NFT Valuation By Franklin Fitch
Ok, we’ve gotten through our first blog, The introduction to NFTs. Hopefully, by now you’re aware of how important they will be. So let’s get down to the nitty-gritty. Valuation.
NFT valuation is a tricky subject. Various methodologies exist. Let’s first establish why it’s tricky, and what the key valuation factors are.
NFT valuation is tricky because NFT markets aren’t liquid. So there’s no order book to derive price from. Price trend data also tends to be quite limited. And last traded price is often not at all an accurate measure of current value, nor is trend data with only five trades in the trade history. So there remains a significant problem in regards to liquidity to be solved, in order for price discovery of NFTs to become more equitable and more efficient.
Possible solutions to this problem are fractionalization, so creating “shards” of an NFT, and trading those. Think of the Mona Lisa as an NFT, cutting that up into 10,000 slices and trading those. The core asset is sort of the ‘master’ and the shards are its constituents.
This helps for sure, but we still have an issue with market-making in this context. Does every shard have the same value? What if one shard was owned by a prominent collector and another wasn’t (see provenance)? Can shards be placed in an order book in the same way ERC20 tokens would? There are some prevailing functional questions here.
Another possibility is to bundle up NFTs, create an ERC20 token associated with the bundle, and sell those. So package NFTs together and use a sort of index mechanism to speculate on the value of the bundle. The questions here are, does the ERC represent ownership of any assets or not? Or is it merely an aesthetic proxy for the assets in the bundle. No perfect solution on this exists yet.
Some experiments in this realm worth further research are:
But back to the subject at hand. What are the tenets of valuing an NFT, or of art in general?
When valuing traditional art we look at a few key factors. Those include:
- The charisma of the artist (qualitative)
- The relevance of the artwork (semi qualitative)
- The past traded value of the art and art value trajectory (quantitative but limited data to project trends given nascence of the industry)
- Provenance, who owned the art before (semi qualitative)
- Narrative and subjective qualities (qualitative)
- Rarity (a key one, how rare/scarce is the asset? Mostly quantitative. Can look at the number of editions, number of total works from the artist etc. But also consider number of works of that style)
- Condition (not really an issue for NFTs, and in legacy art world is qualitative but not really subjective. Could consider digital ‘condition’ in something like NBA top shot, as legendary versus common, but this is really primarily in reference to rarity)
- Function (saved one of the best for last. What does the art or NFT do? This is where NFTs shine. They can serve a purpose in a game, unlock something like an experience or some content, or serve a broader cultural function)
One party doing NFT valuation now is Nonfungible.com, but they tend to incorporate only the price history and focus on quantitative factors in valuation. There is a significant prevailing need to weigh qualitative factors when valuing NFTs. Quantitative alone won’t cut it. Because as we have described, there is simply not enough historical data to price on this alone. It will improve over time, but a great collector must take the qualitative factors into account.
How do qualitative factors get included in a fair way? They are the key aspect of price differentiation, but also the most difficult to pin down. Individual assessors typically are the way qualitative details are factored in the traditional art world. But such assessors don’t exist at scale in NFTs.
So the job falls to us.
Here’s my advice on valuing qualitatively. A series of questions you can ask yourself.
- What pieces are selling the best in the market right now? Where does the piece I’m valuing compare to those, where does it not compare to those?
- What is the story of the artist? What are their major accomplishments? Do they have some very compelling personal narrative?
- Is the artist themselves a good storyteller with a developed presence online? Not just followers, but a presence.
- As to the art itself, what is it’s subject matter? Is it something that is likely to appeal to people?
- Is the art visually stunning or uniquely innovative in some way? Does it employ some technology, method, or perspective that has never been captured before?
- Have any major collectors owned it before? If so, who? Was the art part of a virtual gallery?
- Has the artist developed a distinct style that is universally recognizable?
- Is the piece a collaboration between artists? If so, on what basis?
- If the piece is a game item, what does the game item do, and why would that be important to a collector?
- Is it a ‘genesis’ type item? As in, the first of a series that will be uniquely desirable. Or the first work of an artist. Or their first in a certain style.
This is a set of questions you can ask yourself that will greatly improve your collecting, if you are seeking to accrue value. And to be honest, even if you aren’t seeking to accrue value, you should be asking yourself these questions anyway. They make you a more thoughtful collector, with a greater aptitude to determine what is innovative and has a strong narrative, and what does not.
In summary, NFT valuation is tricky. Primarily because of the dearth of quantitative data. There are some innovations that will come with this as the data grows more robust, but it is important for collectors who want to collect early and collect successfully to master qualitative valuation techniques. Read the above bullets, and also study how legacy art collectors value top dollar work. Understand and appreciate provenance. Seek art that is stunning, early, innovative, and tells a great story. Or just art that means something deeply to you. Because chances are it means something deep to someone else too in that case.
You can follow me on Twitter here for more!
Little something I drew.
“Force lightning”, based on the iconic scenes of Darth Sidious blasting his enemies with lightning.
Will tokenize this later after I release the genesis piece and touch it up. pic.twitter.com/QypKrQTY56
— Franklin Fitch 👀 (@cryptofitch) November 22, 2020