Every market has periods of a very severe overbought situation. At this time, many users are experiencing euphoria. However, all possible price movements are cyclical, and the stronger the growth is, the deeper the subsequent decline in the end will be. If the period of exponential growth lasts suspiciously long, the probability of a market”bubble” formation , which will burst sooner or later, increases.
The most striking example of the financial bubble is “tulipomania” in the Netherlands (1636-1637). The Japanese financial bubble in the real estate and securities markets (1986-1991) is also very famous. You may also hear abut the “dot-com bubble” that happened in 1995-2001. The latter is often used by “old school” financiers trying to analyze the situation on the cryptocurrency market.
However, in the end of 2018 and the cryptocurrency market showed some signs of the financial bubble. For example, Bitcoin charts often show rapid 20-30% growth, which attracts many new users, who are looking a fast and easy income.
In order to understand the essence of the NVT Ratio, you should draw an analogy with the world of mainstream finance.
Ratios are often used to evaluate the assets of a traditional financial market. They allow users to compare different assets among each other, and also provide an opportunity to determine whether a particular financial instrument is overvalued or undervalued.
One of the most popular tools is the price/earnings ratio (P/E, PE ratio). It is the ratio of the market price of a share to the profit earned on it (EPS). It can also be calculated by dividing the company’s market capitalization by its annual profit.
Small values of the coefficient signal about the undervaluation of shares, large values of the coefficient signify about their overestimation. Thus, this indicator not only allows you to compare the shares of different companies with each other, but also gives an idea of their true value.
The current market price of the shares (or its value at a certain date) can be taken in the archives of stock exchanges. The earnings per share (Basic earnings per common share, Basic and diluted earnings per share) can be found in the company’s income statement.