The NFT Investor's Guide
A framework for investing in NFTs, bubble or not
It’s a dangerous time to invest in NFTs right now. That’s what makes it so exciting. Danger always comes with a tinge of excitement.
The NFT space started the year as an afterthought of the crypto space. Monthly sales volumes were in the single-digit millions of dollars. That changed in February when sales spiked to over $100 million, then surpassed $300 million in July, and vaulted over $3 billion in August. Many people who see OpenSea’s sales volume, the dominant NFT marketplace, may draw the rational conclusion that we’re in an NFT bubble.
More recent data from Dune Analytics shows a tapering in sales volume from the fever pitch at the end of August (note that the last day in the chart is only a partial reading); however, elevated sales levels relative to earlier this year remain.
If we’re in an NFT bubble, why even entertain investing?
The ends of bubbles are notoriously hard to time. The current NFT craze could last another several years, or it could cool by the end of this year. Regardless of when, or if, the current state of the NFT space changes, NFTs are an underappreciated technology as we think about the long-term evolution of the internet.
NFTs make cultural relevance an investable asset class. They enable pure expression of digital identity in a digital first world. And, yes, they can offer dividend streams tied to some project or underlying asset.
All these traits make NFTs an investment opportunity for those willing to learn and bear the volatility. Correction or not, bear market or not, it’s still early for NFTs. Investors with a solid idea for how they want to invest should weather any NFT winter and enjoy strong long-term returns. The following is not a piece about what to invest in, but rather a framework for how to think about what to invest in.
Of course, none of this is France advice. That’s a crypto joke. Nothing’s ever financial advice in case you haven’t noticed.
How to Value JPEGS
One of the most important things for any investor is to clearly define the game he or she is playing. Most investors never define the game they play, so they play a little of every game. They flip, they hold too long, they use derivatives. Investors who do everything may get lucky in a bull market, but usually the results disappoint over the long term.
The first distinction is between investing and speculating. Buffet said it best (paraphrasing): if you’re an investor, you look at what an asset is going to do, and if you’re a speculator, you look at what the price is going to do. Investing vs speculation is the most important distinction to make in understanding how capital is being allocated and the one easiest to mistake.
Many people think there’s quick money to be made flipping NFTs. Some people can do this well, most can’t. Flipping, or speculating, is dependent on hype and luck. Anything can moon if the right people shill a project, but if you’re not the one with the power to shill, you probably won’t be successful in flipping.
Investing necessitates a long-term mindset geared toward figuring out the intrinsic value of an asset. For NFTs, there are three games an investor can play:
These three categories create a spectrum from pure financial investment to social currency investment. The best projects figure out how to combine all three, with the value of future distributions augmented by the cultural relevance and/or utility of the piece.
NFTs that distribute other assets are the closest thing to stocks in that they offer a “dividend” stream. These projects require assessments of team and future cash flows similar to any equity investment.
An NFT can create distributions in three ways:
Future profit streams
Some projects distribute new fungible tokens to NFT holders. We’ve previously talked here about PUNKS tokens that will be distributed by Pixel Vault to Punks Comics holders. Those tokens represent a fractional interest in a vault of 16 Cryptopunks of assessable value. When those tokens begin trading, it’s reasonable to assume there will be a liquid market for them given the value of the vault.
Not all projects distribute tokens associated with a fractionalized vault with valuable assets. Some projects offer cryptocurrencies for use within a specific environment, in the spirit of utility tokens. For example, Monkey Bet DAO, a digital NFT casino, created Monkey Money (MM), which users need to play casino games. In both cases, there was or will be a distribution of those currencies to NFT holders. The value of those tokens will depend on the demand from users to play games in the casino.
Monkey Bet DAO NFT — An owner of the casino
Investing in NFTs that distribute crypto dividends requires the investor to estimate the future value of the distributed asset. The value of fractionalized blue-chip assets is more immediately definable than future expected utility of a game token, but either can provide a valuable dividend.
Future Profit Streams
While sending new fungible tokens to an NFT holder pay provide an abstract dividend, some projects promise to send a share of the profits to NFT holders. An example might be users that hold an NFT of a song or video. Royalties and ad revenue earned by the asset can be distributed to the holder or holders of the NFT. Investing in NFTs with a defined future profit stream is like investing in stocks. The value of the NFT can be defined as the discounted stream of future cash flows. Of course, in the example of music or video assets, fans of the artist are almost always likely to pay more for an asset than fair value determined by a reasonable discount rate.
The bigger challenge investing in NFTs that promise future profit streams is that they will almost certainly be considered a security by the SEC. Trading those assets will require regulatory compliance from both the issuer and the exchange where such assets are traded. There may be exemptions available for some, but investors should be aware of the potential regulatory challenge to any project that offers future profit streams.
I suspect most crypto distributions can avoid being deemed securities if they’re associated with either a fractional interest in some non-dividend bearing NFT or utility for some other use beyond money.
Distributing new NFTs to holders rather than fungible cryptocurrency is arguably the original distribution tactic, and the most clear of securities laws. In this mechanism, projects either airdrop new NFT assets to original holders or offer access to original holders to mint new assets at a low cost.
Bored Ape Yacht Club (BAYC) has used the strategy to the greatest success. They’ve done two airdrops now: one for Bored Ape Kennel Club (BAKC) and one for Bored Ape Chemistry Club. Only those community members that held original Bored Ape NFTs in their wallets would receive the new free NFT. BAKC dogs sell at a floor of 3.7 ETH (~$13k), and Mutant Serum sells at a floor of 4 ETH (~$14k). Even if you had spent 10 ETH on an Ape when the NFT craze was just beginning to take shape, you could have made back most of your money by selling the airdrops. NFT distributions also often include a lottery-like element for holders given the rarity of the distributed assets. Mutant Mega Serum, the rarest of the Bored Ape airdrops, has sold for over a million dollars, and the current floor price is $3.5 million.
Bored Apes --> Mutant Apes
Investors in projects that distribute additional NFTs need to estimate the potential value of those future NFTs. Most of the distributed NFTs in these cases will rely on cultural relevance for their value, and the distributions most likely to be culturally relevant will come from projects that are already culturally relevant. See Bored Apes. This creates a virtuous cycle where culturally relevant projects that use future distributions make themselves more valuable. Being more valuable makes the project more culturally relevant.
Aside from the value of distributed assets, investors playing the distribution game also need to assess the team associated with the project. The team ultimately creates value through utility of distributed crypto assets, revenue for profit stream projects, or cultural relevance of NFTs.
However, sometimes a “team” in the NFT space isn’t a team at all. Teams structure both in centralized and decentralized ways around NFT projects.
Centralized team structures have a dedicated and clearly defined team with responsibility for driving value to NFT holders. Pixel Vault is an identifiable team working to create value related to the Punks Comic and Metahero projects. The Bored Ape team is the same. To bet on either project is to bet that those teams will continue to create valuable distributions for holders. Don’t invest in NFT projects with a centralized team unless you believe the team is great.
A decentralized team structure is more communal. Some individual or team always needs to initiate the creation of a project but relying on the community to develop it further is a different philosophy. It’s more akin to religion than corporation. Don’t invest in NFT projects with a decentralized team unless you believe the religion is great.
Dom Hoffmann, prior founder of Vine, built Loot with a communal structure in mind. Loot is an NFT primitive for a fantasy realm. Basically, it’s a list of words describing randomized “adventurer gear” that other creators can use to bootstrap fantasy realm projects. Really, any projects.
Hoffman let people mint Loot for free (gas costs) a couple of weeks ago, and a community formed and began building faster than anyone could have expected. We’ve seen extensions to Loot to create Maps, Pets, generative art, and, most interestingly, Adventure Gold (AGLD). Adventure Gold is a primitive currency that can be used as a currency in Loot-based projects, and the creator of Loot had nothing to do with its creation.
Said another way, some person with no association to Loot created Adventure Gold and airdropped 10,000 AGLD to every Loot holder for free. At current prices, that’s about $26k in value for something that was probably minted for less than a couple hundred dollars a couple of weeks ago. Not to mention that Loot sells at a floor of 7 ETH (~$25k).
AGLD is a demonstration of the power of the decentralized team structure for building distributed value for NFT holders. Decentralized structures benefit from maximum creative output determined by the diversity and engagement of the community. A strong community has a good chance of building great things that benefit NFT holders looking for returns via distribution, as well as enhancing cultural relevance. The con of the decentralized team is that it can be hard to assess the strength of a community before a project is in the wild. At that point, it may be too late.
Regardless of what type of future distributions you’re looking for, when your discounted expected future dividends are well below the current value of an NFT, a good investor must be disciplined. You may want to sell if you own the asset, and you shouldn’t invest if you don’t own it.
Utility means an NFT offers some tangible benefit to holders of the token. Utility is more tangible to assess than cultural relevance but not as tangible as future distributions.
NFT utility comes in two forms: digital or real world.
An NFT with digital utility grants the owner some benefit to be enjoyed in the digital world. Digital utilities span a wide range of uses from game assets, to memberships, to ENS names.
Game-based utilities are already a familiar asset for many gamers. Fortnite uses skins. GTA Online lets players buy cars and weapons with in-game currency. NBA2K sells digital card packs. However, all these assets are controlled by the games. “Owners” can’t trade them for real currency, and they can’t use them outside of the game world.
NFTs allow for transporting game assets into the broader internet ecosystem with the benefit of provenance and tradability. Some new developers are building games around NFTs. Crypto Raiders is an RPG game where players need to buy a character to play, and that character can really die. When you die, you need to buy another player, represented by a unique token on the blockchain. This creates real consequences for in-game actions.
Virtual land in projects like Decentraland and The Sandbox represents another class of digital utility. Some NFT collectors have purchased land to build galleries to display their NFTs, others may use it to create businesses. Sotheby’s has a gallery in Decentraland to do both.
Sotheby’s digital gallery in Decentraland
ENS domains might be the best pure utility in NFTs. An ENS name is a domain name for your crypto wallet address. Instead of a wallet address of msLSiFDJzPaQKSSnRbW2K24VGZuzHxeKa8, an ENS domain makes it whatever.eth. The utility in having a memorable wallet address — which is where people receive payments in crypto — is just valuable, if not more, than a memorable .com name. Anheuser Busch recently bought beer.eth for 30 ETH (~$90k at the time).
Every company and person will need a .eth domain over the next decade just as they needed a .com over the past several decades.
What’s special about ENS domains is that they’re also NFTs. That means ENS domains have a traceable history, which could make them collectible beyond their utility function. We know what ENS domains were created when. How valuable from a historical standpoint do you think the world’s first few dozen web addresses might be? ENS domains will tell us the answer for crypto addresses.
Investments in NFTs with digital utility are broadly bets that the crypto landscape, and in many ways the metaverse, will continue to become a bigger part of our lives. Good investments in digital utility will be in things that provide value that can’t be found elsewhere. The best assets need to be scarce and irreplicable, not much different than domain names and land in the real world.
Real World Utility
NFTs with real world utility grant special benefits to the holder in the physical world. These types of tokens tend to work best with issuers that have an existing brand.
Influencer and entrepreneur Gary Vaynerchuk created VeeFriends that come with three types of utility: access, gifts, or admission. Access tokens grant the holder access to Gary, like having lunch or playing a game of tennis. Gift tokens come with a curated gift experience where Gary sends holders things he finds cool. Admission tokens grant access to attend an NFT-focused conference, VeeCon. The admission benefit comes with the other two categories as well.
RTFTK partners with artists and designers to offer unique products currently focused around streetwear. The company previously made shoes for Cryptopunk holders and has collaborated with popular streetwear designers like Jeff Staple.
RTFTK Alien Punk shoe
Investing in real world utility is harder than digital utility because real world utility tends to be focused on collectors. Resellers can make good profits as we’ve seen in sneakers, but this game requires a deep understanding of a niche community rather than a broad understanding of something tangibly useful like a domain name. As more use cases for real world utility emerge for NFTs, the category may be more attractive as an investment game. I’d leave it to collectors for now.
Owning something of cultural relevance has always been a status symbol. The utility of a culturally relevant asset is to express identity. Identity is a valuable thing. It’s in some ways priceless because it’s intangible. There are no certain expressions of cash flows that come from any given identity, although there may be certain benefits of social capital.
Since cultural relevance is intangible, the price someone might be willing to pay for the right NFT is not bound by rational realities of future distributions. In fact, culturally relevant things become more culturally relevant the more expensive they are and thus more valuable. The reason that Cryptopunks sell for more than $300,000 is because they’ve become culturally relevant, in part driven by their price. The more the price goes up, the more people talk about them.
Money makes things more relevant, whether anyone likes it or not.
When you play the cultural relevance game, you’re betting that an NFT will grow in relevance. To invest in Punks now requires a belief that they will become more relevant over time. As any asset grows in cultural relevance, the demand for ownership of that asset grows and, assuming the asset is scarce, prices grow accordingly.
Cultural relevance is fueled by four factors:
While these four factors may present separately, sustained cultural relevance often results from the combination of all four. As such, the factors are inextricably tied together. Great artists all have their own unique aesthetic, and communities that accept the aesthetic as beautiful form to promote it. History can stand alone. It can’t be changed after all. Beautiful history captured by a compelling artist is all the more powerful.
Artists are brands. Their cache makes their work valuable. Buying a piece of art from a respected artist is like buying a Louis Vuitton handbag. Name matters.
Artists become culturally relevant by speaking to the times. Many popular NFT artists were early and prolific. Those who created work for the digital economy built a reputation with early crypto adopters, who not so coincidentally have a lot of crypto to spend on NFTs. Now that many early NFT-focused artists have sold expensive works, some record-breaking, they’ve garnered more relevance and will likely always be desirable.
Beeple is probably the most famous artist in the NFT era. He’s sold the most valuable NFT, Everydays: The First 5,000 Days, for $69 million at a Christie’s auction. Crypto-native artists like Xcopy and Hackatao regularly sell unique 1/1 works for hundreds of thousands of dollars.
Early relevance can also be platform specific. While Ethereum is the platform of choice, artists can also create on the Solana or Tezos blockchains, among other options. jjjjjjjjjjohn is a popular artist on the Tezos chain that regularly sells pieces for tens of thousands of dollars.
jjjjjjjjjjohn’s Window Still Life 001
More recently, generative art has become the language of the times. Generative art is made by artists who use a program to generate digital art algorithmically rather than hand draw it themselves. Some have referred to it as “painting with code.” Tyler Hobbs’ Fidenza series on Artblocks is one of the most successful. A Fidenza sold for 1,000 ETH a few weeks ago (over $3 million at the time).
Fidenza #151 by Tyler Hobbs
When investing in artists, you either invest in known successes or artists yet to be discovered. The former is like investing in blue chip stocks. The latter is like venture capital. When you invest in a known artist, you’re betting that the value of their works will continue to grow. These bets aren’t that complicated. Per the Lindy Effect, the longer an artist is relevant, the longer the artist is likely to remain relevant. In the NFT space, where weeks feel like years, relevance over a short time can be validating.
When you invest in an unknown artist, you’re betting that they will somehow break through. In this case, you need to find artists using new techniques that create meaningful art. Investing in the 1,000th generative artist might work out if their work is compelling but investing in an early artist on a new platform or using a new process may be better.
Beauty may be in the eye of the beholder, but the value of beauty is a universal constant. Beauty strikes an emotional reaction in the viewer. That reaction carries intangible value.
Aesthetic beauty can help spark relevance for an artist, but beauty alone never makes an artist relevant. Most competent artists create beauty. It’s the artist’s story and brand that combine with beauty to create sustained and growing value. Conversely, it’s hard for an artist that may be strong with branding to overcome ugly art.
Beauty can come in many forms. Elegance is always beautiful. Satire can be beautiful. Ugliness, intentional or otherwise, can be paradoxically beautiful. Stupidity can be beautiful. I think the majority of new cat/dog/rat/whatever pfp projects are ugly and stupid, but many continue to be very successful.
The point is, beauty matters, and it’s entirely subjective. Your internal guide for beauty is the only one you have. Follow it. Just as stock investors who get the energy industry may never understand tech, stick to the beauty you understand if you’re investing in cultural relevance, and you should be in good shape.
One of the unique features of the blockchain that makes NFTs powerful is a full record of the asset from creation to current ownership. This is known as provenance.
Since most blockchains that power NFTs are relatively new (Ethereum, Solana, Tezos), even recent history may seem ancient. Strong collector communities have formed around assets that tie to certain events in the histories of those chains or the NFT market more broadly.
Cryptopunks are thought of as the OG NFT, but there are several projects that came prior seen to have historical value. Curio Cards are a set of 30 digital trading cards that launched in 2017 shortly before Cryptopunks. The rarest Curio Cards trade for hundreds of thousands of dollars.
PixelMap, a project that allowed for ownership of pixels on a map, was recently resurfaced. The creator started it in 2016, well before Curio Cards or Cryptopunks. A PixelMap now sells for about $10,000.
While both of those projects will remain relevant, they will struggle to challenge Cryptopunks or Bored Apes for equal cultural influence. The art isn’t that compelling, nor are the artists, and that means the communities aren’t as strong.
Community is the most powerful element of cultural relevance. Artists, aesthetics, and history can all be sparks for the creation of community, but no NFT will remain culturally relevant for long without a community that upholds it as such.
Communities can be organized or disorganized. Nearly every new NFT project launches with an organized Discord community where creators try to get a group of people excited. The best projects have communities that take on a life of their own. The worst projects have dead communities where no one cares.
When investing in cultural relevance, checking in on the Discord community is a strong tell for the sustainability of the project. Communities like Pixel Vault’s Founder’s DAO and Loot have very active discussions about the direction of the project.
Disorganized communities are a different animal. Cryptopunks don’t have a Discord channel where owners gather, at least as far as I’m aware, but there’s a certain camaraderie amongst Punks on Twitter. Punks engage with and pay attention to other Punks. Some are even a bit elitist. BAYC also sticks together in the broader social world, although with less of an elitist vibe.
Organized communities spark the start of cultural relevance, but a disorganized community solidifies it. When the community extends beyond the bounds of its own comfortable walls into the public forum, it’s a test of relevance. Projects that navigate that transition well have staying power. Projects that don’t are destined to remain niche.
NFTs are expensive JPEGs (and PNGs, and GIFs). They’re also real. NFTs will be critical fabric for the next evolution of the web. Investors that ignore them will miss out on an emerging market that is far less efficient in pricing value than the stock market.
This bright future doesn’t mean NFTs can’t be in a local bubble. Adhering to the principles above, there are few NFTs that offer objectively good future returns based on the first category of future distributions. There are probably some good long-term investments in the utility space. The cultural relevance space will probably see the greatest upheaval. Many popular current projects will disappear from relevance.
The reason to jump into NFTs now, despite whatever dangers may exist, is because of scarcity. Unlike stocks, NFT projects have strict limitations of how many exist. Even if more are created in the future, they’re not the same as the earlier versions, and we can verify that on the blockchain. The best NFT projects may not see tremendous turnover, even in a bear market. It’s those projects that are likely to be the FAANG stocks of the NFT space.
Discipline counteracts danger. Decide what game you want to play and have fun playing it.