September 22, 2024 Welcome back to our blog, where we aim to equip you with some extra knowledge that can separate you from the rest of the pack and enable you to take our collection of advanced crypto bots to the extreme.
Today’s agenda discusses on-chain analysis, what it is, how to do it, what we are trying to achieve by it, and which resources are best for it. By the end, you’ll have another method of evaluating the true value of cryptos.
Before you move forward, we must remind you that the information presented in this blog post is intended solely for educational purposes and should not be considered a call to action or financial advice. Traders must consider their financial status, trading goals, and risk tolerance before employing any crypto trading strategy. Cryptocurrency trading involves inherited risks; consulting with a qualified financial advisor before making decisions is highly recommended.
Now, we can safely move forward with that out of the way!
An excellent way to grasp the idea of on-chain analysis is to compare it with the more straightforward data we traders have off-chain data.
Off-chain data is any detail about a blockchain that is not recorded on the blockchain itself but on third-party ledgers. A simple example of off-chain data is trading volumes, as this information is registered on the various crypto exchanges with no real trace on the underlying crypto’s blockchain. In most cases, this is the type of data we examine during technical analysis.
Conversely, on-chain data refers to all the information about a crypto recorded and stored on its blockchain ledger. Most cryptos’ underlying blockchain protocol is public and transparent, and any data recorded on it is definite and unsusceptible to changes. As we’ll see later, it stores valuable information that can help us assess the strength and potential of a crypto project.
Our main goal when doing on-chain analysis is to review the raw data recorded on the blockchain and extract actionable trading insights and other valuable information. By looking at the overall activities and transactions within the blockchain and not just price action on the different crypto exchanges, traders can get a more comprehensive picture of the prospects of crypto and a better understanding of its current market dynamics.
Essentially, on-chain analysis is a research method that delivers traders crucial data points needed to support other forms of analysis we’ve previously discussed, such as fundamental analysis, tokenomics evaluation, and even technical indicators.
Before we move forward, it’s important to note that there isn’t one ultimate method of doing on-chain analysis that suits all. As it involves vast amounts of data, it’s up to each trader to decide which data points they find most important and which are just background noise.
With that being said, there is a consensus, at least, about some of the main aspects of on-chain analysis that crypto traders should be familiar with:
One of the most essential things in on-chain analysis is whether the ecosystem attracts new participants and its current users. One of the most straightforward and intuitive ways to measure this is by looking at new and active addresses.
Active addresses are any wallet that participated in a successful transaction within the blockchain over a defined period, usually one month. In other words, it means any address that received or sent funds within the last 30 days (or any other time frame). Brokerage accounts, which trade the crypto only on crypto exchanges, are not included in this measurement. We will elaborate on the subject later when we discuss the difference between on-chain and trading volumes.
As you may have guessed, new addresses refer to the number of wallets added to a specific blockchain. Similar to before, this metric does not include accounts created on crypto exchanges, as they are not connected to the ecosystem in any direct way and don’t have any real effect on the blockchain itself.
Cryptos with more active and new addresses are considered more established and less risky to invest in or trade with. Furthermore, a steady and consistent increase in active and new addresses is essential for a crypto project’s long-term success.
Conversely, crypto projects that don’t present a substantial number of new and active addresses or any other sign of growth in overall adoption are less likely to become successful and are seen as cryptos with more inherited risks.
It’s important to know that new and active addresses frequently change according to market sentiment and conditions. The two metrics usually go up during bull markets and down in bear markets. For this reason, identifying times when this correlation doesn’t apply can be an interesting indicator when spotting a change in market dynamics.
For example, if we recognize a rise in the number of active and new addresses while the market is on a downturn, it might be a sign that we have reached the bottom and that an upswing is soon expected. Following the same logic, if we notice a decrease in new and active addresses while prices are heading upward, it could signify that the market has reached some sort of top and that a price correction might happen soon.
In the world of cryptos, the term “whales” refers to individuals or organizations that hold a substantial amount of a specific currency. Usually, these are either the development team, early investors, or other financial institutions.
As entities with close affiliation to the project, whales are usually equipped with some insider information that isn’t necessarily available to the general public. On top of that, when a whale starts to liquidate its position due to its relatively large stake, immediate selling pressure is created to push the price down significantly in the short term.
Informative whales’ activity is everywhere in the world of cryptos, but arguably the most famous example is the Ethereum Foundation. Vitalik Buterin and friends are known for selling ETH when the market is at its top more than once, signaling to traders it might be time to adjust their strategies accordingly.
In simple terms, asset allocation refers to how and where the cryptos are stored and located. This can mean examining how the tokens are distributed among the different addresses, as we covered in our segment on tokenomics.
Other things are worth examining asset allocations as part of on-chain analysis.
Arguably, the first things to look at are inflows and outflows from the ecosystem to the various CEXs and DEXs. As your intuition probably tells you, signs that show that funds are making their way out of the ecosystem into exchanges can signify an upcoming rise in selling pressure and vice versa.
Total-Value-Locked, or TVL, is also an important metric measuring the number of cryptos locked in smart contracts or other DeFi protocols, usually to earn interest. In the world of cryptos, TVL is a reliable indicator of the level of confidence the community members have in their ecosystem.
A rising or stable TVL, especially in bear markets, can tell us that investors have confidence in the long-term prospects of crypto projects overall. On the contrary, a decline in TVL might suggest a general lack of confidence in the long-term prospects of crypto, while a drop in TVL during a bullish trend might signify that the market may have reached its cap.
Unlike trading volumes, which represent the number of trades made across the different crypto exchanges, transaction volumes are a metric that tells us how many times a crypto changed hands within its own ecosystem. This indicator gives us insights into the ecosystem’s overall resilience, its level of participation by its community members, developers’ activity on the blockchain, and more.
Viewing transaction volumes as a complimentary yet equally important measurement of the new and active addresses mentioned earlier is best. As such, they are usually correlated to one another and with market conditions (meaning, to increase as the market rises and decrease as it declines).
Like most other metrics on the list, when this indicator starts to move in the opposite direction of the crypto’s price, it’s a sign that the market is expected to change direction soon.
The beauty of the crypto world is that most on-chain data is transparent, easy to find, and available to everyone.
Most of the larger and more established crypto projects have their own blockchain explorers, where most of the statistics we are looking for are free of charge. Some notable mentions are EtherScan for the Ethereum network, SolScan for the Solana blockchain, and BscScan for the BNB Smart Chain.
Other resources are focused on the broader market but only on one metric. DefiLlama, for example, provides much detail about TVLs for the entire crypto-verse but less about other indicators.
For those looking for a more comprehensive source of on-chain data, many platforms specialize in gathering, organizing, and analyzing this type of data. Some of these platforms are free of charge, while others might require a fee.
As the case may be, we gathered for you a partial list of some of the most popular and reputable options available for crypto traders today (in no particular order):
To summarize everything we went through today, on-chain analysis is a vital tool every trader should adopt as part of their workflow. When done correctly, on-chain analysis can give us crypto traders some valuable insights we can utilize in various ways.
From verifying our technical indicators to deciding which trading strategy is most suitable and adjusting our crypto bots to match current market sentiment, having a better understanding of cryptos and the forces behind them can only elevate our trading skills.
This ability, coupled with our wide range of crypto bots, their advanced features, and high customizability, can give you the cutting-edge needed to be a successful crypto trader in the long term.
