Sell Your Crypto When This Metric Reads 7

In this week’s newsletter, I’m going to break down the Market Value to Realized Value metric (MVRV), one of the most useful tools in your crypto investing toolbox.

You can use MVRV to better understand where we are in the crypto cycle, when you should derisk your portfolio, and take profits with an edge.

The trend is your friend (until it bends)

During a bull run, more and more paper profits build up in the market. Investors hold and compound, letting it ride to maximize gains. Eventually though, all that profit must be spent to acquire new boats and watches and 3rd homes on the Côte d'Azur.

Selling begets more selling, and soon a new narrative dominates the price action — down only. Paper profits are evaporating day by day, and everyone rushes to sell before missing out on this year’s yacht season in The Med.

Markets turn fearful, selling accelerates, and prices dump.

Wait even longer and, eventually, prices will start to look cheap. Thoughts turn to an even bigger boat. It’s time to make money yet again. The buying returns and with it new paper profits, and we’re off to the races one more time.

Fear —> Greed —> Fear —> Greed.

Risk on. Risk off. Risk on. Risk off.

MVRV is our window into the psychology driving these cycles. It allows us to see actual paper profits accumulating so that we can anticipate when other investors are feeling the temptation to cash out. It gives us a head start so that we can beat them to the punch.

How to use Market Value to Realized Value

Our numerator in the ratio is market value. Market value is the total number of tokens in circulation multiplied by the current market price. Nothing new here, just plain vanilla market cap.

The denominator is a measurement called Realized Value (sometimes called, “Realized Capitalization”). Realized value is the sum of every coin times the price that was paid for it whenever it was last transferred.

Let's say there's a project with 15 total tokens. You have 10 and paid $1 each, and I have 5 that I paid $2 each. The realized capitalization is (10 x $1) + (5 x $2) = $20. The current market price doesn't matter.

Realized Value requires that we know the number of tokens and the price of each the last time they were moved from one wallet to another. This data is next to impossible to find outside crypto. For an equity, as an example, the info you would need is buried in databases at banks, brokerages, clearinghouses and regulatory agencies. You’re not going to get there with the Robinhood app.

Bitcoin does not have this problem. Every transaction is on the public ledger, so we are able to account for each coin, each transfer, and at every historical price.

(For bitcoin, the definition of realized value is a bit more nuanced, but the definition I’ve provided here is close enough for our purposes. If you want to go deeper, read here.)

A different spin on supply and demand

I like to think about MVRV in terms of supply and demand. Realized value, our denominator, is like a weighted average. It de-emphasizes tokens that haven’t moved in a long time — like hardcore HODLers and lost coins that don’t ever trade.

The effect is that the MVRV ratio treats those out-of-circulation tokens almost like a reduction in supply, using the lower price paid for them in the past as a weight against the higher prices represented in prices today.

Therefore, the gap between market value and realized value is the difference between the part of the market that’s actively trading and the part of the market that is not.

When MVRV gets big, that means that the active part of the market is particularly exuberant. Higher demand and/or less supply (read: buying) is driving higher prices for the coins that are moving.

When it gets small, it tells us that the active part of the market is more fearful than usual. Less demand and/or increasing supply (read: selling) is pushing the market value down towards the realized value.

MVRV puts this market dynamic into quantitative terms so we can take action. Buy low, sell high. It’s just that easy, right?

Fat Tails: MVRV is even better with a Z-Score

MVRV on its own is a great measure, but it’s not perfect. You need a transparent blockchain to get the data. You need enough history to identify key levels or trends. It struggles for consistency when a chain has more dynamic supply curves (bitcoin is easy because supply is predictable and fixed).

It's descriptive, but doesn't help us take action. We need a better way to pull signal from the noise.

A great solution for this is to apply a Z-score to the MVRV ratio. Z-Scores are a calculation that tells us how far a value is from its historical mean. It allows us to represent MVRV in standard deviation space.

Z-Scores normalize MVRV data across time, market cycles, and other conditions. It’s output is just a standard deviation, and we can do a lot with standard deviations. Recall that:

• About 68% of the observed data falls within 1 standard deviation

• About 95% fall within 2 standard deviations

• About 99.7% falls within 3 standard deviations

If the Z-score of the MVRV rises above 3, that means that paper profits in the market are very high — higher than at least 99.7% of the past (assuming a normal distribution — more on that next).

Over the history of bitcoin, market tops have correlated strongly with MVRV Z-Score rising above 7. You can see this level in the chart above (red band) and see how every pop into that territory marks a cycle top.

If bitcoin MVRV followed a normal distribution, the probability of a 7 Z-score is about 0.0000000002%. Out of a trillion times, it might only happen once.

Clearly bitcoin MVRV does not follow a normal distribution; over the last 15 years we’ve observed six different occasions of a 7 or higher Z-score. But even so, this is a powerful result and strong indicator for us when markets get frothy.

(By the way, these crazy tail events are why we’re investing in crypto in the first place — volatility and fat tails are our friends.)

When the MVRV Z-score is creeping up to 5, 6, or even 7, mathematically you are in once in a trillion territory.

Take profit.

Portfolio Update - I gambled the Presidential Debate

I gambled meme coins during the presidential debate. My strategy was to watch volumes, look for something funny, and wait for new breakout memes on pump.fun. Nothing particular funny emerged on the memecoin side, and I lost a few hundred dollars.

However, I more than made up for these losses by selling a large percentage of my BODEN bags during and after the debate, avoiding much larger losses. My thesis has changed, and I have exited the vast majority of this position.

BODEN was for me a bet that Trump would make fun of Biden, and the crypto markets would react by pumping BODEN. It was going to be funny.

However, after watching the first 5 minutes of the debate, I recognized that Biden’s condition was much worse than I thought, Trump was intentionally going easy on him because of it, and this was never going to be funny. Memecoins work when they are funny, not sad.

I immediately sold half of my BODEN position within the first 15 minutes of the debate, and have continued selling the past few days. BODEN has been pummelled since; by selling quickly I saved myself quite a bit of losses, more than enough to make up for the few hundred lost on Thursday night.

I still own and will HODL a small bag of BODEN (just in case) and have reallocated the rest of that capital to WIF, BILLY, and DJT. BILLY is a dog coin with a cute puppy that I noticed popping up on crypto twitter. I own a small bag.

I also sold my PUPS bag for a small loss, using most of that cash for my debate night trading.

Market Vibes