Chainlink (LINK) crypto no-nonsense, realistic valuation: $11

While memes on crypto discussion boards of LINK going to $1000 by end of the year are entertaining, I give LINK a long term price target of $11. This is still a substantial increase over current trading levels of $0.20 to $0.30. LINK has promising, but not proven, technology that could set itself up as the Bloomberg or Thomson Reuters equivalent for smart contracts, which need a reliable, trustworthy data source.

This valuation is based on comparing LINK to the market cap of data vendor companies, such as Thomson Reuters. I compare LINK to data vendors based on the likely use case for smart contracts, which is to make back office processes for financial services companies more efficient. This could especially be true for swap and OTC derivatives dealers. These dealers need accurate market data, such as LIBOR rates, from a trusted source. Currently, data vendors like Bloomberg or Thomson Reuters are used, but there isn’t yet a solution to connect market data to smart contracts due to a phenomenon called the “Oracle Problem.”

The Oracle Problem is a risk that a smart contract could execute based on bad data. For example, if a smart contract is programmed to pay out $1 million multiplied by the LIBOR rate, if someone mistyped the LIBOR data (or deliberately entered wrong data to commit fraud) and typed in, say, 30% instead of 3%, the smart contract wouldn’t know better and would pay out an incorrect amount, and all parties involved might not have any recourse to correct this. LINK attempts to solve this problem by having smart contracts point to a LINK-run decentralized network of nodes that have financial incentives to provide correct data.

Other valuation attempts of LINK took this into account, but wrongly compared LINK to the OTC derivative market as a whole.

First, the notional value of the OTC derivative market is not a good measure of how much LINK could “capture” as a market cap. Except for specialized instruments like credit default swaps, notional value is purely just a reference number. For example, a fixed-for-floating swap (very common type of swap) might pay out a 3% interest rate in exchange for receiving a floating interest rate, such as LIBOR. If the swap had a notional value of $1 million, and the LIBOR rate was 3.50%, the bank would earn: (3.50% * 1 million) – (3.00% * 1 million) = $5000. Point being, it is a true that the OTC derivatives market has a notional value of multiple trillions, but this massively overstates the net payments in that market.

Moreover, the net payments aren’t relevant to LINK either. Smart contracts can be done with or without LINK. LINK is purely the means for connecting data to the smart contracts.

Valuation model

In this model, LINK is compared to a market cap sample of data vendor companies used in existing business processes for financial services firms, who are the likely use case for smart contracts.

Data as of August 18, 2018

Thomson Reuters: $30.556 billion[1]
Bloomberg LP: $54 billion[2]
RELX (parent company of Lexis Nexis): $44.433 billion[3]
S&P Global: $51.042 billion[4]

Average: $45.008 billion

I assign a deep 75% discount to the average market cap, since the degree of adoption for smart contracts and smart contract data vendors is still very much speculative. After a 75% discount, this gives a theoretical LINK market cap of $11.252 billion. LINK has 350 million tokens in circulation and a theoretical maximum supply of 1 billion. Since it is unknown when the remaining supply will come into circulation and how this will dilute token holders, I assume maximum possible dilution for the sake of prudence, and I then divide the market cap by all 1 billion total tokens.

This gives a target price of $11.252, rounded to $11.

Risks to valuation

The key risk to this valuation is the LINK technology itself. It is promising, but it is not proven. For that matter, smart contracts in general are promising but not proven. If it does become proven, the rewards could be substantial, but that’s the big if.

Another risk to this valuation is competition from other blockchain-oriented data vendors. The barrier to entry in the blockchain space is essentially zero.

Upside to valuation

Upside to the valuation would be if smart contracts gain further adoption. Additional upside could be if maximum dilution with all 1 billion tokens coming into circulation does not happen in the near term.

Lastly, LINK’s main use case is to provide data to smart contracts. That said, if the LINK decentralized network could provide reliable data to smart contracts, it could theoretically provide data to traditional business processes as well. Additional upside could be if this comes to fruition, which could let LINK compete directly with vendors like Thomson Reuters if the LINK network is more cost-efficient or provides other advantages.

Overall risk profile: Very aggressive. High risk/high reward.

Conclusion and disclosures

Comparing LINK to the OTC derivatives market as a whole is not the right comparison. LINK is better compared to existing data vendor companies.

Full disclosure: I own a long position in LINK.

Alex Cook, CFA

[1] Yahoo Finance, TRI is publicly traded

[2] Private company, estimated valuation from Forbes, https://www.forbes.com/sites/maddieberg/2018/03/08/meet-the-newest-billionaire-to-mint-his-fortune-at-bloomberg-lp/

[3] Yahoo Finance, RENX is publicly traded

[4] Yahoo Finance, SPGI is publicly traded