Crypto-rich collectors offer their NFTs as collateral to get cash. But is it really a good deal?

The Art Detective is a weekly column by Katya Kazakina for Artnet News Pro that lifts the curtain on what is really current on the art market.

Beeple’s NFT Artwork Dick Milking Plant is not for everyone. In the center is a rocket-sized erect penis supported by a pair of giant testicles and supported by testicle-tickling elephants. Yes, you heard me.

But crypto investor Ryan Zurrer just had to have it. When it went up for auction on Nifty Gateway in May, it outbid 10 competitors and took home $505,050.

“Some people would find that quite revolting,” Zurrer told me during our phone conversation last month. “But I found it really interesting because it was an internal joke for our family office.”

Zurrer made his fortune investing in crypto assets. His invite-only multi-family office, called Dialectic, focuses on the challenges and opportunities presented by crypto wealth. He was thinking Dick Milking Plant was a good investment.

“We were going to put Dick Milking Plant at work, milking yield,” Zurrer said.

Here’s how it works: He borrows against the NFT in US dollars (most recently he got a $750,000 loan), then uses the capital as a lender in a riskier, interest-rate decentralized finance transaction. higher interest. “It gives me a margin between what I receive as a lender and what I pay as a borrower on a high-quality asset like a Beeple,” Zurrer explained. “The joke is how much money we make on this.”

It sounded like a tongue twister: Dick. Milk. Yield. But it also made sense that NFTs would now be treated like a mortgage on a house or, gasp, a Picasso.

Dick Milking Factory by Beeple of "Everyday." Courtesy of the artist and Nifty Gateway.” width=”800″ height=”1020″ srcset=” jpg 800w,×300.jpg 235w, DICKMILKING_PHYSICAL_vffrxh-39×50.jpg 39w” sizes=”(max-width: 800px) 100vw, 800px”/>

Beeple’s Dick Milking Plant daily”. Courtesy of the artist and Nifty Gateway.

Yet I had a hard time imagining, say, Bank of America granting a loan on Dick’s Milking Factory. (They won’t. More on that later.) Such transactions remain firmly outside the traditional banking system. There, in the world of “defi” (which stands for “decentralized finance”), CryptoPunks, bored monkeys, and Beeple Everyday are considered prime, tradable and monetized assets. And a growing number of investors are using them to play the yield game.

“It’s a space that’s attracting a lot of venture capital interest,” said Evan Beard, head of specialty segments, including art lending, at private bank Bank of America. “We monitor space. We are delighted. We are interested. »

At this time, Bank of America does not lend against NFTs, Beard said, adding that financial institutions are “years away” from entering the nascent segment. (In comparison, traditional art funding, a market expected reaching $30 billion this year seems almost old school. This field has grown enormously over the past decade as financiers have found a way to extract value from the art trophies hanging on their walls and stored in free ports.)

NFTs are a small but highly visible slice of a bigger pie. “It’s a gateway to a much larger potential world of intangible asset lending,” Beard said.

Think domain names, avatars, and in-game items. The idea that all those gems and gold my son used to collect and mine as a Minecraft-obsessed 10-year-old could to potentially be tokenized, monetized and used as collateral for loans sounds crazy. But it happens.

“Our end goal is to enable people who have accumulated largely digital wealth to convert it into real money,” said Josef Je, co-founder of PWN AG, a Swiss startup that facilitates lending against assets. digital. “At the end of the day, our target market is not NFT art, but it’s the one that gets the most attention.”

Evan Beard, head of artistic services at Bank of America, has followed the Salvator Mundi saga closely.  Still from the movie The Lost Leonardo.  Photo courtesy of Sony Pictures.

Evan Beard, artistic services manager at Bank of America. Photo courtesy of Sony Pictures.

PWN is part of a growing niche of new platforms that create smart contracts to store collateral in escrow on the blockchain. They provide the infrastructure but assume no financial risk or custody of the assets. Founded six months ago, PWN raised $1 million in seed capital from Dialectic de Zurrer and other angel investors, Je said. Another startup with a similar goal, Arcade, announced $15 million in seed funding in December.

The nascent market is small, but the growth is exponential. NFTfi, a South Africa-based company, has created smart contracts for $14.4 million in NFT loans so far this month, up from just $12,000 a year and a half ago, according to Stephen Young , CEO of the company. Total lending volume on the platform reached $55.5 million over 18 months, he said.

Yuga Labs LLC, 101 Bored Ape Yacht Club (founded 2021).  Courtesy of Sotheby's.

Yuga Labs LLC, 101 Bored Ape Yacht Club (since 2021). Courtesy of Sotheby’s.

Its main asset, a collection of NFTs known as Bored Ape Yacht Club, generated 188 loans totaling $12.6 million.

The interest is exorbitant, partly because of the volatility of collateral prices. For example, the average percentage rate (APR) for Bored Apes loans was 46%, according to NFTfi. But it can be even higher. Much higher. Loans for Hashmasks, an NFT collection of hodgepodge characters, had an APR of 131%, according to NFTfi. Banks, on the other hand, charged their best customers as little as 1 percent on art loans.

During this peer-to-peer phase, the lenders are usually individuals and venture capitalists. And the loan period is short – often between a week and 90 days – which makes the rates more reasonable. NFTfi’s main lender accounted for $11.7 million on 700 loans, reaping around $700,000 in interest earned, or 88.4% APR, the company said.

“Interest rates are also high due to limited access to collateral liquidation,” Je said. “Our loans don’t protect the lender as much. The default of the loan is that you get your hands on the collateral.

One of the Hashmaks. Courtesy of Hashmasks.

Unsurprisingly, the default is high and often attractive. Many “loan-to-buy” lenders are hoping for a default because they can get monkeys or autoglyphs for a pittance.

“It’s largely a game,” Beard said. “It’s completely separate from the type of lending that we grew up in Western civilization, where people don’t want to default on things for both moral and reputational reasons.”

The shameless financial calculus that is part of the mindset of the NFT collector is the biggest difference between this brave new world and the traditional art market.

It took decades for the collecting community to prepare to borrow against the Picassos and the Warhols. While financiers like Michael Steinhardt and Dan Sundheim have been savvy about extracting value from their collections, most people don’t advertise to do so.

“It’s not something they would talk about at dinner,” Beard said. “They don’t want to be seen as some kind of crass financial beast using their art in this way.”

The NFT space is different. Trade is endemic. And so there is no stigma in using a CryptoPunk as a financial instrument. NFT collectors “treat their NFTs almost like a form of currency,” Beard said. “And the aesthetic is secondary to the financial element.”

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