DeFi TVL: Total Value Locked Explained

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.

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 and the protocol’s price have a high direct correlation. As of writing this, the As of writing this, the Ethereum network hosts the highest number of decentralized finance applications. What that means is the majority of the 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.

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

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.

Credits: TradingView Charts