It’s not uncommon for a project to generate hype, only to collapse weeks later. That’s why it’s especially important for retail DeFi investors to 1) have a framework to analyze projects, and 2) apply this framework before jumping in.

The decentralized nature of DeFi lets anybody participate. It’s surprising how little technical expertise or cash is needed to bootstrap a project or token. The results can be catastrophic for investors who decide to invest without doing due diligence.

Luckily, the flipside of decentralization is that data is transparent and readily available. The data does not lie, so this is where an intelligent investor should first look.

When investigating a project, you can’t go wrong by starting with 3 metrics and 5 charts.

Total locked value. Chart 1: TVL Growth. Chart 2: TVL Distribution

Market cap. Chart 3: MC/FDV Ratio. Chart 4: MC/TVL Ratio

Token price & allocation. Chart 5: Token Price Movement

1. Total Value Locked (TVL)

Make sure the project has stable TVL growth.

TVL refers to the total value of assets deposited by users and locked into a protocol. More assets in a project locked means users have more confidence in providing liquidity and collateral for the protocol’s economic activities. This both signal’s the market’s confidence in the project.

As you can see, the top 10 protocols are of both huge values above $5 billion and stable TVL growth month-by-month. That indicates a project is continuing to maintain its vitality and strength.

On the other hand, when looking at weaker, less reputable projects, the picture is different. Huge TVL changes per day, with an unsustainable upward trend, usually followed by a significant drop the day after the rise.

Pick projects whose TVLs are “middle-of-the-pack.”

As is clear from the scatter chart below, projects are proliferating like crazy with an extremely uneven TVL distribution. There are currently over 500 DeFi projects, of which 33%have TVLs below $5 million.

This is one of the easiest ways to separate projects into 3 categories:

Already “priced in” or overleveraged/overvalued

Completely new, unproven and risky

Projects with potential

How should you balance risk with reward?

To be on the safe side and to prevent the risk of too small projects running away with their money, individual investors should try to select projects in the middle of the TVL range and above (around $20 million) when deciding who to invest in.

Those in the $1 million to $10 million range are suitable for seed rounds by investment institutions. Individual investors should avoid these because their future positioning and strategic direction is not clear.

While TVL projects in the $10 to 20 million range have found a suitable growth strategy and investors have access to data on this segment, in terms of stability, there is a risk of stunted growth in these projects and a high risk of weak growth or decline if growth is not sufficient.

TVL projects in the $20 million to $50 million range have, to some extent, found a clear fit in terms of product mechanics and growth, with the community and technical support gradually becoming more sophisticated, and are a good choice if you want to achieve higher returns than the top protocols.

If your risk tolerance is low and your need for return is not too high, you can choose projects from the top protocols to invest in based on your preferred DeFi project category (e.g. DEX for providing liquidity, lending for lending, etc.)

2. Market Cap (MC)

Market cap is the most accurate overall reflection of a project’s market value.

This metric is calculated similarly to stocks in the traditional equity market, namely by multiplying the price of the token by the number of tokens in circulation and available for trading.

As the number of tokens is affected by circulation and supply and demand, the price of the token can change quickly. On the other hand, market cap tends to increase or decrease within a 20% range, with no sharp increases followed by precip...