Aggregate NFT trading volume continues to drop off significantly during the month of March with many collections and sectors trending downward. We investigate trends during the bear market and discuss why Blue Chip NFTs have outperformed during the April recovery.

NFT bear markets are now an established phenomena with at least two identifiable periods of downtrending trading volumes post the peaks in Aug ‘21 and Jan ‘22. During stock market corrections, there are known defensive factors such as ‘quality stocks‘ which outperform other bull market factors such as ‘growth‘ during such times. We investigate whether similar applications can be made to the NFT market.

Market Analysis

Measuring the ETH volume of the overall NFT market, we can clearly see highlighted in red, the Autumn ‘21 & Spring ‘22 NFT bear markets where volume declined from the peaks of volume prior to them.

The Spring ‘22 bear market was precipitated by the Pixelmon Dutch auction for 3Ξ that occurred on Feb 7th ‘22. The event has gone down in NFT infamy as a significant liquidity outflow where $70M USD was removed from the market and volume subsequently declined across the entire market in March with indicators of a recovery in April.

Sector Analysis

Here we compare 4 indexes from Nansen during the March bear market and subsequent April recovery:

• Nansen Blue Chip-10 Index: an assortment of market leading projects within the NFT sector whose significance and recognition can be regarded as ‘top tier‘’ amongst market participants
• Nansen NFT-500 Index: a broad index tracking the top 500 collections weighted by market cap
• Game-50: a niche index tracking the top 50 P2E and blockchain games by market cap
• Metaverse-20: a niche index tracking the 20 virtual land projects by market cap

Feb/March ‘22 Bear Market:

Market volume had already started to show signs of weakness at the end of January, but the Pixelmon DA on the 7th of February was the nail in the coffin as everything NFT related dropped in price, leading to the wider NFT-500 correcting by about 30% before bottoming in mid March.

Blue Chips were not spared on the way down & floor prices contracted by roughly the same amount as shown in the table below. Initially, there was a sentiment that ‘utility‘ projects such as virtual land were safe havens during the downturn and therefore saw less of a correction (-16%) compared to some of the other sectors.

April ‘22 Recovery:

After volumes hit rock bottom on March 10th, the post-recovery period has been stark. The NFT-500 itself is back up 21% off the lows but the Nansen Blue Chip-10 Index has risen a staggering 43% since then (without the inclusion of Moonbirds as part of the index). In comparison the Game-50 and Metaverse-20 have lagged behind significantly, down 13% and 10% respectively continuing from its existing March 10th market lows.

“Flight To Quality”

What has driven this divergence? It seems to be a classic case of ‘Flight to Quality‘.

As defined by Investopedia, flight to quality refers to the herd-like behavior of investors to shift out of risky assets during financial downturns or bear market. This often occurs with a shift out of stocks and into bonds, where bonds are seen as relatively more safe and thus higher "quality" during rough economic patches.

Initially, this was seen just in a rotation out of NFTs in general from Feb 7th to March 10th, but since then we have seen funds creep back into solid Blue Chip projects with known quality teams and products with utility rather than speculative assets (think newly minted PFP projects with no doxxed team or roadmap).

The ‘quality‘ factor is described in academic literature as capturing companies with durable business models and sustainable competitive advantages. Quality is categorized as a “defensive” factor, meaning it has tended to benefit during periods of economic contraction (such as we have seen with the market volume contraction in NFTs).

For stocks, we would be looking at Return on Equity, Debt to Equity and Earnings Variability metrics as indicators of Quality. Quality growth companies tend to have high ROE, stable earnings that are uncorrelated with the broad business cycle, and strong balance sheets with low financial leverage.

With NFTs, finding companies with durable business models, sustainable competitive advantages, strong balance sheets and stable earnings leads you to only one place- Blue Chip NFTs.

Large Caps Dominate

Following the release of $APE, BAYC had a stunning run from a floor price of ~74Ξ on 10th March 22 back up to ~144Ξ at the end of April. Azuki also became the main topic of attention with its airdrop & rallied from a low of ~9.5Ξ to >30Ξ before settling at its value of ~25Ξ now.

Mid/Small Caps Lag

We have seen investor hesitation to put money back into Mid Cap (1Ξ to 5Ξ) and Small Cap (less than 1Ξ) projects. The below table are just four well known examples in the market but illustrate how they have lagged in comparison to the above blue chips in terms of recovery. Some projects have performed parallel to the overall 20% market rally but others have lagged badly.

The Forgotten Metaverses

However, it has not just been Mid & Small Caps failing to recover. P2E gaming & metaverse in particular have taken a hit despite holding up well during the initial stages of the bear market. Since then, most projects within this niche have their floor price bleeding away despite the price rally on Blue Chip projects.

Utility In Focus

One of the bright spots since the dark days in March has been the market‘s renewed focus on utility projects. Below are some great examples of solid utility projects launching since the lows and having been rewarded by the market by their usefulness and practical value.

Winners And Losers

So where does that leave the average NFT investor? A basket of Blue Chip NFTs would have outperformed most strategies since the Feb 22 dip, almost doubling in price (before taking into account highly valuable BAYC/Azuki airdrops).

However, holding a basket of Metaverse NFTs would have resulted in a large loss in net worth with investors being ~40% down on average.

Mid Caps have seen mixed results with the tendency to have been fairly flat or slightly downtrending depending on the project. No generational wealth has been created through these picks over the past month for the diversified Mid Cap portfolio owner.

Moonbirds and its parabolic price action is fresh in everyone‘s memory as the market proved it was happy to commit even to new mints by proven teams in this new environment. Quality as a factor has dominated and truly been a case of ‘the rich getting richer‘ as these assets have outperformed the market.

Entries - The Value Factor

The focus on Blue Chip quality and utility has been an encouraging and natural sign of market health to the folly of dropping $70M USD on the overhyped Pixelmon debacle, whose founder turned out to be a 21 year old kid with no experience and qualifications.

How long will the NFT collective market memory be? History since “tulip mania” in the 17th century is long and suggests that investors' memories are fleeting. No doubt the next NFT bull will see similar comedic capital misallocations.

The evidence here though is perhaps that a lot of the upside in Blue Chips has potentially already been extracted. No doubt they will continue to rally during the next bull run but multiples of 2x and even 4x are still somewhat limited at current price levels.

Instead, attention should be given to the underperforming mid & low cap projects where they can prove quality & utility. As we prepare for additional BAYC land drop details in the coming weeks, focus may shift to those out-of-favor P2E & Metaverse plays that could be triggered as collective attention turns back to this sector post-Otherside drop.

In stocks, we talk about the ‘Value‘ factor where cheap assets outperform expensive assets due to being either riskier (e.g. financially weaker) or mis-priced (e.g. greed/fear causing investors to push prices too high/low). Value is categorized as a “pro-cyclical” factor, meaning it has tended to benefit during periods of economic expansion.

This next period in the bull market for NFTs is likely to be ‘economic expansion‘ and as NFTs reach the masses, no sector stands to benefit more than the gaming and P2E niche. Value can be found in this sector as it is oversold (as shown by the graph on the previous page) but choose your projects wisely.

Check out our current & prior issues for projects in the P2E category that may deserve your attention.

Risks

Economists increasingly forecast a potential global recession. If such a macro event were to take place, expect more of the same flight to quality away from NFTs in general but likely worse than the bear market in February.