It is dangerous to invest in NFTs right now. That is what makes them so exciting. Danger always comes with a note of excitement. At the beginning of the year, the NFT trend was the last thing on anyone’s mind in the crypto space.
Monthly trading volumes were only a few million dollars. February was the month of change and sales jumped to $100+ million, then surpassed the $300 million bar in July and peaked at $3 billion in August.
For many people who watched this bacchanalia taking place on OpenSea, the dominant NFT marketplace, it was logical to conclude that this was a real NFT bubble.
Fresh data from Dune Analytics indicates a decline in sales volume from the peak at the end of August (note that the last day on the chart is only a partial value); however, there remains an elevated level of trading compared to early 2021.
It is difficult to predict the moment when the bubble will burst.
The current NFT craze could continue for a few more years, or alternatively stop by the end of this year.
But either way, NFT is still an undervalued technology when you think in terms of the long-term evolution of the Internet. NFTs transform cultural value into an investable asset class. They are a pure expression of digital identity in the new digital world.
And, yes, they can pay dividends tied to a project or an underlying asset. These characteristics make NFTs an investment opportunity for those willing to learn new things and tolerate volatility.
Correction or not, bear market or not, it is still early days for NFT. Investors with a clear idea of how they invest are sure to weather any winter in the NFT market and generate high returns over the long term.
The article below is not about what to invest in, but how to choose what to invest in.
One of the most important things for any investor is to clearly define the rules of the game he or she is playing.
Most investors don’t understand what game they are playing, so they play every game, but a little bit at a time. They flip, they overextend, they actively use derivatives.
Investors who do everything may get lucky in a bull market, but the long-term results tend to be disappointing.
The primary challenge is to understand the difference between investing and speculation.
Buffett said it best (paraphrased):
“If you are an investor, look at what the asset will do, and if you are a speculator, look at what the price will do”
The difference between investing and speculating is the most important thing to understand to allocate capital wisely. This is exactly where it is easiest to go wrong.
Many people think they can get rich quick by flipping NFT. Some succeed, but most don’t. Success in speculating fast depends on shillings and luck. The price of anything can instantly go to the moon if the right people get involved in promoting the project.
But if you’re not that person, it’s unlikely that you’ll succeed in flipping. Investing requires a long-term vision to determine the intrinsic value of an asset.
In the NFT space, there are 3 games an investor can play:
All 3 categories create a range of investment: from purely financial investment to social currency investment. The best projects have an idea of how to combine all 3 areas, with the value of future distribution being increased by the cultural significance and/or usefulness of the work.
NFTs that are characterised by the distribution of other assets are closest to equities in the sense that they offer a stream of ‘dividends’. Such projects require an understanding in how to value the team and future cash flows. This is similar to any equity investment.
NFTs can create a dividend stream in the following ways:
Some projects distribute new interchangeable tokens to NFT holders. We’ve already talked about PUNKS tokens that will distribute Pixel Vault to Punks comic book owners. These tokens represent partial ownership of a vault of 16 cryptopunks.
Once trading begins, it is reasonable to assume that there will be a liquid market for these tokens, given the value of the vault. But not all projects are giving away tokens linked to the vault with valuable assets. Some projects create tokens that can only be used in a certain environment.
For example, Monkey Bet DAO, a digital NFT casino, created Monkey Money (MM), which is needed for users to play casino games.
In both examples, there is or will be a distribution of these cryptocurrencies to NFT holders. The value of MM will depend on user demand for casino games.
When investing in NFTs that distribute crypto dividends, an investor needs to be able to estimate the future value of the distributed asset. It is easier to estimate the value of fractionated blue chip assets than the future expected utility of a gaming token. But both can yield valuable dividends.
Sending new interchangeable tokens to an NFT holder provides an abstract dividend, but some projects go the route of sending a portion of the profits to NFT holders.
Good examples are users who have NFT songs or videos. Royalties and advertising revenue generated by the asset can be received by the owner or owners of the NFT. Investing in an NFT with a certain future income stream is similar to investing in a stock. The value of an NFT can then be defined as a discounted cash flow.
Of course, in the example of music or video assets, fans of the artist are almost always willing to pay more than the fair value determined by a reasonable discount rate for the asset.
✍🏻 The biggest problem with investing in such NFTs is that the SEC would be almost 100% certain to treat them as securities.
Trading such assets would require regulatory compliance on the part of both the issuer and the exchange on which such assets are traded.
There may be exceptions for some, but investors have a responsibility to be aware of the potential regulatory risks when investing in any project that offers future profit streams. We can suspect that most of them can avoid being considered securities if they involve either an interest in some non-dividend paying NFT or a utility other than money.
Distributing new NFTs, rather than interchangeable cryptocurrencies, to holders is probably the most original way of distributing that can solve the regulatory problem.
Under this mechanism, projects either drop new NFTs to current holders, or provide private access to minet new assets at a low price.
🐵 Bored Ape Yacht Club (BAYC) has successfully used this strategy. They already have 2 drops to their credit:
Only those community members who keep the original NFTs from BAYC in their wallets received a new free NFT.
The BAKC dogs sell for 3.7 ETH (~$13k) and the mutant serum sells for 4 ETH (~$14k). Even if you had spent 10 ETH on Monkey at the inception of NFT madness, you could recoup most of your money by selling free drops.
Such a distribution also often includes an element of a lottery for holders, due to the rarity of the distributed assets. The Mutant Mega Serum, the rarest of the latest monkey drops, sold for over $1,000,000, and the current minimum price is $3.5m.
Those who invest in projects that distribute additional NFTs should assess the potential value of these future NFTs.
The value of most such new NFTs depends on the cultural value of the projects that launch them. As in the BAYC example.
This creates an effective cycle in which culturally relevant projects that use the distribution of other NFTs become more valuable.
By being more valuable, the project becomes more culturally relevant.
In addition to the value of the assets distributed, investors using an allocation strategy must also be able to value the team associated with the project.
After all, it is the team that creates value through distributed crypto-assets, revenue stream or increased cultural relevance of NFT. Sometimes, though, the “team” in the NFT space is not a team at all.
Centralised team structures include a specific and well-defined team responsible for adding value to NFT for the owners.
👥 Pixel Vault is a recognisable team working on value creation related to Punks Comic and Metahero projects. BAYC does the same.
Betting on either of these projects means betting that these teams will continue to create valuable giveaways for owners. A decentralised team structure is more social. A certain person or team initiates the creation of the project, but relies on the community for further development.
This is a completely different approach. More like a religion than a corporation.
❗ “Don’t invest in NFT projects with a decentralised team unless you believe religion is good.”
– Dom Hoffman, founder of Vine, created Loot with social structure in mind.
Loot is an NFT primitive in the realm of fantasy. Basically, it’s a list of words randomly describing “traveller’s gear” that other creators can already use to launch fantasy projects.
Just any projects.
Usefulness means that NFT offers some tangible benefit to token holders. Utility is easier to assess than cultural significance, but not as easy as future distributions. NFT value is manifested in the real or digital world.
NFT digital usefulness allows the owner to obtain certain benefits that can be enjoyed in the digital world.
Digital usefulness covers a wide range of applications, from gaming resources and memberships to ENS user names.
Game-based utility is already quite familiar to many gamers:
However, all of these assets are controlled by the game creators.
“Owners” cannot exchange them for real currency, nor can they be used anywhere outside of the game world.
With NFT, game assets may well be moved to the wider internet ecosystem, leaving the benefits of provenance verification and the ability to trade.
Some new developers are creating games around NFT.
👉🏻 Crypto Raiders is an RPG game where players have to buy a character to play, and that character can actually die.
When a character dies, the player needs to buy another player represented by a unique token on the blockchain. This creates real consequences for actions in the game.
Virtual lands in projects like Decentraland and Sandbox represent another class of digital utility.
Some NFT collectors buy land to build galleries where they will display their NFTs, while others can use it to build businesses.
Sotheby’s has a gallery in Decentraland that operates on both fronts.
ENS domains are perhaps an example of pure utility. The ENS name is the domain name of your cryptocurrency wallet address.
Instead of an address like “msLSiFDJzPaQKKSSnRbW2K24VGZuzHxeKa8” you get an ENS domain that looks like whatever.eth.
The usefulness of a memorable wallet address where people receive payments in cryptocurrency is as valuable, if not more so, than whatever_name.com.
Anheuser-Busch recently purchased beer.eth for 30 ETH (~$90,000 at the time of purchase). A .eth domain will be needed by any company or person over the next decade just as they needed a .com domain.
The special thing about ENS domains is that they are also NFT. This means that the movement history of ENS domains can be tracked, which can make them collectible beyond their functionality.
We know when ENS domains were created.
How valuable do you think the world’s first few dozen web addresses could be from a historical perspective? ENS domains will tell us the answer. Investing in NFTs with digital utility is essentially betting that the crypto industry and in many ways meta-universes will continue to become a bigger part of human life.
A successful investment in digital utility is an investment in something that provides value that cannot be found elsewhere. The best assets should be scarce and irreplaceable, not much different from domain names and land in the real world.
NFTs with real-world utility provide special advantages to the owner in the physical world. Such tokens tend to work best for issuers who already have an existing brand.
Influencer and entrepreneur Gary Vaynerchuk created VeeFriends with three types of utility:
💡 Access tokens give the owner access to Gary, for example, to have lunch or play tennis with him.
💡 Gift tokens mean that Gary will send holders things he finds cool.
💡 Entry tokens provide access to attend the VeeCon NFT conference.
The perks of the first two categories are also included in the entry tokens. RTFTK has partnered with artists and designers to offer unique streetwear-focused products. The company has previously produced shoes for cryptopunk owners and collaborated with popular streetwear designers such as Jeff Staple.
Investing in real-world utility is harder than investing in digital utility because real-world utility tends to be collector-oriented.
Resellers can make great money, as they did with trainers, but such a game requires a deep understanding of the niche community rather than a broad understanding of something tangibly useful such as a domain name.
As NFT has more real-world applications, this category could become more attractive from an investment perspective.
I’d leave it to the collectors for now.
Possessing something of cultural significance has always been a status symbol. The usefulness of a culturally significant asset is an expression of identity.
Identity is a valuable thing. In a sense it is priceless because it is intangible. There is no definite cash flow that comes from any particular identity. Because cultural significance is intangible, the price someone might be willing to pay for NFT may have nothing to do with the rational realities of future distributions.
In fact, culturally meaningful things become more culturally significant as their value, and hence value, increases. The reason cryptopunks trade for more than $300,000 is that they have become culturally relevant in part because of their price.
The more the price rises, the more people talk about them. Money makes things more meaningful, whether you like it or not.
If you’re playing the Cultural Relevance game, it means you’re betting that NFT relevance will increase.
To invest in punks now, you need the belief that they will become more significant over time. As the cultural significance of any asset increases, the demand to own that asset also increases and, assuming the asset is scarce, the prices will rise accordingly.
Cultural significance is fuelled by 4 factors:
These four factors may manifest themselves separately. However, stable cultural relevance is often the result of a combination of all four.
These factors are inextricably linked. All great artists have their own unique aesthetic, and communities that take the aesthetic as a beautiful form and popularise it.
History can stand apart. After all, it cannot be changed.
The artist is the brand. The brand is what makes the work valuable.
Buying a work of art from a respected artist is like buying a Louis Vuitton handbag. The name matters. Over time, artists become culturally relevant. Many popular NFT artists are early experimentalists. Those who have created work in the digital world have earned a reputation with early crypto-users who don’t happen to have a lot of cryptocurrency on hand to spend on NFT.
Crypto-artists such as Xcopy and Hackatao regularly sell unique works for hundreds of thousands of dollars. Early relevance can also depend on the platform. You can choose Ethereum and create on it, but artists can also create on Solana or Tezos blockchains.
jjjjjjjjjjohn is a popular artist on the Tezos network who regularly sells works for tens of thousands of dollars.
Generative art has recently become popular. Generative art is created by artists who use software to generate digital art through an algorithm, rather than drawing it by hand.
Some call it “drawing with code”. Tyler Hobbs’ Fidenza series on Artblocks has become one of the most successful. A few month ago Fidenza was sold for 1000 ETH (over $3 million at the time of purchase).
When you invest in artists, you are either investing in someone famous or in artists who have yet to be discovered.
The former is like investing in blue chip stocks. The latter is similar to venture capital. When you invest in a well-known artist, you are betting that the value of their work will grow. There is nothing complicated about that.
According to the Lindy effect, the longer an artist is relevant, the more likely they are to remain relevant.
In the NFT space, where weeks seem like years, relevance can be confirmed in a short time. When you invest in an unknown artist, you are betting that they will somehow make it through. In this case, you need to find artists using new techniques that create meaningful art.
Investing in a millennial generative artist might work if their work becomes appealing, but investing in an artist on a new platform or using a new technology might be better.
Beauty may be in the eye of the beholder, but the value of beauty is a universal constant.
Beauty evokes an emotional response in the viewer. This reaction carries intangible value. Aesthetic beauty can help to reveal the artist’s worth, but beauty alone will never make an artist meaningful. Most skilful artists create beauty. Sustained and growing value is the result of a mixture of history, brand and beauty. Conversely, an artist with a strong brand can find it difficult to succeed if their art is ugly. Beauty can come in many forms.
Elegance is always beautiful. Satire can be beautiful. Ugliness, intentional or not, can be paradoxically beautiful. Stupidity can be beautiful. I think most new avatar projects with cats/dogs/rats/whatever are ugly and silly, but that doesn’t stop many of them from being very successful.
The thing is, beauty matters, but it’s completely subjective. All you have is your inner sense of beauty. Follow it.
❗ If you invest in cultural value, then stick to beauty that you understand, and then you’ll be fine.
One of the unique features of blockchain that adds to the power of NFT is the complete record of an asset’s movements from creation to current ownership. This is called provenance.
Given that most of the blockchains that support NFT are relatively new (Ethereum, Solana, Tezos), even recent history can seem ancient. Strong collector communities have formed around assets that are associated with certain events in the history of these networks or the NFT market in general.
Cryptopunks are considered OG NFT, but there are several other projects that have historical value.
➡ Curio Cards are a set of 30 digital trading cards issued in 2017 shortly before cryptopunks.
The rarest Curio Cards sell for hundreds of thousands of dollars.
➡ PixelMap, a project that allowed you to own pixels on a map, has recently resurfaced. The creator launched it in 2016, long before Curio Cards or Cryptopunks.
PixelMap now sells for around $10,000.
Both of these projects will remain significant, but they will struggle against Cryptopunks or BAYC in terms of cultural impact. The works, like the artists, do not seem compelling, which means that the communities are not as strong.
Community is the most powerful element of cultural relevance.
Artists, aesthetics and history can all form the basis of a community, but no NFT can remain culturally relevant for long without a community that supports it. Communities can be organised and unorganised. Almost every new NFT project is launched with an organised community on Discord, where the creators try to enthuse a group of people.
When investing in cultural relevance, an important indicator of a project’s sustainability is community activity on Discord. Projects like Pixel Vault or Loot have communities that are very active in discussing different areas of development.
Unorganised communities are another matter. Cryptopunks, as far as I know, don’t have Discord. But there is a certain camaraderie among punks on Twitter. Punks interact with other punks and pay attention to each other. Sometimes with excessive arrogance.
BAYC also stick together in the social world, albeit with less arrogance. An organised community gives rise to cultural relevance, whereas an unorganised community reinforces it. When a community goes public outside its own comfortable walls, it’s a test of importance.
Projects that manage this transition well have resilience. Those projects that don’t make it will remain niche.
NFTs are expensive JPEGs (and PNGs and GIFs). And they are real. NFTs will be crucial for the next stage of the Internet’s development.
Investors who ignore them will miss out on the emerging market, which is far less efficient in terms of valuation than the stock market. This does not mean that NFT is not in a bubble right now. According to the principles above, there are a few NFTs in the market that objectively offer good returns in terms of the first category of allocations.
There are probably good long-term investments in terms of utility as well. The field of culturally relevant works is likely to see the biggest breakthrough.
Many current popular projects will cease to be relevant. The reason for investing in NFT now, despite all sorts of risks, is scarcity. Unlike stocks, NFT projects have strict limits on numbers. Even if more are created in the future, they will not be the same as earlier versions, and we can check that on the blockchain.
The best NFT projects may not trade actively, even during a bear market. These are the kind of projects that are likely to become analogous to FAANG stocks in the NFT space. Restraint counteracts risk. Decide which game you want to play and have fun playing it.