How to Analyze Cryptocurrency: The Basics

Investing in cryptocurrency can be a great way to diversify investments, but figuring out which cryptocurrency is suitable and which is not can be a challenge. In order to make an informed investment decision, it is important to know how to analyze cryptocurrencies.

1. Review the White Paper

Most crypto projects provide a white paper, which helps define the goals and technical details about the blockchain and its cryptocurrency’s role. True white papers contain terms and language data that scientists, programmers and developers understand. For example, Solana has a white paper that describes how the blockchain will work and what the token is used for.

Cybertruck’s white paper, on the other hand, isn’t—it’s a flashy website that talks about the potential to build a community. A disclaimer at the bottom of the webpage reads: “$CYBERTRUCK is a meme coin with no intrinsic value or expectation of financial return. There is no formal team or roadmap. The coin is completely useless.”

A cryptocurrency with utility or a reason to exist must have a white paper that clearly defines the project’s goals, how it will achieve them, and how the cryptocurrency will function. Legal white papers define a problem to be solved with the blockchain and token, and this problem and solution must be crystal clear to investors.

2. Research the team

Cryptocurrencies are typically created by a team of founders and software developers who help create the solution to a problem. To better understand how a project can perform, you should examine the professional experience of the project team.

This may include reviewing LinkedIn profiles to learn more about the professional background of any of the technical or leadership staff and the previous projects the team members have launched. The “About” page on any cryptocurrency’s website should also clearly articulate who is helping to build the project and what their expertise entails.

A red flag would be a team of anonymous founders or developers who do not publicly disclose their identity, or an inexperienced team that has not built or scaled any projects in the past.

3. Learn about the leadership

Crypto projects with the potential to make a difference have a clearly defined executive team that handles execution, finance and marketing. Learning more about who leads a cryptocurrency team can provide insight into the likelihood of success for a project.

Here are some questions to ask when investigating a crypto project’s leadership:

Do they have a history of successful leadership positions? Are they trusted/known leaders? Do they have a history in the crypto industry? Is it good or bad? Is it public or anonymous?

While some projects with anonymous founders have achieved success, like Bitcoin, there are others with bad intentions. The cryptocurrency is probably not legitimate if the project’s leadership is sketchy or if it avoids important topics.

4. Get to know the community

Most cryptocurrencies are community-driven projects that typically require a strong, supportive community to grow. Learning more about a cryptocurrency’s community can help you determine if a project will succeed or if it’s pure hype and speculation.

Joining the community’s Discord or Telegram channel can help you learn more about it, as well as get your questions answered about the project itself. If a large community base is well organized and promotes the project regularly, this can be a sign that a cryptocurrency has the potential to grow. Communities should discuss issues with the blockchain and improvements that can be made or have other similar discussions – in addition to the regular conversations that can occur between people with similar interests. If all you find is hype and pump, it’s a good bet that the cryptocurrency project is not legitimate.

5. Understand the Technology

Cryptocurrencies are a new concept built on distributed systems that have been around for decades. The original intention behind them was to remove human involvement (and therefore corruption, errors and third-party profits) from financial systems. If you can gain even a partial understanding of how blockchains work and can be used to solve problems, you will have an upper hand in deciding whether a cryptocurrency is worth investing in.

However, you don’t need to know how to program or maintain a blockchain – but to learn what a token is, what the blockchain does, how it is maintained, what is stored on a blockchain and how users interact with the blockchain is essential for prospective investors. Otherwise, you are just speculating on prices and hoping the coin becomes popular.

6. Understand the Vision

Cryptocurrencies must have a clear vision of their goals, with a roadmap that estimates how they will get there. This should be readily available in the white paper and on its website. The vision of a crypto project should give enough detail so that you can understand what problems it solves and the potential user base.

For example, if a website has statements like “cryptocurrency is the future” but doesn’t define or articulate a clear vision for how the cryptocurrency solves a specific user problem, that’s a red flag.

7. Review the Roadmap

The roadmap for a cryptocurrency project is a timeline of events that shows the expected progress. Typically shown on a line graph, the roadmap should have clear and concise milestones broken down on a quarterly basis, all of which move the project toward a predetermined set of goals.

The roadmap may be available in the white paper, although most crypto project timelines are constantly changing and listed on a website. If there’s no defined roadmap, or if the milestones are too generic (or based on money raised or earned), that’s a red flag.

8. Learn the Tokenomics

The term “tokenomics” refers to the distribution, circulation and total supply of a given cryptocurrency. This is important, as it affects the overall price of a cryptocurrency over time. Similar to shares in a publicly traded company, the price of a given cryptocurrency reflects supply and demand. The more shares there are, the more demand there must be to raise the price.

Here are three important data points to review before investing in any cryptocurrency:

Circulating supply: The cryptocurrency currently in the market Total supply: The total amount of cryptocurrency issued, including those removed from circulation Maximum supply: The maximum amount of tokens that will ever be issued

All three of these metrics can greatly affect the price of a given cryptocurrency, so understanding supply is essential for cryptocurrency investors.

Some cryptocurrency projects use unequal token distribution methods to try to influence prices. Reviewing the token unlock schedule can help you understand how the tokens will be distributed and to whom they will go. Projects that give the founders a large share of tokens at release should be viewed with a skeptic’s glasses.

9. Review the data

Cryptocurrency prices are known to swing wildly up and down. One reason for these wild swings is that investors don’t want to be left out of the next big price jump, nor do they want to hold a cryptocurrency that has dropped significantly in price (unless they are very bullish on it).

Users also influence prices and pay for cryptocurrency at the current market rate, but this activity is much less significant than investing and trading.

Cryptocurrency prices also react, sometimes explosively, to news and events due to investor anticipation. For example, Bitcoin halvings are believed by many investors to be events that increase its price because there is a reduction in the rate at which new coins are introduced. However, what really causes the price changes is demand because investors associate the event with a price jump—so they start buying more, driving the price up.

The price of the cryptocurrency you are reviewing should follow the same trends that other cryptocurrencies have, because traders and investors will generally treat them the same as they do other investments. Prices that seem out of place should raise an eyebrow.

The Bottom Line

A cryptocurrency analysis involves examining all the available information about a digital asset. Understanding and researching the subject helps you determine why it is priced the way it is and whether it is worth investing in.

The comments, opinions and analyzes expressed on Investopedia are for informational purposes only. Read our warranty and liability disclaimer for more information. As of the date this article was written, the author does not own cryptocurrency.