DeFi TVL: Total Value Locked Explained

Many digital coin enthusiasts commonly refer to 2020 as the crypto year because of the massive cryptocurrency explosion witnessed. For the first time, Bitcoin hit a never seen before high of over $28,000, rising from the shadows it had been wondering in ever since anonymous Satoshi Nakamoto launched it. This represented a 300%+ gain. There ensued a volatile crypto boom leading to the popularization of DeFi, and the rise of the term Total Value Locked (TVL) among crypto users. Today, TVL is a vital metric in crypto analysis and valuation for both newbies and experienced crypto traders. But what exactly is it? This article profoundly explains TVL, its relation with DeFi, how it’s calculated, and everything else that matters. Stay with us to the end.

What does the total value locked mean?

Follow the money is not just a simple catchphrase from the 1976 “All the President’s Men,” it carries actual meaning in Decentralized Finance. Crypto investors commonly look at key factors like market capitalization, a coin’s circulating supply, and trading volume to make crypto trading decisions. For DeFi, we have TVL, and like it or not; you can’t avoid this metric once you start investing in DeFi. TVL is a figure indicating the amount of money or assets staked in a particular DeFi protocol at a given time. It’s a key indicator of the overall health of yielding markets in decentralized finance. So when you want to find the dollar value of crypto locked in any DeFi project, you look for the TVL. Any smart investor must know where money is moving in the current high saturated crypto market. You don’t want to invest in every other hyped-up project, but where you’ll make money. The thing is, crypto trading is a game of demand and supply. You’re only sure to rake in huge profits when you stake your money in a protocol attracting many other investors.

How to Calculate TVL

Now that you know what TVL is, it might also help to learn how it’s calculated so that you can have something to brag about in front of your friends. Of course, you will also need the knowledge to make real money from DeFi. Don’t sweat! It’s the simplest thing you have come across.

1. Let's say we have an investor, Kev.
2. So Kev connects his crypto wallet to a DeFi platform, YY.
3. He then deposits $1,500 worth of cryptocurrencies into a staking pool.
4. Next, he lends an extra $500 o the same platform. 
5. Another investor, Jeremy, lands a quick $5000 from his business and decides to invest $2000 from this money into liquidity mining in the YY DeFi platform.
6. Assuming these are the only investors of YY platforms, the TVL is now at $1,500+$500+$2000= $4,000. That simple. No wishy-washy about it.

Since it’s not always possible to get the total number of investors and how much they have staked in a particular project, investors use a different formula to get TVL.

  • You need (a.) The present circulating supply of a project, (b.) Current price and (c.) Maximum circulating supply to get started.
  • Multiply the currency circulating supply by the price to get its market cap
  • Then divide the market cap by the maximum calculating supply. This will give you the protocol’s total value locked.

You can use the TVL and market cap to find the TVL ratio, which is a fundamental metric for determining whether a DeFi asset is overvalued or undervalued. TVL ratio is calculated by dividing the total market cap of a project by the total value locked.

Accuracy of Total Value Locked

The total value Locked of a DeFi platform is supposed to be accurate in an ideal situation. This is, however, hardly the case due to various factors that may interfere with it. First, with new tokens emerging every day, you may be unable to find the accurate values to calculate TVL. Second, projects with large swing investors may give a false picture. A simple action from these large investors (whales) can impact the entire TVL substantially. A withdrawal from a significant whale could cut the entire TVL by as large as 20%+. In some cases, the whales could be shadow owners of the project, so they might keep hyping it to send false positive signals and woo degenerates. We, therefore, recommend investors consider other factors such as the project’s use case and implementation of road map to identify whether a DeFi project is worth their money or not. They say bulls make money, bears make money, but pigs get slaughtered. Trade carefully.

Why does Total Value Locked Matter?

As discussed earlier, TVL is a crucial indicator of how much interest other investors have in a project, and hence the strength of demand, and consequently a representation of whether future prices will go up or fall. All DeFi protocols need money to function. Members deposit these funds as loans or liquidity. TVL might reveal the number of active users and the project’s strength in terms of usability. It’s the most direct metric for establishing the general health of a DeFi platform. A low TVL means the platform has inferior popularity, which could also mean it has insufficient liquidity and low yields.

A high TVL not only tells us that a project has many users but also shows us that investors have faith in the project. Of course, each of these investors has done independent research to determine that a DeFi platform is worth their money. While investing in a platform’s native token, we can use TVL to tell whether the coin is overvalued or undervalued, just like the intrinsic value of a stock tells us whether we should buy or sell. A token is considered undervalued when the market cap is low compared to its TVL. Investing in undervalued platforms is a sure way to generate huge returns in the future.

TVL vs. Market Cap

A question is paused, which one is of more significance between TVL and Market Cap? You’ll come across this quite often whenever you talk about TVL. Well, both market cap and TVL are essential metrics. Remember we said that TVL is not always accurate? Market cap is mainly used to find the market value of a DeFi project. It’s found by multiplying the price of tokens by their total number. So using the market cap, you can also tell whether a project has a significant impact or not. TVL, however, carries more weight in the DeFi ecosystem since it focuses more on active users, giving the true picture of a project’s popularity. Market cap captures both active and dormant users. Hence it will paint a deceptive picture of a project’s usability and liquidity where inactive users are more than active ones. However, both market cap and TVL are inputs for determining whether a token is overvalued or undervalued through TVL ration calculation. An undervalued token is represented by a TVL ratio of less than one. Undervalued projects attract investors since they provide room for growth.

TVL vs Market Cap

The Downside of TVL Indicator

  • TVL and the protocol’s price have a high direct correlation. As of writing this, the Ethereum network hosts the highest number of decentralized finance applications. What that means is the majority of total DeFi TVL is held in the Ethereum blockchain. Whenever Ether’s price rises, Ethereum’s TVL follows automatically. This might, however, not reflect the true picture of individual projects, yet because they are tied to the network, their TVL may appear high too.
  • The other reason is the presence of whales, as we have already mentioned, who may fake the actual value of a project to drive prices high. Most whales try to create pump and dump situations where they can make insane profits quickly. DeFi gives them a perfect ground for that.
  • TVL calculation has no way of determining real and synthetic capital. For example, if you deposit funds in dApp 1, which has a native token, and then use the tokens to invest in a different protocol, both dApps will have independent TVL, which includes this capital, yet only dApp1 has real money. This tricky situation can lead users to invest in a platform dominated by fake capital.
  • Finally, TVL should be taken with a grain of salt because DeFi is still young and unstable. We can’t tell how much longer the TVL will continue going up as investors can withdraw funds anytime for various reasons.

Types of DeFi Projects and TVL

The total value locked of DeFi platforms may vary depending on the type of project involved. Let’s get into details below.

Borrowing and Lending platforms:

If you have come across Maker, Aave, Alchemix, and Fulcrum, you have interacted with some of the best lending and borrowing DeFi protocols. These platforms have crypto pools where users can lend or borrow funds through the power of smart contracts. Their total value is locked in these lending and borrowing pools. Additional protocols in this field include Compound, Solend, and Anchor.

Yield Optimization protocols:

Yield Optimization is one of the popular ways of making money in the DeFi ecosystem. Yield optimization protocols and like portfolio managers, except they are automatic. They optimize investors’ funds by distributing them across the pools with the highest expected returns. Tulip Garden, Yearn Finance, Pickle Finance, and Beefy Finance are some of the most popular platforms in this sector. The TVL for these protocols is calculated as the entire value of investor funds under yield optimization.

Decentralized Crypto Exchanges (DEXs):

Decentralized exchanges allow the swapping/ buying and selling of cryptos. They are not so different from the New York or London stock exchange, only that they deal in crypto online, and trading is through an automated market maker (AMM). TVL for decentralized crypto exchanges is the cumulative value of all the crypto-pair pools they hold. SushiSwap, UniSwap, Pancake Swap, Curve, and 1inch are examples of DEXs protocols.

Largest Network by DeFi Total Value Locked

Ethereum is by far the largest and most preferred DeFi blockchain. Alternative networks include Solana, Polkadot, NEAR, Algorand, Cosmos, Binance Smart Chain, and Cardano. Data from Statista.com indicates that Ethereum is the leading DeFi network with a market share of about 63%, followed by Binance Smart Chain, which controls 8.9% of the entire DeFi market. With nearly 500 protocols, Ethereum’s cumulative TVL is estimated to be at least $74 billion. Binance Smart Chain follows with approximately $9 billion, then Avalance and Solana with estimated TVL values of $6 billion and $5 billion, respectively. Being the first smart contract DeFi platform, it is obvious that Ethereum is where most DeFi projects sit. Of course, it faces stiff competition from other platforms, but most developers still prefer it because it has an active user community and many developer-friendly tools. This makes it less costly to create, launch and popularize Ethereum-based projects than other blockchain networks.

Top Cryptos by Total Value Locked

Let us now go deeper into different projects that have come out as robust and valuable across the different DeFi protocols. You might consider some of them if you want to invest in DeFi platforms.

  • Aaave: The Aaave platform focus had a TVL of $5.45 billion when writing this, after gaining over 4.36% in the last 24 hours. It’s a multichain-built project focusing on lending. Investors lend money to the Aave money market and, in turn, earn higher interests than what they would have made from traditional banking products like fixed deposits.
  • Maker: Maker is a lending and borrowing platform. Users lock up their crypto to earn DAI. Maker was one of the first DeFi projects to be developed and has remained popular. As a decentralized autonomous exchange (DAO), native coin users participate directly in the Maker ecosystem’s governance and decision-making. The total value locked of this protocol was about $7.90 billion as of writing this.
  • Curve: Curve of a decentralized market maker protocol built on the Ethereum network. It mainly offers users a platform to swap stablecoins like USDC. Curve had a TVL of $4.9 when writing this (8th August 10, 2022), after dropping by 21% in the last 24 hours. Its highest TVL ever recorded is $24 billion.
  • Uniswap: With a total value locked of $7.04 billion, UniSwap is one of the DeFi projects with a high TVL. The automated decentralized exchange is not only the largest DEX on Ethereum but also has its own governance token, UNI.
  • Lido: Lido is an Ethereum-based liquid staking DeFi platform with zero minimum deposit. It had a TVL of about $7.32 billion as of writing this, representing the total amount of money staked by investors on the platform. The outlook still looks promising for growth in the future.

Rise And Fall Of Decentralize Finance

DeFi had quite a moment from mid-2020 when its popularity staggeringly reached the moon. The total value locked of all DeFi protocols quickly rose from under $1 billion to $80 billion, and by around July 2021, it was just a few coins shy of $250 billion. The global finance sector gravitates towards safe and innovative solutions naturally. The abnormal growth of interest in DeFi was mainly attributed to the promises these protocols came with, primarily security, anonymity, low transaction costs, and speed. However, decentralized finance quickly disappointed many investors after it failed to maintain the fire it started with. By the end of 2021, its TVL got a 12% hit, and although it recovered in January 2022, the bears took over the market firmly. Some think the steep learning curve for using DeFi could be among the reasons for its fall. However, our analysis shows that DeFi is just a victim of the global economic situation. High inflation, the Russia-Ukraine war, and the general crypto downtrend have a ripple effect on decentralized finance. We also observed that with tokens such as LUNA wiping more than $40 billion of users’ funds, investor confidence in DeFi has been badly damaged.

Below is a DeFi Composite Index chart showing the general trend in DeFi over the past year. DeFi Composite Index is a creation of Binance Futures, and it tracks the top 10 protocols listed on Binance by TVL. While it doesn’t always give accurate figures, we can use it to get a general view of what is happening in the market.

DeFi Composite Chart dAppGambl

Credits: TradingView Charts

Closing Remarks

Whether you are investing in DeFi or planning to do so, make sure you back your decisions with proper research and understanding. Although TVL is not always accurate, it will surely help you avoid regrets in the future. An in-depth analysis of a protocol’s TVL will indicate the project’s current and future potential. We are not saying that TVL should be the only thing to look for. It’s just one of the critical elements you shouldn’t ignore. Combine your TVL analysis with other findings to look for a confluence that can give essential suggestions for your decision-making.

FAQs

What is the overall TVL of DeFi protocols today?

The total TVL of all DeFi protocols sits at about $74 billion as of writing this, after a sustained bullish trend that has seen the value drop from $250 billion seven months ago. This is, however, a more than 4% increase in the last 24 hours, from $71 billion.

Why is DeFi TVL important?

DeFi platform investors usually target undervalued projects with room for growth. TVL is one of the key indicators for the overall health of a DeFi protocol. It tells you where you will likely profit or lose if you put your money.

What does TVL measure?

TVL measures the dollar value of crypto locked in any DeFi project. It shows the amount of money or assets staked in a particular DeFi protocol at a given time.

What does it mean when TVL Is going up?

A rising TVL means a project’s users are increasing, insinuating investor confidence in that protocol. Consequently, the value of the entire project and returns on investment rises as the TVL increases. Therefore, this is usually the best time to put your money into a DeFi platform.

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Eugene Abungana
Written by Eugene Abungana verified symbol Investment Analyst, Financial Analyst, and Institutional Trader
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Eugene is an investment analyst, MQL developer, financial trader and an expert in blockchain technology. He is a graduate in economics and holds additional studies in sustainable retirement investments. In addition, he has a background in literary journalism and experience in private fund management, institutional trading, and online broker setup. Eugene is a specialist at breaking down complex finance and investment topics into a simple read for everyone.

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Reviewed and Fact Checked by Kevin O'Brien , Web3 & DeFi Writer