If you are interested in the world of cryptocurrency and blockchain, you may have heard of the term Total Value Locked (TVL), which is a popular metric used by DeFi investors to evaluate the amount of assets (in US dollars or any fiat currency) that are deposited in all DeFi protocols or a single DeFi project. But what exactly is TVL and how is it calculated? And more importantly, why is TVL important and what can you do with it? In this article, we will answer these questions and introduce you to some of the basic features and functions of TVL.
What is TVL?
TVL is the acronym for Total Value Locked, which refers to the total value of the crypto assets that are locked in a smart contract of a DeFi protocol or project. A smart contract is a piece of code that defines the logic and rules of a digital agreement. A smart contract can store data, perform calculations, and interact with other smart contracts or external services. A smart contract can be written in a high-level programming language, such as Solidity, and then deployed on a blockchain, such as Ethereum, Binance Smart Chain, or Solana.
TVL is an indicator of the popularity and demand of a DeFi protocol or project, as well as the liquidity and availability of its services for traders and investors. A higher TVL means that more funds are locked in the DeFi protocol, and the participants enjoy more attractive returns and rewards. A lower TVL means that less funds are available, and the returns are lower.
TVL can be measured in different ways, depending on the source and method of calculation. Some platforms, such as DeFi Pulse and DefiLlama, provide data and charts on the TVL of various DeFi protocols and projects, as well as the total TVL of the entire DeFi market. However, different platforms may use different criteria and factors to calculate TVL, such as the exchange rate, the supply and demand, and the inclusion or exclusion of certain assets or protocols. Therefore, TVL should not be taken as an absolute or definitive value, but rather as an estimate or approximation.
How is TVL calculated?
The calculation of TVL is relatively simple. First, we need to find the market value of the asset by multiplying the supply of the asset by its current price. Then, we divide the market value by the maximum circulating supply of the asset, and we get the TVL. For example, if the supply of an asset is 10 million, its price is $1, and its maximum circulating supply is 100 million, then its TVL is 0.1, or 10%.
However, there are some challenges and limitations in calculating TVL. One of them is the volatility of the market, which can affect the value of the locked assets. For example, if the price of ETH, which is the platform where most of the assets are located, increases significantly, then the TVL of the DeFi protocols will also increase, without any new users or funds entering DeFi. Another challenge is the double-counting of funds, which can inflate the TVL of the protocols. This can happen when the funds are moved around and counted multiple times, or when the funds are used as collateral and borrowed at the same time.
Therefore, TVL should not be the only metric to evaluate the performance and health of a DeFi protocol or project. Other metrics, such as the number of active users, the volume of transactions, the revenue and profit, and the governance and security, should also be considered.
Why is TVL important?
TVL is important because it reflects the capitalization and utilization of the DeFi protocols and projects. It also indicates the profitability and availability of the services for the traders and investors. Some of the benefits and opportunities of TVL are:
Liquidity: TVL can provide liquidity for the DeFi protocols and projects, which means that the funds can be easily exchanged or transferred. Liquidity is essential for the smooth functioning and growth of the DeFi market, as it enables faster and cheaper transactions, reduces the risk of price slippage, and increases the efficiency and competitiveness of the services.
Popularity: TVL can indicate the popularity and demand of the DeFi protocols and projects, which means that the users and investors are interested and satisfied with the services. Popularity is important for the success and sustainability of the DeFi market, as it attracts more participants and capital, creates network effects and positive feedback loops, and enhances the reputation and credibility of the services.
Availability: TVL can determine the availability and accessibility of the DeFi protocols and projects, which means that the services are open and ready for the users and investors. Availability is important for the innovation and diversity of the DeFi market, as it enables more choices and opportunities for the participants, encourages experimentation and exploration, and fosters creativity and collaboration.
Summary
As we can see, TVL is a key metric in the DeFi market, providing a measure of the value and potential of the DeFi protocols and projects. It can also provide benefits and opportunities for the participants, such as liquidity, popularity, and availability. However, TVL also has some challenges and limitations, such as volatility, double-counting, and inconsistency. Therefore, TVL should not be the sole criterion for evaluating the DeFi market, but rather a useful indicator that should be complemented by other metrics.