Crypto Investing
7 Feb 2022

Understanding Market Sentiment: How Crypto On-Chain Analysis Helps

Deepan Datta

Understanding and sensing the direction of market sentiment is the key to success in crypto trading and investing. Being able to do so helps you make profitable trades while limiting trade and investment losses.

Various online tools and techniques can help you measure market sentiment, including analyzing the crypto fear and greed index, hourly and daily price charts of top cryptocurrencies, the high-low index, and so on. Analyzing the on-chain data will give you an in-depth understanding of the market sentiment and help make more informed trading decisions.

In this blog, we will be discussing five key on-chain indicators that all crypto traders and investors should know and track. So, let’s get started.

Key Takeaways

  • On-chain analysis helps to analyze crypto transactions that happen on the blockchain and is used to fundamentally analyze the crypto asset.
  • It helps to separate the speculative and utility value of the tokens.
  • It accurately showcases the overall crypto market sentiment in real-time, which helps you in placing trades.
  • It lets you know the rate of mainstream adoption of the crypto asset.

What is Crypto On-Chain Analysis?

A crypto’s price comprises two elements: utility value and speculative value. On-chain analysis helps separate speculative value from utility value and gives investors an accurate picture of whether the current price is justified or not.

In other words, on-chain analysis is an in-depth analysis of the coin’s blockchain data and is a more fundamentals-driven approach. It involves gaining insights into the coin’s network activity, exchange inflows and outflows, value transfer across blockchains, liquidity, HODLing percentage, and so on, through any publicly available blockchain data.

Five Key On-Chain Indicators for Crypto Traders

Network Value to Transaction (NVT) Ratio

NVT ratio is one of the first and most widely used on-chain metrics that help determine the crypto asset’s actual utility value. Many compare the NVT metric to the price-to-earnings ratio in the crypto market.

NVT Ratio= Market Cap/Transactional Volume in USD

If the NVT ratio is too high, it implies the network is overvalued at its current state compared to its ability to process transactions in volume. There could be chances of a near-term correction in the crypto’s price to adjust itself to the utility value.

Therefore, a high NVT ratio means overvalued network worth, hence bearish market prices. In contrast, a low ratio indicates a coin’s market cap is undervalued compared to the network’s high ability to process transactions.

On chain indicator
source: blockchain.com

The chart above showcases Bitcoin’s NVT ratio, which is close to 5, which indicates that currently the Bitcoin network is valued at five times its utility value.

Market Value to Realized Value (MVRV) Ratio

The MVRV ratio is the crypto asset’s market capitalization versus its realized capitalization. It helps to know whether the crypto asset’s price is below or above its fair value and assess market profitability.

Extreme deviations in market capitalization and realized capitalization help identify market tops and bottom.

Realized Capitalization refers to the cost basis of the supply or value stored in the asset. 

For instance, high MVRV in an uptrend indicates the coin’s supply is increasing as compared to the realized value, and there is a higher share of unrealized gains in the market, which increases the chances of distribution of holding to lock-in gains. An MVRV ratio of more than 3.5 indicates a late-stage bull cycle.

On the other hand, low MVRV in a downtrend indicates the coin’s supply is decreasing compared to the realized value. It also shows poor demand dynamics of the coin and a smaller degree of unrealized profit in the market. An MVRV ratio of less than 1 indicates a late-stage bear cycle, and positions are held at losses.

crypto on chain indicator
Source: blockchain.com

The above chart showcases Bitcoin’s MVRV ratio, which is currently at 1.5, indicates less unrealized profits in the market, and suggests that it is at the late-stage bear cycle.

Number of Active Addresses

The number of active addresses is an important on-chain metric that showcases the demand or usage of a blockchain network. Active address count measures on-chain transactions, value settlement, and urgency to be included in the upcoming block.

For example, a fall in active address count signifies less demand for blockchain-based transactions, coinciding with the bear market cycle. People tend to avoid transacting in cryptos during a bearish market cycle due to fear of value erosion.

on chain analysis
Source: glassnode.com

The chart above showcases a fall in the number of active Bitcoin addresses over one year, which also coincides with its falling price.

You can also look at the number of transactions on the blockchain, which acts as a kind of proxy for the number of active addresses.

BTC Inflows to Exchanges

The exchange inflow metric helps us assess trade intensity in the market, as it is directly related to the demand and supply side of any cryptos.

If the supply of any particular coin into exchanges is failing to keep up with the demand, or outweighing sellers, it is a sign of strength in the market. On the other hand, with a rise in inflows to exchanges, there is less investor appetite in the market, and prices may fall in the near term. 

on chain crypto indicator
Source: https://markets.chainalysis.com/

The above chart showcases the BTC inflows to exchanges. The inflow and outflow of BTC to exchanges directly impact the price of Bitcoin in the market. It helps gauge the market sentiment easily. For instance, if the BTC inflow exceeds the 90 days and 180-day average inflow to exchange, it indicates a bearish market sentiment in the short to medium term.

Liquid and Illiquid Supply

This is an important metric to gauge the HODLing sentiment among investors for a particular coin, and is also an important metric to understand the market sentiment.

If a coin is held for more than 52 weeks (i.e., one year) in a wallet, then it is classified as ‘illiquid supply’. Whereas, coins with an average holding period of 2–52 weeks and 0–2 weeks are classified as liquid and highly liquid supply respectively.

A higher illiquid supply of a well-decentralized coin in the market indicates good long-term prospects for the cryptocurrency.

on chain analysis
Source: https://markets.chainalysis.com/

In the chart above, you can see that over 15 million BTC are illiquid, which means that more than 80% of the supply is locked in wallets for over 52 weeks. Thus, when demand for BTC grows, due to scarce supply, the price skyrockets.

Wrapping Up

As the crypto market grows, traditional ways of analyzing market sentiment may not work and can give large deviations in findings. Therefore, you need to go an extra step by analyzing some of the key on-chain indicators discussed in this article.

You can also find many other on-chain indicators on different chain analysis platforms, which may be used to gain more insights into the current market state. Some popular chain analysis platforms include Glassnode, theblockcrypto.com, cryptoquant.com, and chainanalysis.com.

Analyzing crypto on-chain indicators will give you an edge over other investors, and analyzing the metrics will provide you with actionable insights for long-term investing.

Download the CoinSwitch Kuber App and explore the world of crypto assets starting at ₹100.

Disclaimer : Crypto products and NFTs are unregulated and can be highly risky. There may be no regulatory recourse for any loss from such transactions. The information provided in this post is not to be considered as investment/financial advice from CoinSwitch. Any action taken upon the information shall be at user's own risk.

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Deepan Datta

Content Writer

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