traders does not hold BTC for prolonged periods, they jump ship fast during bearish seasons, and they are generally known as the weak hands in an unexpected shakeout. In contrast, veterans have been in the market for several years, and they research before posting a trade, buying the dips and exiting after hitting their targets.

However, traders need to understand Bitcoin’s on-chain market metrics and relevant fundamentals before launching out. Although largely experimental, on-chain metrics do make use of data generated on the Bitcoin network and use price as input. Because of this, the associated models are diverse and broad but indispensable.

Here are some on-chain market metrics you should know:

Market Price

Figure 2: Bitcoin Market Price

he market price is the current price at which Bitcoin is being sold on mainstream exchanges. It is determined by the market forces of supply and demand. A level deeper, it is the price struck when bidders and sellers interact and reach a consensus to “exchange” Bitcoin.

Realized Cap and Price

The Bitcoin “market cap,” a valuation metric, does not take into consideration certain Bitcoin volume deficiencies. The market cap nonetheless does work for the equities market, where there is a depository trust and clearing corporation tracking all security trades. The market capitalization of Bitcoin is calculated as follows:

Market cap = circulating supply * latest market price

Figure 3: Bitcoin Market Capitalization

The world of cryptocurrencies is a tad different. There are, for instance, HOLDed, lost, and unclaimed coins somewhere in the Bitcoin network. To put that into perspective, at least 15 percent of all Bitcoin mined is either lost or out of circulation.

As such, to improve on the market cap and take into account lost or unclaimed coins, the realized market cap considers actual coins in the Bitcoin ecosystem. To do this, the realized cap aggregates and sums up the value of Bitcoin the last time it moved, effectively discounting inert or lost Bitcoins. It is consequently of lower value than the pure market cap.

Figure 4: Bitcoin Realized Capitalization

On the other hand, the “realized price” approximates the average price for all circulating Bitcoin.

Average Cap

Figure 5: Average Cap

The average cap is the moving average of Bitcoin’s “market cap.” The market cap of Bitcoin is always fluctuating, reflecting changes in market price and the continuous supply brought by BTC mining. To calculate the average cap of Bitcoin, a cumulative moving average is applied to Bitcoin prices right from the genesis block. The notion of the average cap was first introduced by Renato Shirakashi and is a useful on-chain metric for calculating the true average of Bitcoin’s market cap history.

Bitcoin Days Destroyed

Figure 6: Bitcoin Day Destroyed

Bitcoin Days Destroyed (BDD) determines a coin’s demand based on the number of days it has been held. If one BTC is sold after 100 days, its transaction will result in 100 BDD.

If, upon receipt, it is moved, then the Coin Day is destroyed. Coins held for long periods therefore carry more weight. This metric helps segregate market data between the HOLDers and the short-term traders.

The metric relays to the trader the exact number of coins, as a percentage, out of the total supply are being traded at any point in time. Because of this, BDD can be used to measure the velocity of Bitcoin over time.

Even so, BDD overstates the velocity of Bitcoin because of the pseudonymous nature of on-chain transactions.

Transferred Price

The transferred price is derived from the BDD. It is calculated by multiplying the BDD by the market price and then dividing the result by the coin age and the circulating supply of BTC at the time of destruction.

The transferred price is a fair valuation used to predict a turnaround in the market. Often, it is used as a moving average of Bitcoin’s price spent.

Balanced Price

Figure 7: Balanced Price

The balanced price is calculated by subtracting the transferred price from the realized price. Used with other metrics, the balanced price is a fair value indicator, denominated in USD and useful for gauging inflection points.

Here is the formula: Balanced Price = Realized Price − Transferred Price

Cumulative Value Days Destroyed

Figure 8: Cumulative Value Days Destroyed

The CVDD is calculated in the same way as the transferred price with a slight variation: It does not use supply, an increasing variable thanks to mining, as a divisor, but rather a constant value of 6,000,000. Note that this value is arbitrary and used to calibrate the chart.

Further distilling this metric, Willy Woo, a Bitcoin analyst and researcher, has said that CVDD “has the useful property of tending to increase over time, so useful in bear cycles when we want to gauge an estimate of the (rising) bottom zone.”

Delta Cap

Figure 9: Delta Cap

The Delta Cap, designed by Puell, can be used to predict the bottoms in bear markets. It successfully caught the 2011 and 2015 bottoms of Bitcoin. It is calculated as the realized cap minus the average cap and is considered more of a “blend” indicator, relaying fundamental and technical information.

Top Cap

Figure 10: Top Cap

Willy Woo proposed this metric in partnership with Puell. Over time, it has successfully pinpointed the tips of Bitcoin’s bull markets. It is calculated as the average cap multiplied by 35. The 35, according to Woo, tends to pinpoint Bitcoin’s historical tops.

Inflow Cap

This gauge measures the capital flow into the Bitcoin market. It is the cumulative value of all Bitcoin at the time it was mined.

Fee Cap

Figure 11: Fee Cap

This metric is the cumulative amount of all fees paid in the Bitcoin network.

NVT Ratio

Figure 12: Bitcoin NVT Ratio

The network value to transactions (NVT) ratio is equivalent to the price-to-earnings ratio (P/E ratio) used in traditional markets. To simplify, this is the ratio between the market cap of Bitcoin and the daily transaction volume, or investor flow, measured in USD, transmitted through the Bitcoin network. The NVT ratio assists traders in assigning value to Bitcoin.

According to the metric’s creator, Willy Woo, “when Bitcoin’s NVT is high, it indicates that its network valuation is outstripping the value being transmitted on its payment network. This can happen when the network is in high growth and investors are valuing it as a high return investment, or when the price is in an unsustainable bubble.”

Bitcoin Difficulty Ribbon

Figure 13: Difficulty Ribbon

This ribbon is made up of simple moving averages that portray the rate of change in Bitcoin mining difficulty over time. According to Willy Woo, when they compress or flip to negative, it is the best time to buy Bitcoin. The rationale behind it is simple: Building on Vinny Lingham’s observations, the metric tracks the impact of difficulty readjustment on price, especially in bearish cycles or halving events.

Since miners have to liquidate newly mined coins to meet operational expenses, prices tend to drop during this period of supply. As Bitcoin prices fall, the weakest miners capitulate, causing the ribbons to compress. Meanwhile, miners with stronger cash flow remain in operation.

Figure 14: Ribbons Compress, Flip Negative Signaling Buyers

Since these miners can hold, relieving the market of selling pressure, prices tend to stabilize in an accumulation before rising higher. The same observation can be seen during scheduled halving events, during which block rewards are hard-coded to halve. However, the resulting scarcity shock shakes off weak miners, supporting prices as a result.

How the Xena Market Barometer Can Be Useful

Since these Bitcoin on-chain metrics are publicly available, the shrewd trader can combine these readings with Xena Exchange’s own Xena Market Barometer.

Figure 15: Xena Market Barometer

Inspired by Bloomberg analytics tools, it is an indispensable tool that takes into account the general mood of the market, incorporating interactive charts and simultaneously drawing real-time data from the Huobi, Coinbase, Bitstamp, and Bitfinex exchanges as well as from blockchains and media.

The Xena Market Barometer is special in the sense that it is a true technical analysis tool, visualizing the real-time volume upswings, bid and ask movements, and large volume order emergence from eight proprietary charts found only on Xena Exchange. With the intuitive and easy-to-use Xena Market Barometer, savvy traders can determine the mood of the market and combine the derived signal with the status of Bitcoin on-chain metrics before making a sound decision in a timely manner.

To Sum Up

Although experimental, these on-chain valuation metrics can be useful when analyzing market cycles. However, just like other indicators, they cannot be relied on for predicting future prices. Even so, combining these readings with data from the Xena Market Barometer can significantly increase the signal accuracy, therefore better informing trading decisions. Learn more about these Bitcoin on-chain metrics here.