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How does a cryptocurrency gain value?

How does a cryptocurrency gain value?
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Wondering which cryptocurrency will be the next to blow up? 

In this guide, we’ll discuss how cryptocurrencies gain value and walk through a few strategies you can use to make price predictions. 

What is cryptocurrency? 

Cryptocurrency is a decentralized, encrypted unit of exchange. 

Unlike fiat currencies like the U.S. dollar, many cryptocurrencies are not controlled by a centralized authority. Instead, cryptocurrency transactions of popular coins (e.g. BTC, ETH) are publicly visible on a decentralized ledger known as a ‘blockchain’. 

That means that cryptocurrencies allow people to build wealth and make peer-to-peer transactions without the need for traditional banks and payment systems. 

Bitcoin, the world’s first cryptocurrency, was released in 2009. As of March 2023, the total market capitalization of all cryptocurrencies exceeds $1 trillion. 

How do you know which cryptocurrency will go up? 

There’s no way to know for sure which cryptocurrencies will go up in value. However, we can use the laws of supply and demand to better understand how the price of cryptocurrency will change in the future. 

Demand: The higher the demand for a cryptocurrency, the higher its price will be. For example, a cryptocurrency could unveil a new utility that draws new users into the platform — which in turn leads to the value of the cryptocurrency going up. 

Supply: The more units of a cryptocurrency there are, the less valuable each individual unit is. For example, if a large amount of cryptocurrency becomes available to the public, it’s likely that the price of that cryptocurrency will drop. 

We’ll explore how supply and demand affect the price of cryptocurrency in more detail in the next two sections. 

How does supply and demand impact the price of cryptocurrencies? 

According to economic theory, the price of an asset is an intersection of supply and demand. 

Supply and demand vs price and quantity

When demand grows faster than supply, the price of cryptocurrency rises. 

When supply grows faster than demand, the price of cryptocurrency falls. 

7 ways to make predictions about whether a cryptocurrency will gain value 

Now that we’ve covered the basics of how cryptocurrencies are priced, let’s walk through some factors that can help you better understand whether your cryptocurrency will gain value. 

1. Utility 

When cryptocurrencies have ‘utility’, they allow users to perform specific actions. This can increase the demand of a specific cryptocurrency. 

For example, Ethereum has utility because it gives users access to some of the world’s most popular decentralized applications and NFTs. 

2. Market sentiment 

Demand for cryptocurrencies is partially determined by general market sentiment — the overall attitude of investors towards cryptocurrency. A rise in market sentiment could lead to a rise in prices. 

For example, Bitcoin hit an all-time high on the same day that Coinbase became a publicly-traded stock. The Coinbase IPO was perceived as a big step forward for the cryptocurrency industry — which meant investors felt more comfortable investing in Bitcoin and other digital assets. 

3. Competition 

Just like physical products and services, the price of cryptocurrencies are impacted by competition. A tough competitor can reduce demand for a cryptocurrency, as users may turn to alternatives. 

For example, before the Ethereum Merge, competitors to the Ethereum blockchain attracted users by highlighting the ability to use decentralized applications and trade NFTs with lower fees and faster transaction speeds. 

4. Governance 

Governance is a system for implementing changes into a blockchain. Reliable governance processes can have a big impact on price. 

For an example of how governance can impact price, we can take a look at the 2016 DAO hack. At the time, the protocol held 14% of all Ether in circulation. In response, ETH holders voted to create a new fork of the blockchain which rolled back the history of the blockchain before the hack. 

While the DAO hack could have been a catastrophic event for Ethereum, the blockchain continued to attract new users in the succeeding years. It’s likely that this governance decision helped build trust with users.

5. Tokenomics 

To better understand how the price of your cryptocurrency may change in the future, it’s important to pay attention to ‘tokenomics’. This refers to the cryptocurrency project’s monetary policy — in other words, how the project ‘manages’ supply and demand. 

Different projects have different approaches to tokenomics. For example, BTC has a hard cap of 21 million coins, while Ethereum ‘burns’ a percentage of transaction fees. 

Other projects have a ‘vesting schedule’ for cryptocurrency — for example, early investors may not be able to sell their holdings until after a year. 

6. Liquidity 

A cryptocurrency’s liquidity refers to the efficiency or ease with which a token can be converted into cash without affecting its market price.  Liquidity can have a big impact on how your cryptocurrency is valued. 

The more liquid a cryptocurrency is, the easier and more efficient it is to be able to sell the coin at its current market price. 

When a cryptocurrency has low liquidity, you may not be able to sell all or a portion of your tokens without moving the market price of the coin lower, as there may not be enough demand to absorb/buy the tokens.

In cases such as the fall of FTX, the underlying FTT token was highly illiquid. Therefore, when holders of the token all wanted to sell at the same time, the price crashed.

7. Technical Analysis 

Some investors use technical analysis to make short-term price predictions on a cryptocurrency. Technical analysis involves studying charts and market data to identify price trends. 

Of course, technical analysis comes with limitations. Some critics emphasize that past trends are not necessarily a reliable indicator of future performance. 

For more information, check out our guide to the best charting tools for cryptocurrency traders

How does cryptocurrency make money? 

It’s important to note that many cryptocurrencies are decentralized — meaning that there isn’t a centralized organization controlling the blockchain and collecting profits. 

Early investors in a cryptocurrency can make profits as the price of the cryptocurrency increases as a result of supply and demand. 

In addition, cryptocurrency miners and stakers can make money by validating transactions and earning a percentage of transaction fees. 

Frequently asked questions

What backs up cryptocurrency? 

Cryptocurrencies are not backed up by physical assets. The value of an individual cryptocurrency is based on supply and demand. 

How much will I get if I put $1 in Bitcoin? 

It’s difficult to tell how supply and demand might impact Bitcoin’s price in the future. However, it’s unlikely that putting $1 on Bitcoin will lead to a large return due to the size of the initial investment. 

How does cryptocurrency lose value? 

A cryptocurrency can lose value when the supply of the cryptocurrency outpaces demand for that cryptocurrency. 

What causes cryptocurrency to fail? 

Cryptocurrencies often lose significant value due to factors such as flawed tokenomics, high competition, and lack of trust. 

Frequently asked questions

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