The word “DeFi” has become a thing of attention in the finance world. Not only has it changed the perception of finance, it has also become a forefront in providing alternatives to the traditional finance system. The financial landscape is experiencing new innovations as a result of the introduction of DeFi. Products and services are now being rebranded through decentralization.

“DeFi” was coined from two words. “Decentralization” and “Finance.” Which means that individuals can now carry out financial services in a decentralized way. That is, without the need for a centralized system. Typically, DeFi is an introduction to the world of finance without an intermediary like a bank or the traditional financial institutions.

With just an internet connection, people now have the ability to access any innovative financial products and services such as, trading, borrowing, staking or even lending. However, it is important to note that to be able to participate in this innovation, there is a need to understand that the financial market is infiltrated with numerous DeFi projects. Some of which lacks authenticity. And in order to effectively utilize an investment, an investor must possess the crucial skill of analyzing DeFi project.

What Is DeFi? (Decentralized-Finance)

To be able to analyze a project, it is essential to understand what the project itself means. DeFi, unlike other traditional financial system, is a set of financial services and applications built on blockchain technology that aim to recreate and at the same time, enhance traditional financial systems by eliminating the need for central authorities.

What makes DeFi different is that, there is no need for any intermediary in accessing financial services. It uses an open, trustless, and permissionless system to offer its services. And some of its key features include decentralized exchanges (DEX), lending and borrowing protocols, yield farming and varieties of financial instruments executed through smart contracts.

DeFi operates on an open and permissionless system. This allows for anyone to have access and interact with these platforms. It also means that users have greater autonomy and control over their financial transactions without needing permission from banks or other traditional financial institution. However, new entrants or existing entrants needs to approach DeFi projects with a lot of caution and skepticism.

Why The Need to Analyze?

Analyzing DeFi project is essential due to the characteristics and risks associated with this rapidly evolving sector. DeFi project often involve a lot of risks such as potential rug pulls, hacks and the loss of a portion or all of the investor’s capital. Hence, the ability to thoroughly assess the project fundamentals, team, technology and security measure allows an investor to make informed decisions and possibly avoid potential scams or poorly executed projects.

Analyzing DeFi projects is crucial for investors and users to assess a project’s viability, security and potential returns. Performing due diligence helps to identify risks, evaluate the project technology, and understand the governance mechanism in order to make informed decision in the DeFi space.

How To Analyze DeFi Projects

A new project has caught your attention, whether due to hype or social media recommendation from a trusted party. Hence, how do you analyze it to gauge the viability of such project?

There are various ways of analyzing a DeFi project to gain valuable insights into its potentials. The following are metrics an investor should consider when analyzing a DeFi project:

The Project Website

The project website is a great place to start your analysis. The project website would tell a lot about the project itself. A website with spelling mistakes, bad grammar, or awkward formatting would signal something fishy. The website appearance act as a good first litmus test for a project but it also contains useful resources like the project whitepaper which gives an in-depth explanation into the project use cases.

The whitepaper also explains the technology behind the project and tells potential investors how the token came to be including its purpose. It is a roadmap to understanding the project and what it stands to achieve overtime. The whitepaper provides information about the tokenomics of the token which would further explain metrics like the maximum supply of the token, the allocation, distribution, vesting information and so on.

Analyzing The Project Team

It is important to research about the project team as they are the ones responsible for making things happen with the project. They are the determinant factor of the success or failure of a project. Information about the project team can be found when examining the project website, white paper, or social media platforms.

Find out more information about them outside the website. This process would help you learn more about them including their past experiences and their current capacity to carry on with the new project. If they do have experience in the space and they have worked on other projects, try to find out how the projects are doing. Were the projects successful or were they abandoned?

Evaluating The Projects Partners

When analyzing a project, it is essential to check for partnerships. Associations with reputable institutions are usually a regular sign of a reliable project. Partnerships are usually displayed on the project social media website and announced on other social platforms

The Project Tokenomics

As highlighted above, a project tokenomics refer to the project token economy and incentives it offers. To analyze, the investor first has to understand the purpose of the token and check if there are other tokens already fulfilling this purpose. In examining the project tokenomics, the investor would consider factors such as the maximum supply of the token, the allocation, distribution, and vesting information.

These factors would help the investor to know how much of the token is in circulation, the total value of the tokens locked, how the tokens are allocated, the method of distributing the token among its holders as well as how vested the tokens are.

In evaluating the tokenomics, an investor also needs to consider the token issuance mechanism. These can include mining, staking and other methods used to create and distribute tokens. Through this, the investor would be able to determine whether the token is inflationary or deflationary, its scarcity and incentives it provides to its users. The investor must also evaluate the project source of revenue, how it is generated and sustained.

The DeFi Project Technology

One of the key aspects to consider in analyzing a DeFi project is the blockchain platform on which the project is built. One of the most popular platforms is the Ethereum network, it offers a robust and established infrastructure for DeFi applications. An investor looking to acquire DeFi tokens should evaluate the advantages and disadvantages of the underlying blockchain to make an informed decision.

The Project Community

The strength of a project depends heavily on its community. Engaging with the project community would give the investor valuable insights into the project’s adoption, viability and future prospects. It would also help to check for active participation and interaction among community members with the project

The investor must also perform due diligence on the project social media platform (Twitter, telegram, YouTube, WeChat, Reddit, Kakao, and Medium). Take note of the number of followers or members. In a more interactive channel like telegram and discord, are the moderators’ answering questions or are members getting ignored? These are questions an investor should answer before plunging into a project.

Listing

In analyzing a project, checking for exchanges on which the project is listed is an aspect that cannot be overlooked. The investor should check if the token is available on reputable exchanges. This is essential because prominent exchanges usually require more stringent measures for listing in order to protect their customers or reputation. Additionally, check if the token is supported on popular hardware wallets. As this provides for safekeeping and security in the long-term.

Market Capitalization

The market capitalization shows how much funds have been invested into the project. It calculates the total value of DeFi protocol’s circulating supply of tokens. It is calculated by multiplying the price of the token with the total token in circularization. The market capitalization is used to compare the overall value of the token in the market and it is a good way to relatively measure the token size. However, it is notable to state that it does not provide a holistic view of the project.

Inflation Rate

This is another important metrics to check when analyzing a DeFi project. The inflation rate refers to the rate at which new tokens are created within a DeFi protocol. A high inflation rate is unhealthy to a project life. It can dilute the value of existing token overtime and reduce its purchasing power. A low inflation rate however, is perceived in a more positive light. It indicates that the supply of the token is controlled which can potentially lead to a higher value overtime.

24-hours Volume

This is a measure of the total value of a specific token traded across all exchanges over a 24-hours timeframe. It is a metric that is used to gauge the liquidity and trading activity of a token. A 24-hours trading volume is a method that the investor can use to know how well a token is active in the market. It can be either high or low. A high volume indicates that there is increased market interest, liquidity and potential price movements. A low 24-hours trading volume indicates that the token has less market participation. That is, lesser people are buying and selling it. Hence, there is low liquidity and less market interest. It is an important tool an investor use to see how often an asset is changing hands.

Total Value Locked (TVL)

This is a common metric used to measure the total amount of token locked into a DeFi protocol. It represents the value of assets that users have deposited into the protocol. TVL is an important metric that can be used to provide insights into the adoption and popularity of a DeFi protocol. When there is a high value of token locked, it indicates that users have trust and confidence in that project and the project has a high chance of being successful.

Price-to-sales ratio

This is a financial metrics that compares a project market capitalization to its total revenue. It is calculated by dividing the market capitalization by the total revenue generated by the token over a specific period. It is a crucial metric that can determine the value of a protocol. It checks whether a protocol is overvalued or undervalued. The higher the ratio, the more overvalued the protocol may be, and the lower the ratio, the more undervalued it may be.

Liquidity

The liquidity metric plays a crucial role in analyzing a DeFi project. It is specifically used to gain insights into the ease with which asset can be bought or sold in the market. The liquidity metric does not only mean fewer fluctuations in the price of an asset but it aids in the development of an exit strategy. Hence, making it easier to sell a token or coins. In analyzing the liquidity, the investor should check if the liquidity of the tokens or coins is locked, and for how long. This is essential to protect the investor from rug pulls. And it could help provide confidence to the investors that the token developers would not run away with the token money.

Unique Address Count

This metric measures the number of participants in a DeFi protocol. It is used to gauge user adoption and activity. A higher address count signifies that the project has a broader user base and increased engagement and vice versa. Monitoring the unique address count of a project would provide the investor with insights into the project’s popularity and network effects. However, it is essential to consider the quality of users’ activity and whether the addresses represent real users or are influenced by factors such as bots. An investor should consider this metric alongside other metrics as it is always prone to manipulation.

Conclusion

The word, DYOR is a popular term in the crypto space. Do-your-own-research is an indication that whatever you do in the crypto industry is up to you. The quality of your output heavily lies on the quality of your research. And in order for you not be swayed by cunningly devised project, the metrics stated above is essential to your success in the crypto space. DeFi projects would not stop coming on, and to guarantee a return on investment, you must take analysis more seriously. The ability to critically analyze a DeFi project would give you an edge in the space.

The more informed you are, the higher the chances of success.