Over the past few days, Bitcoin and many other cryptocurrencies have shown growth. The market, despite a clear bearish trend, began to restore its previous positions. It is difficult to predict how events will unfold and what the cost of digital coins will be in the future, but analysts are trying to do this based on the traditional economy and offer new methods for evaluating crypto assets and their behavior. Earlier, DeCenter published mathematical formulas for cryptocurrency price analysis. We present one more way of evaluating the cost of Bitcoin and altcoins using the NVT indicator, which will signal the formation of a bubble (if any).

Original NVT

The idea of creating the NVT indicator belongs to a crypto enthusiast Willy Woo. In February 2017, the researcher published an article in which it was said that Bitcoin "is not a bubble.” This conclusion was made on the basis of a new analysis of the crypto industry using adapted indicators from the traditional economy.

"I tweeted a chart that presented the idea of a PE ratio for Bitcoin, something I temporarily called MTV Ratio before my buddy Chris Burniske suggested the less confusing term of NVT Ratio (Network Value to Transactions Ratio)," says Woo. Apparently, that blockchain analyst and the author of the book "Cryptoassets: The Innovative Investor's Guide to Bitcoin," as well as the head of ARK investment products Chris Burniske, also worked on the idea of the indicator.

NVT (Network Value to Transactions Ratio) is an indicator that helps determine the objective price of a cryptocurrency and check whether it is relevant as a medium of exchange, rather than just a speculative investment instrument. Analysis using this indicator allows you to show fair value and predict bubbles the moment when the rate of the crypto is kept at an excessively high level and demonstrates high growth over time.

The NVT, as noted by its creator Willy Woo, is similar to the PE financial indicator from the investment economy, or PER (Price Earnings index, or "multiples of profit" ratio), where P is the price and E is earnings. He defines the attractiveness of joint stock companies, where small values ​​of the coefficient signal about the undervaluation of the firm, and high ones about their overvaluation.

To calculate the equal to the ratio of the market value of the stock to the annual profit received per share with the PE indicator, you need to use the formula:

EPS—(Earning per share)

In the case of the NVT indicator, a similar formula is used with some modified indicators adjusted to the dynamics of cryptocurrencies, which are not traditional securities and do not have the E earnings index. Therefore, instead of EPS, NV (Network Value) is used as the value of the network, or the value of its transactions that are made in the block, and this indicator is expressed in U.S. dollars.

To find the NVT, it is necessary to divide the market capitalization of cryptocurrency by the volume of transactions.
The graphic shows the NVT indicator for Bitcoin for the entire period of existence. The yellow curve is the capitalization of technical military cooperation, the gray curve is the calculated coefficient of NVT, and the brown curve is the smoothed NVT indicator. The dotted lines are the normal NVT level. Left of the line are indicators of the daily value of transactions, and to the right is the value of the network. Source.

And Where Is the Bubble?

In his analytical article, Willy Woo gives an analysis of the first major Bitcoin “bubbles” in 2011 and 2014, when the rate of the first cryptocurrency increased and reached high marks, stayed there for a long time, and then went into a reverse trend and made a correction of 92 percent and 83 percent respectively. The NVT indicator during the fall of the rate signaled the overbought state of Bitcoin, going beyond the normal value range.

Two large Bitcoin bubbles and their corrections. Source.

As can be seen from the graph above, in 2013, there was no re-valuation of Bitcoin, even though the original rate was $258, which then fell sharply to $45 and quickly recovered to almost the original mark. Therefore, the cost remained fair, says Willy Woo.

"Did you think that correction of 83 percent can be called a bubble? No! After all, the network value was high enough to keep the NVT ratio within the normal range. The failure was very short, so the long-range chart showed similarity with the consolidation, which quickly ended. This is the case when the NVT ratio, had it existed then, would tell the markets that the network is underestimated at the peak of market fear," says Woo.

The brown NVT curve says that in 2013, there was a consolidation in the market. Source.

At the moment, the prices of Bitcoin, Ether, and Litecoin are within an acceptable range, which corresponds to the demand and supply, as the coins can be considered not only a means of speculation but also a means of exchange. That is, the NVT indicator is located in the normal NVT range, which eliminates the formation of bubbles.

The NVT level for BTC, LTC, and ETH. Source.
The table of the last daily NVT values. The name of the coins is presented in the first column, in the second column is the NVT (this and subsequent indicators are taken, on average, over 30 days), in the third is the Network Value, and in the fourth are onchain transactions. Source.

NVT from Kalichkin

After the appearance of the NVT indicator, many researchers from technical groups who study cryptocurrency behavior began to disassemble the proposed model in detail and found shortcomings of the system. Chief analyst of Cryptolab Capital Dmitry Kalichkin in February of 2018, presented a material that referred to a reinterpretation of the indicator with an analysis of all the indices of the formula.

"The Daily Transaction Volume in NVT takes into account only online transactions. All trading activities that take place on exchanges are mostly speculative and are not included in this indicator," Kalichkin said.

In addition, the scheme that shows the bursting of cryptocurrency bubbles (the first chart, which is presented above in the section "And Where Is the Bubble?") and the relationship with the NVT indicator showed a sharp depreciation after some time, when the market reversal had already taken place.

"The surge in NVT follows the bubble with a significant lag of several months. The peak of the indicator coincides with the middle of the correction period. The indicator is neither predictive (it does not precede re-valuation) nor descriptive (it does not coincide with it). You can detect the bubble only a few months after its bursting," says Kalichkin.

The team of researchers from Cryptolab Capital considers the conceptual value of NVT, where the volume of transactions is used as a proxy server for fundamental network utility. Analysts agreed that when viewing large transaction data there is a lot of noise, so it needs to be smoothed using a 28-day moving average (MA).

"But why 28 days, not 10, 30, 90, or 180? The average 28-day value may not be sufficient for a truly fundamental metric. Why 14 days back and forth? If we are trying to develop a predictive, or at least descriptive, indicator, we should not rely on future data. Do we need to smooth out both parameters, meaning the ratio as a whole, or just the denominator?" asks Kalichkin. On the basis of his research, he proposes the optimal solution, in his opinion, which is dividing the value of the network by 90 days with the following formula:

NVT with a period of 90 days.

Enhanced NVT

The value of the network measured by market capitalization replaces the price and daily volume of transactions, as well as profit, as the indicator provides us with data on how much of the value of an asset is actually useful. In fact, this indicator measures the value of usefulness at present. According to researcher and partner of Ledger Capital Vikram Arun, however, the proposed "beautiful" model from Dmitry Kalichkin has some minor points that need to be corrected. First, change the moving average from simple to exponential.

"The simple sliding models are not as sensitive to short-term movements over a long period of time (for example, over 90 days) as their exponential counterparts. The simple exponential moving average used in the Kalichkin NVT denominator can be calculated using the following formula, where VT is the daily volume of the transaction, and n is the time interval," says Arun.

Calculation of the EMA.

With this approach, all the historical values ​​that affect the volatility of the cryptocurrency, when smoothing the current value, are of equal importance. For a rapidly-developing cryptocurrency market, it is necessary to work on the time interval n to avoid delays, which will give an accurate idea of ​​the fundamental, intrinsic value when using a long sliding one.

The final transformed model for calculating the NVT with the most optimal step of 90 days, in Arun's opinion.
Comparison of NVT methods. "It is evident that the EMA (Exponential Moving Average) of the NVT is less than the graph from Kalichkin (which indicates a more attractive investment) until the price begins to fall. At this stage, the exponential metric is realized and quickly becomes larger than in the NVT of Kalichkin, correctly indicating that Bitcoin is becoming more overpriced. It seems that the EMA of NVT is similar to the NVT of Kalichkin in all respects, except that it is more susceptible to short-term changes, which makes it a better functioning trading indicator," Arun explains in his article.

The second step after the moving average changes, analyst Vikram Arun believes, it is necessary to use on-chain volumes of nodes without long transactions. Therefore, sometimes it is difficult to find genuine results because most of the coins just make exchange circles and transfer from one wallet to another. To solve this problem, there are metrics that delete all values ​​and online transactions exceeding 100. Often, but not always, they are related to the mixing of coins, as more experienced market players try to manipulate the volume of transactions. Therefore, Arun proposes to introduce a new value for determining the network value for the growth of transactions NVTG (Network Value Transactions to Growth).

The NVT Has Many Advantages, but Do Not Forget about Additional Analytics

Many novice traders, in a rush of euphoria from the ease of application, start using the price determination indicator without additional analysis. This leads to losses and disappointment in the mathematical and economic system of calculations of Bitcoin and other currencies, says crypto enthusiast Qiao Wang.

"Any individual signal will not give you a huge advantage over the market. If you are not an algorithmic trader who relies on the rule of large volumes and makes a living, do not expect the NVT to make you rich," Wang warns.