From the perspective of the "nation": Traditional valuation logic does not apply to public chains
Compared to how much GAS is captured by public chains, the "GDP" of it as an independent economy is the key indicator.Author: @RealNatashaChe
Translator & Editor: Mint Ventures Xu Xiaopeng
Core Insights Overview
Editor's Note: Valuing public chains has always been a challenge. This article proposes viewing public chains from a national perspective and estimating the value of public chain tokens using a monetary equation. The core insights are as follows:
Valuation logic such as PE and PS multiples is not applicable to public chain projects.
Cash flow discount valuation models are also not suitable for valuing public chain tokens.
Why public chains should be observed and valued from the perspective of a "nation."
The key indicator is not how much GAS a public chain captures, but rather its "GDP" as an independent economic entity, which can be measured through some key data.
The views in this article are somewhat enlightening, but the author made several errors during the derivation process. The editor has made corrections based on their understanding and attached them in the text.
See the main text for details.
Main Text Begins
Many people attempt to value L1 public chains using stock valuation models, which is quite absurd.
We should price Ethereum, Solana, and other public chains from the perspective of a "nation," rather than treating them as "companies." Next, I will discuss how to do this.
The first common erroneous valuation method for L1 public chain tokens is: earnings multiples.
Editor's Note: Earnings multiples refer to the ratio of a company's market value to its net profit (earnings) or revenue, represented as the market value to net profit ratio (P/E) or market value to sales revenue ratio (P/S). Earnings multiples seem simple, but they are rich in meaning. For example, the P/E ratio can be understood as how many years of profit accumulation it would take to recoup the price paid if you bought the company at its current market value, i.e., the payback speed (of course, the actual situation is not that simple). The P/E and P/S metrics can also be used to assess the relative valuation of a company compared to similar companies. For instance, if Company A's P/E is much higher than Company B's in the same manufacturing sector, it may indicate that Company A is overvalued relative to Company B (though the actual situation is far more complex than this metric suggests).
Some people apply the valuation framework for stocks to public chains, calculating the P/E and P/S ratios for Ethereum, Solana, and Avalanche.
The metrics derived from this method are shockingly high, which is not surprising; any value investor seeing these inflated metrics would likely have a heart attack.
The problem with this valuation calculation is that a company's value comes from its profitability, but that is not the source of value for a public chain.
If starting tomorrow, Ethereum halves its average gas consumption, this would cause its P/E to double. Does this mean Ethereum is now twice as overvalued? No, on the contrary, it would lead to explosive growth for the platform.
Because token holders are also users of the public chain. The value of this public chain comes from the level of economic activity within its ecosystem, not from how much percentage of "profit" the platform captures from these economic activities.
If we view public chains as sovereign economic ecosystems, similar to a nation, the absurdity of using multiple valuation methods becomes evident. If the U.S. were to double all tax rates, the U.S. government's "P/E" would drop by half.
But would that be beneficial for the U.S. economy? Probably not.
From an economic structural perspective, the share of government activity in the total economy varies between countries. Under similar conditions, China's (a typical large government) P/E would be lower than that of the U.S. (a relatively small government). Does this indicate which of these two economies has a higher "valuation"? It does not.
The second common erroneous valuation method for public chain tokens: discounted cash flow (DCF).
Discounted cash flow (DCF) is another common framework used for stock valuation, and applying it to public chain valuation is even more absurd.
Using discounted cash flow to assess the value of L1 tokens is a waste of time; this model attempts to calculate the current price of ETH relative to the dollar based on Ethereum's future income. However, Ethereum's future income needs to be converted through future Ethereum prices, which in turn depends on the dollar price of Ethereum at that time, creating a complete deadlock.
L1 tokens like ETH and SOL are both currencies and income-generating assets. If they are treated as stocks, their functions as accounting units and mediums of exchange within their respective economic ecosystems are overlooked. The valuation of the latter (medium of exchange), known as the exchange rate, is much more complex.
The DCF model for stocks is as follows:
A company's future cash flows and its stock price are denominated in the same currency (e.g., dollars), which makes it relatively reasonable and easy to calculate.
Editor's Note: The logic of discounted cash flow valuation is that "the current value of any asset should be the sum of its total cash flows from now to the future, discounted to the present." For example, the correct valuation of a company should be the total cash it can generate from now until the moment it goes bankrupt. It is important to note that future cash flows need to be discounted to today's cash before summing, a process known as "discounting." The choice of discount rate is subjective and depends on the prevailing interest rates, the risk of the asset, etc. This leads to "thousands of valuations" even for relatively certain yield assets like bonds.
However, the future cash flows of Solana and ETH are denominated in SOL and ETH, not in dollars. Therefore, you need to make assumptions about the token prices for each future period to derive a DCF valuation in dollars.
The DCF valuation model for Solana is as follows:
This model is completely useless because the prices of SOL at different times are what you need to calculate first.
L1 tokens should adopt a national currency valuation method rather than a corporate valuation model.
Thus, when evaluating L1 tokens, the currency exchange rate model is more useful than the stock dividend model. Unfortunately, when you try to assess exchange rates, it's like opening a can of worms, with a million factors influencing the relative prices of different currencies, along with hundreds of frameworks and assumptions, enough to fill a library with books.
However, there is a simple and elegant analytical framework that is closest to "fundamental analysis," which is the quantitative equation of money.
The formula is:
Money Supply (M) × Velocity of Money (V) = Price (P) × Real GDP (Y)
Rearranging the equation gives us price = Money Supply × Velocity of Money / Real GDP
Editor's Note: This formula comes from Yale University professor Irving Fisher's "Equation of Exchange," also known as the Fisher Equation, which is an important step in the theory of money demand. Irving Fisher's original formula was MV = PT or P = MV / T, where T is the quantity of transactions of various goods, excluding financial transactions.
What does this have to do with currency exchange rates?
Assuming that the goods produced by any two economies are substitutable, the price differences can be arbitraged to consistency (this is clearly not true in many cases, but as long as the general direction is correct, it won't affect our deductive purpose), the relationship between the price levels of Country A and Country B is:
For a simple example: a hamburger sells for 1 euro in Germany and 1.5 dollars in the U.S., so the dollar/euro exchange rate = 1.5. Substituting this equation back into the previously mentioned domestic price level equation, you will derive:
Editor's Note: The author made a mistake here; assuming that the hamburgers in the U.S. and Germany are the same product, then 1.5 dollars = one hamburger = 1 euro, the dollar/euro exchange rate should be 1/1.5 = 0.667, not 1.5. Similarly, the author also wrote the exchange rate formula backward; the correct formula is:
If this is not clear enough, you can set Country A as the U.S. and Country B as Ethereum, leading to:
Editor's Note: Similarly, the above formula is also incorrect, leading to the author's conclusion being exactly opposite to that of the formula. The correct formula should be as follows:
The meaning of the above formula is that the price of ETH in dollars = (dollar supply × dollar velocity × Ethereum's GDP) / (Ethereum's supply × Ethereum velocity × U.S. GDP). Only based on the editor's modified formula can the author derive the following conclusions.
This means that the price of ETH against the dollar will appreciate under the following conditions:
Ethereum's GDP (YETH) grows faster than U.S. GDP (YUS).
U.S. money supply (MUS) grows faster than Ethereum's money supply (METH).
The velocity of the dollar (VUS) grows faster than the velocity of ETH (VETH).
If we calculate this equation at face value, there should be a 1:1 relationship between the growth rate of ETH priced in dollars and the growth rate of the U.S. money supply. The changes in ETH prices since last year's massive expansion of the Federal Reserve's balance sheet are evidence of this.
But that's not the most interesting part; interestingly, there should also be a 1:1 relationship between the growth rate of Ethereum's price and the growth rate of Ethereum's GDP (i.e., the total economic output of Ethereum).
Of course, there is no statistical bureau compiling "GDP" for Ethereum as a nation. However, GDP growth can be indirectly inferred from the growth rates of transactions, wallets, TVL, etc. Almost every transaction involves some additional economic output, and the growth of wallets can be seen as an increase in the "working population" of that country.
The growth of TVL reflects the increase in the volume of financial activities within the entire nation. Admittedly, these are not perfect measurement indicators, but the key is that they are positively correlated with the incremental output on the public chain platform. Actual data confirms the relationship between these variables and token prices and dollar exchange rates.
Data shows that the growth of transaction volume is nearly linearly correlated with the growth of ETH prices; historically, a 10% increase in transaction volume corresponds to an average 13% increase in price.
Similarly, a 10% increase in the total number of wallets corresponds to an average 7% increase in price.
The following chart is even more striking. The acceleration of wallet address growth (i.e., the growth rate of new addresses) is almost 1:1 correlated with the growth of ETH prices.
Editor's Note: It should be noted that whether the increase in price drove the growth of the above indicators or whether the growth of the above indicators drove the price increase is still up for discussion and verification.
This is not all; application development in the virtual world is like the construction industry in the real economy, serving as a leading indicator of GDP growth. It can be said that developer activity on L1 is more indicative of the upcoming economic expansion than transactions or wallet addresses. Back in May of this year, if you searched for "ethereum" and "solana" on Github, the former returned 65 times the number of repo results as the latter. By October, that multiple had shrunk to 17 times, closely following Solana's rapid price growth.
All of this does not mean that cash flow on public chain platforms is unimportant. It is crucial for the stability of L1 tokens and the security of the network.
The government becoming a monopoly currency issuer is not coincidental. Historically, there have been many private currencies, but they have never lasted long and have always been supplanted by government currencies. Among the many issues with private currencies, the lack of a "value anchor" is the most serious problem. Governments can protect the value of their currencies through taxation, which is the most stable and almost guaranteed source of income. Even if fiat currency is "unsecured," the government can raise resources through taxation and use those resources to buy/sell their currency to maintain its value. This is crucial as it instills confidence in currency holders.
Previously, non-government-backed currencies could not achieve this, and even today they still cannot.
Since transaction fees are embedded in every economic activity on public chain platforms and are used for token burning or staking rewards, the currency of blockchain sovereign economies is gaining fiscal support similar to government currencies. As we have discussed, while these cash flows cannot be directly used to calculate token prices, they help maintain exchange rate stability in the long run. However, the most important factor for token prices remains the GDP growth of the "cryptocurrency nation" they belong to.
As the metaverse is still in its infancy, the growth we are witnessing now has not even reached the true first stage.
Editor's Note: Why is the metaverse the biggest story in blockchain business? Why is blockchain the essential underlying infrastructure for a true metaverse platform? The so-called metaverse can be simply defined as a "digital world where people participate and live with digital identities." In the editor's understanding, a pure metaverse differs from the centralized immersive games depicted in films like "Ready Player One" and "Free Guy"; it should be decentralized, with decentralized identity and value systems, both of which must be realized by a well-performing public blockchain platform. Just as there are multiple leading social networking platforms and operating systems today, the future metaverse will not have just one. A real-world person may have different identities across multiple metaverses, which also means that the underlying systems of the metaverse will not be a winner-takes-all scenario. For public chains, whether in terms of market growth potential or industry ranking opportunities, there are still many chances waiting to be explored. For investors in public chains, re-evaluating the current competitive landscape of public chains from the long-term perspective of "on-chain nations" and "metaverse underlying infrastructure" may lead to conclusions closer to the truth and a better understanding of certain recent moves by public chains (such as Solana establishing a $40 million social industry fund).
