Crypto is in the midst of another mighty boom, bringing all kinds of exciting opportunities for capitalizing on new money in the space.
One corner of crypto full of such opportunities is the Non-Fungible Token (NFT) market. The latest data suggests NFTs command a collective market cap over $28 billion, which is actually larger than former top-three altcoin XRP.
That perceived value isn’t totally centralized. NFT trade represents huge volume across the board.
For whales, spending millions of dollars on blockchain-powered JPEGs has become an oddly popular pursuit. But it’s simply not possible for those with much less to, say, buy a $69 million Beeple collage and wait for its value to potentially appreciate.
Merging NFTs with Decentralized Finance (DeFi) is one interesting path this cycle’s blockchain entrepreneurs reckon could bridge the gap.
NFTs meet DeFi
DeFi offers a solution: issue tokens representing fractionalized (fragmented) ownership of NFTs.
That way, cashed-up collectors could give smaller fish exposure to some of the most expensive NFTs on the market, democratizing the crypto-art world along the way.
One such token is the Beeple-themed B20, issued by a controversial figure named Vignesh Sundaresan. Sundaresan bought the $69 million Beeple piece at Christie’s last month after topping TRON’s Justin Sun in an apparent all-or-nothing bidding war.
B20’s other inclusions are mostly so-called digital real estate in the “metaverse.” There’s an art gallery where Sundaresan shows off his prized collection, a digital house on a digital waterfront, and an audio NFT of an ambient track by electronic artist 3LAU.
Despite B20’s spot under the broad umbrella that is DeFi, B20 is centralized by almost any metric. There’s about 5,500 B20 holders right now, the top 100 control about 85% of the supply.
In fact, Sundaresan says he alone will maintain ownership of at least 50% of B20’s total supply forever — an apparent marketing ploy to maintain the token’s value (if he sold more than half, how valuable could the assets really be?).
Public token sales are set to account for just 16% of the eventual 10 million supply, with the rest going to project insiders.
Not only that, Sundaresan (and by extension his firm Metapurse) alone maintain the collection of digital assets that purportedly give B20 its value. This again centralizes the project — its value could decrease if Sundaresan weighs it down with too much worthless junk.
No event implies it more than the explosion in B20’s price after Christie’s announced its auction of Beeple’s Everydays on February 16.
- B20 traded for $2 per token the day before Christie’s announced the Beeple auction.
- Two days later, B20 traded for $5.50 before it climbed alongside bids, which opened February 25.
- B20 topped out at $23.65 on March 11 — when Sundaresan agreed to pay Beeple $60 million (plus $9 million to Christie’s).
Indeed, B20 had jumped 1,100% in six weeks, but it’s still a very small asset with a market cap of just $36 million.
And while earlier marketing materials indicated Sundaresan would receive 59% of B20’s supply, blockchain data shows his wallet now holds a touch over 50% — a difference of 900,000 B20 tokens worth $6.5 million at today’s prices.
… meets SEC
In any case, such centralized endeavours often attract heat from the US SEC.
Assets with valuations sensitive to the efforts of a particular set of actors typically fall under the SEC’s jurisdiction, with regulators moving against dozens of token issuers since 2017’s ICO boom.
Preston Byrne, corporate lawyer and partner at New York’s Anderson Kill, wouldn’t comment on Sundaresan’s B20 token specifically.
However, Byrne told Protos it’s easy to over-build an NFT product and inadvertently turn a crypto-collectible into an investment contract. It’s nearly impossible to do the reverse.
So, it’s no surprise that last week SEC Commissioner Hester Peirce warned those issuing fractions of individual NFTs or NFT baskets could really be selling securities — which demands adherence to certain US laws.
The US classifies securities (investment contracts) using the Howey test. Simply put, securities are assets which could increase in value due to the efforts of others in achieving a common goal.
Stocks and ETFs are considered securities — but Bitcoin is not. After all, how can you have an investment contract with a decentralized network?
“Selling fractional shares of future cash flows is usually a dead giveaway of what US regulators would consider to be an ‘investment contract,’ and thus would regulate as any other security,” said Byrne.
Grant Gulovsen, Illinois-licensed attorney in private practice representing clients in the crypto industry, shared similar views.
In an email to Protos, Gulovsen stressed the sale of individual NFTs do not necessarily involve investment contracts (securities).
Still, it’s incredibly important that anyone promoting fractionalized NFTs — whether token issuers or platforms that support such assets — be mindful of US securities law.
“The offer and sale of fractionalized interests in NFTs — especially if those interests are promoted as ‘investments’ and there is reliance on the promoter to maintain or increase the value of those interests — is almost certainly going to involve investment contracts (i.e., securities) under US law,” said Gulovsen.
ERC-20 tokens backed by NFTs
Other NFT-related assets that could fall under the eye of US regulators are so-called NFT index funds, like the ones offered by NFTX.
NFTX doesn’t promote that its tokens give fractionalized ownership of NFTs, but it does offer investors exposure to smart contract-powered funds “backed by NFT collectibles.”
Similarly, “traditional” index funds offer investors exposure to exchange-traded products backed by a collection of stocks. Index (and mutual) funds are generally considered securities under US law.
Both Byrne and Gulosven refrained from commenting on whether SEC regulators would classify NFTX’s tokens as securities, but Byrne noted: “Anything that behaves like a security runs the risk of being regulated like one.”
Protos reached out to NFTX for their take. A spokesperson named ChopChop told this reporter they were “reaching,” and that NFTX products weren’t securities.
We also pinged Sundaresan about the SEC but received no response. We contacted Beeple for his thoughts on the matter too (Sundaresan claims to have “gifted” 2% of B20’s supply to Beeple, currently worth $1.46 million), but we’re also yet to hear back.
[Read more: SEC vs. Ripple Labs — Is XRP a security?]
For what it’s worth, SEC Commissioner Peirce is reportedly pushing for a “safe harbor period” to let token issuers to claim SEC exception for three years.
Although, any proposal still requires approval of SEC chief Gary Gensler, and Peirce emphasized she doesn’t know exactly how the plan will go. Issuers like Sundaresan shouldn’t bank on it passing any time soon.
As for how B20 is doing post-Christie’s hype — the token is trading for $7.30, 75% below its all-time high set around the end of the big Beeple auction.
Edit 07:14 UTC, Apr 2: Added date for opening bids at Christie’s in bulletpoints, paragraph 17 for clarity. Corrected Beeple’s B20 cut in paragraph 37.