Messari: Horizontal analysis of key metrics of leading DeFi projects, no correlation between TVL and price

This article is from Conan Insight, with data sourced from Messari and compiled by Charles.

Our hypothesis is that fundamentals do matter and hold some value for protocols and investors. Perhaps application cases greater than pure governance tokens will outperform those with fixed operational metrics. The counterargument is that price recovery is unrelated to fundamentals and is more dependent on external factors, such as correlation with Bitcoin and social media activity. Perhaps governance as the sole application is sufficient, while token holders care about other factors, such as the team's ability to drive growth. We explore decentralized exchanges (DEXs), lending protocols, and asset managers through various metrics to validate our hypothesis. We use weekly data to eliminate daily outliers in various metrics, including:

• Active user count
• DEX trading volume
• Total value locked (TVL)
• Annual interest generated in lending protocols
• Deposit amounts and outstanding loans in lending protocols

Review of Price Performance of Leading DeFi Projects

The following table shows price performance over the past 60 days. Most tokens reached their range highs a few days around May 5. Except for Sushi, RUNE, AAVE, and SNX, which peaked around May 14 after the sell-off began. The dates of the 60-day lows were more synchronized, occurring on May 23, with an average drop of -72%. Over the 60 days, PancakeSwap and 1INCH performed poorly, while Synthetix and Bancor performed better.

From the right side of the chart below, it can be seen that since the low on May 23, regardless of market cap size—tokens that lost the most before May 23 also achieved the fastest recovery (like CRV), while those with only slight corrections continued to face selling pressure (like SNX).

Active User Count

First, we take the active user count as a general indicator of protocol activity. The table below shows the changes in weekly active user counts based on data from April and May, with the week of April 5 initialized to an index of 100. During these two months, Aave's active users increased by over +100% due to their liquidity mining incentive program, which was voted on April 25 and will end on July 15, 2021. They also integrated with the Layer 2 scaling solution Polygon, facilitating application adoption. On the other hand, Kyber's users decreased by -9%. The table below ranks the retention of active users during this period:

The following chart shows the average price changes during the same period, ranked by the growth in active user counts. There seems to be a strong correlation between active user counts and price performance. Due to new operational developments, Aave, Uniswap, and Sushiswap excelled in active user counts and price changes. Aave and Sushi are deployed on Polygon, while Uniswap has deployed their V3. Curve, Balancer, and Kyber are at the bottom of the active metrics range, reflecting their poor price performance. Although the rankings are not entirely correlated (CRV's price dropped by -47%, while KNC, despite losing more active users, dropped by -43%), the overall trend remains:

Conclusion: Fundamentals and operational numbers are indeed important for token prices. Active user count is a valuable and positively correlated price signal, as it shows meaningful correlation.

Trading Volume: Decentralized Exchanges (DEX)

Historical performance is often related to usage, daily trading volume, and potential fees. This is because trading volume is typically a reference metric for protocols or token holders to calculate value.

In Q1 2021, Uniswap and PancakeSwap gained the largest market share. Their price movements directly reflect their usage, with Uniswap reporting a quarterly return of 444%, while PancakeSwap had a staggering return of 3031% in Q1 2021.

Although SushiSwap is growing rapidly, it has lost some market share, and its price has also dropped by -31% relative to UNI.

The chart below shows weekly DEX trading volume for May, reflecting the recent sell-off. It ranks based on changes in trading volume, with Synthetix and Curve performing relatively well in maintaining trading volume, although all DEXs saw a contraction in volume. When overall trading volume declined in late May, Balancer's trading volume deteriorated the most, losing about 80% since early May. Thus, BAL's trading volume is not as sticky as that of SNX and CRV.

The table below shows price changes during the corresponding period. Balancer and Banco saw the largest price declines, while more resilient protocols performed relatively well during the sell-off. Synthetix is an exception; it performed well in terms of stickiness but had average price performance. One possible reason is that the week of May 17 saw the largest increase in trading volume (+118%), which led to a more negative performance in late May.

Conclusion: The price performance of DEXs is related to trading volume, which aligns with our hypothesis that fundamentals and operational metrics are important.

Total Value Locked (TVL)

Total Value Locked (TVL) is an important metric for tracking a protocol's ability to extract value. The table below shows weekly TVL growth data for April. Since early April, all protocols have seen growth, with Yearn Finance experiencing the highest growth, followed by Aave. In contrast, SushiSwap performed poorly, with a TVL decrease of 18%, second to last, while Compound grew by at least 16%+.

However, contrary to our hypothesis, there is no correlation between price and TVL.

While YFI's TVL grew the most, the price did not reflect this. Since April 4, YFI's price has dropped by 15%, while the average TVL of the subset has increased by +6%. This may be because users fled to Yearn Finance as a safe haven during the wait but did not purchase its token. Curve and SushiSwap's prices performed better than during the same period. However, SushiSwap's TVL shrank by -18%, while Curve's grew by +54%.

Conclusion: The data shows that TVL is not a reliable indicator of price changes, as capital is temporary and profit-driven, influenced by factors such as liquidity mining incentives, mining conditions, or deleveraging. Therefore, it is more important for DeFi protocols to maintain liquidity as a foundation for user stickiness and product-market fit. Additionally, with the launch of Uniswap V3 and Curve V2, not all TVL equates to capital efficiency, and the returns generated for liquidity providers vary. Finally, while TVL tracks the maximum possible extractable value, investors may not be interested in this metric during booming markets, as it often does not reach its ceiling. For example, DEXs may see a decline in trading volume, and outstanding debts in lending protocols may decrease. Thus, this data point is inappropriate as a price catalyst.

Qualitative Analysis

So far, quantitative analysis can only capture fundamental investors. Qualitatively, several catalysts can explain price performance.

Incentive Programs: Polygon and Aave both have liquidity mining programs before next month, attracting depositors and lenders, which also helped AAVE's token price. Similarly, Balancer announced Balancer V2 and a new incentive program on May 11, although it was not as effective in maintaining its token price.

Market Share: Compound also has an ongoing liquidity mining program, but due to the incentive program, market share has shifted to Aave. While Compound's TVL grew from April to May, its token price still underperformed compared to AAVE, which gained market share.

Stablecoin Safe Haven: Curve focuses on stablecoins and performed relatively well in the rebound from the May 23 low. During the sell-off, investors may flock to it and convert funds into stablecoins, remaining unscathed in the market sell-off.

New Version Launch: Uniswap launched V3 on May 6, achieving concentrated liquidity through multiple fee tiers, allowing limited partners to precisely control the price range of their capital. It also deployed V3 on Arbitrum on June 5. The success of new releases plays an important role in driving fundamentals and can serve as a strong price catalyst.

Layer 2 Scaling Solutions: Besides Aave, Sushi performed relatively well. It is a favorite among whales (with larger trade sizes than Uniswap) and is also integrated with Polygon. SushiSwap's trading volume on Polygon has surpassed its trading volume on Ethereum, mainly due to lower fees, allowing bots to trade more frequently.

Thus, while quantitative methods are important, qualitative analysis is equally crucial in understanding price movements in this emerging industry.

Final Thoughts

The sharp sell-off during bull markets has caught many investors off guard, perhaps reminding them of the bear markets following price peaks in 2017, 2013, and 2011. However, the data shows that especially during bear markets, fundamentals are also very important. As we see from protocols that allocate fees to token holders, fundamentals actually matter less during bull markets. Therefore, as DeFi matures, we can expect it to have less correlation with Bitcoin and trade more independently based on its operational metrics during bear markets. We may be in a terrible two-year bear market, but for DeFi investors who believe this is just a dip, the key metrics they should focus on are: active users, trading volume, and outstanding loans.