There are a lot of posts about market cap popping up again, so I’m repeating this information about using the free-float cap instead

TL;DR - The free-float market cap can be more accurate as it ignores the lack of influence from locked or lost coins.

Edit: free-float cap isn’t a perfect metric either (and can fluctuate a lot), but this is more to highlight that market cap in general is a pretty poor tool for measuring potential value.

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Market cap is a pretty straightforward calculation: you take a coin's current value, and multiply it by its circulating supply, and you've got the market capitalization of the coin; that is, the total value of all outstanding assets should they be available for sale right now.

See the catch? How about an example.

I create a new token. Let's call it Rugpull (RGP), with a maximum supply of 1 million tokens. I list it on Uniswap, and I make the first (and only) trade at $10 for 10 tokens.

That token now has a spot price of $1. By using our calculation above, $1 per token multiplied by all available tokes = $1,000,000 market cap. We've done it, we're rich!

What the market cap doesn't account for is liquidity. Sure, RGP is valued at $1 per coin by the people buying it, but you're the only trading it. It is still completely worthless, but it has a market cap of $1 million. Hell, you could pump the market cap to a billion by trading a single token for $1000. The point being that liquid supply needs to be considered in determining a coin's value.

This isn't an issue for most major coins of course. With billions of dollars flowing in and out of trades, the problem becomes almost invisible, but that doesn't mean it isn't there. Just keep this in mind.

In the same vein, market cap doesn't account for locked coins, such as those staked away. It does account for unmined coins by not including them in the calculation, but as far as online tools are concerned, every coin that has been minted is considered liquid and therefore suitable for inclusion in calculations.

We'll use a real coin as an example of this problem here; Cardano. Love it or hate it, it's a good example of the problem with market cap calculations (plus the data was easier to find than for other coins because it's all over the news right now).

As of two weeks ago, just over 32 billion coins were in circulation, at a cost of $2.50 per coin. That's a tidy market cap of $79.8 billion. Pretty good. If Cardano were to have the market cap of Bitcoin ($883 billion), each coin would be worth $27.50. A bit more sobering for those who think it could 100x over the next 5 years.

However: just over 70% of all Cardano is staked at present. This reduces our true circulating supply to 10.6 billion coins, and that at a price of $2.50 yields what is known as the free-float market cap. We ignore locked-in shares (and strictly speaking we should also remove those held by the cardano foundation internally) and yields our true tradeable supply.

The free-float market cap would be closer to $26.4 billion, and thus if Cardano were to reach Bitcoin's market cap, each coin would be worth $83.25.

Two quick notes: Staked ADA is technically liquid since it can be withdrawn at any time, but “technically liquid” only counts if it’s actually being used. While it’s not being used, it’s still considered locked, however by virtue of it being easy to unstake, the free-float cap can fluctuate wildly as a result. Also I should strictly speaking use Bitcoin’s free-float market cap for this calculation too, but I don’t know how many coins are permanently lost. Different estimates put it between 5-20% of the total supply.

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Now if we go back to our Rugpull token, we see the free-float market cap is $1 * 10 coins = $10. Much more realistic (though still overstated because of the liquidity problem)

The eagle-eyed among you will notice a hole in this method too; but it's just another tool in your belt to avoid falling prey to RGP.