Other than market capitalization, trading volume, and total and circulating supply, total value locked (TVL) is one crypto indicator that is popular among DeFi investors to assess the overall value of assets – in United States dollars or any fiat currency – deposited across all DeFi protocols or in a single DeFi project.
DeFi assets include rewards and interest from specific services such as lending, staking, and liquidity pools, provided in the form of smart contracts. TVL in staking, for example, is a handy indicator for investors looking to support the DeFi platforms with the highest rewards. It is the total value locked in the DeFi staking protocols and represents the number of assets deposited by the liquidity providers.
What is TVL?
Analogy: Adam, a Defi enthusiast, was researching a token, and to his knowledge, he thought he had found a gem. Of course, they have great tokenomics, unique utilities, and a low market cap. A project worth $100k market cap has the potential to get to a million based on his conviction. As you can guess, he bought $10k worth of the token. And the liquidity of this particular token was $5k. Market cap had doubled, and Adam was happy to take out his starting capital. But that was not possible; why?
His token worth was more than the liquidity available; was he truly profitable? No.
How can you avoid this?
As such, TVL (total value locked)is the dollar amount of assets locked as collateral in the maker system. The higher the TVL on a Defi protocol indicates that more capital is locked into the platform resulting in many benefits such as yields for investors. For example, if there is $50M worth of crypto in maker CDPs, then the maker’s TVL is $50M.
On the other hand, Market cap (MC) is the amount that all maker tokens are worth MC = maker price x circulating supply.
TVL includes funds locked in:
Lending protocols
Let us take an example. You, as an investor, stake $10,000 worth of crypto in a Defi platform to help them validate onchain transactions and earn rewards. You then lend $10,000 to the protocol as collateral so you can mint stablecoins. Then You deposit $10,000 worth of crypto in a liquidity pool to earn commissions on swaps.
If you were the only Investor of this Defi protocol, then its TVL would be $30,000. As TVL increases, that means more capital is being rolled in. Hence, it is also a factor that the platform can provide higher liquidity; thus, it is more usable for investors.
Importance of TVL to DeFi
When the TVL of a DeFi platform rises, it is followed by an increase in liquidity, popularity, and usability. These factors contribute to the project’s success. A higher TVL means more capital is locked in DeFi protocols, with participants enjoying more considerable benefits and proceeds. A lower TVL implies lower availability of money, resulting in lower yields.
As with every indicator, TVL is only an estimate of the market’s condition, and because of its flaws and approximation, it should not determine an investor’s strategy.
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