Last week a mint-condition 1952 Topps trading card of Mickey Mantle broke an auction record. That year, Mantle was in his second season with the Yankees, scored 94 runs and batted .311. Since his salary wouldn’t top out, at $100,000, for another eleven years, you can calculate that his Major League earnings totaled less than $1 million, or about $9 million in today’s dollars. On August 28, however, his card sold for $12.6 million. https://www.npr.org/2022/08/28/1119849460/mickey-mantle-baseball-card-sales-record-sports-memorabilia. That card is more Commerce Comet than he ever was.

Before you ask, “Why?”, let me remind you there’s no accounting for taste. In recent years we’ve seen all sorts of things sell for prices that can’t be logically explained by any measure of intrinsic value, including a million-dollar bottle of scotch (see https://www.brokeandbroker.com/4240/frumento-crazy-rich-asians/), and Beeple’s $69 million digital collage of (his words) "art crap" (see https://www.brokeandbroker.com/5764/insecurities-aegis-frumento-quixote/). But the same could be said of many a stock and bond too, so judge not.

One thing is -- I think -- sure: The Mick’s Topps card is not a security. But “securities” under the federal Securities Act includes something called an “investment contract.” By the time the federal Securities Act was passed in 1933, investment contracts were well-known from state securities laws, so when the Supreme Court in SEC v. W.J. Howey Co. came to define it for the new federal law, it looked to how states did it: (1) there is an investment of money; (2) the investment is in a common enterprise; (3) there is a reasonable expectation of profit; and (4) the expectation of profit is derived from the efforts of the promoter or a third party. https://tile.loc.gov/storage-services/service/ll/usrep/usrep328/usrep328293/usrep328293.pdf. In Howey, the investment contract comprised an offer to sell land that was part of an orange grove, together with a service contract with an orange grower to husband the grove, harvest the crop and sell the oranges for an expected annual return. The land, oranges and labor were not "securities;" but the economic arrangement of the three was.

So, sure, the Mantle trading card itself is not a security. But what if the new owner wants to recoup his $12.6 million by selling interests in the card to others? The value of the card depends at least on it being maintained in its current mint condition. One can’t cut it up and distribute its pieces to co-owners, like coupons from an old-style bond. Someone has to be responsible for storing it, renting a bank vault, paying the storage fees, appraising it, insuring it, and otherwise handling it so as to protect and even enhance its value -- in short, has to manage the investment. It’s no stretch of the imagination to see an arrangement like that as an investment contract under Howey.

Well, it’s not 1952 anymore. Three days after the sale of the Mantle card, Dapper Labs, Inc. filed a motion to dismiss a federal securities class action brought against it by plaintiffs claiming that Dapper sold unregistered securities. The alleged securities that Dapper didn’t register were its digital trading cards, sold in conjunction with the National Basketball Association under the name “Moments.” If in 1952 trading cards had the player’s picture, autograph and stats, modern day Moments have all that plus a video of the player in action, showing a clip of an awesome dunk, a mid-court 3-pointer, or some other memorable play. All that won’t fit on cheap cardboard. Rather, it exists in a digital file, and ownership of the entire bundle of data that comprise a Moment is recorded and validated on a blockchain, in the form of a non-fungible token ("NFT"). See case files at https://www.pacermonitor.com/public/case/40907995/Friel_v_Dapper_Labs,_Inc_et_al.

The core of Dapper’s argument is quite simply stated in the first paragraph of its brief:

Basketball cards are not securities. Pokemon cards are not securities. Baseball cards are not securities. Common sense says so.

It’s hard to argue with that, even if common sense no longer has the persuasive heft it should. Dapper continues its syllogism by asserting that Moments are merely trading cards in digital form, and so are no more securities than are trading cards on cardboard. It’s a good argument, and we’ll have to see how the motion plays out. But it does force us to ask, how exactly are digital trading cards different from paper ones?

Dapper argues, for one thing, that the owners of Moments are not engaged in a common enterprise, not with each other and not with Dapper. Sure they all own Moments, but each Moment is different, just like each paper trading card is different. Each owner assembles their own collection of Moments as suits their interests, and each collection is different from other collections -- just like our paper trading cards were. And the value of any one Moment or any collection of Moments is not a function of anything that Dapper does -- it’s a function of the fortunes and attractiveness of a team and a player, and those will vary across time and space free of Dapper’s influence.

All that is true. And yet, that glosses over a crucial difference between digital and paper cards: The first reason why the Mantle 1952 is worth $12.6 million today is that it still exists 70 years later. Will Moments still be around in 70 years? How can you know?

This is more fundamental than the plaintiffs’ argument that the value of Moments depends on Dapper maintaining a market on which to trade them. Dapper could easily cause Moments to be traded on a common coin exchange like other NFTs. No, the real issue is that Moments only exist for so long as someone -- Dapper or a successor -- maintains the crypto ecosystem that permits the Moment to be authenticated and accessed. This issue, that digital assets only have value for as long as the digital infrastructure to enjoy them is maintained, is the key difference between them and real-world assets.

Of course, real world assets also require an infrastructure to ensure their continued enjoyment, and one can argue that governments and laws were invented precisely to provide that infrastructure. Laws ensure that I can continue to enjoy my stuff so long as I exist, and that my descendants can enjoy them so long as the stuff exists. But the existence of the stuff itself depends only on time and chance, not some third person. Digital assets are different. My iTunes account and Kindle library only exist so long as Apple and Amazon maintain the platforms they exist on. If Apple and Amazon vanish as companies are wont to do in time, my digital stuff vanishes with them. Likewise, Moments depend on Dapper maintaining the ecosystem that sustains them.

This does not mean that Moments are securities. There is yet no theory of a “common enterprise” that encompasses the mere need to maintain a crypto ecosystem for crypto assets that are otherwise sold and done with. That is not the kind of “common enterprise” that state securities laws contemplated in the 1930s or that Howey made part of the definition of an “investment contract.” The closest is a theory of common enterprise -- known to geeks as “broad vertical commonality” -- that ties the investor’s economic fortunes to the promoter’s efforts (but not directly to its economic interests). That won’t do it because the federal Court of Appeals in New York and other courts have already said that broad vertical commonality can’t prove a common enterprise under Howey.

The Dapper case, then, highlights why we need a new kind of regulatory structure for cryptoassets. We know that some cryptoassets are currencies, that others are commodities, that still others are utility tokens, and that none of those are securities. But that still leaves an uncharted universe of cryptoassets that includes NFTs like Moments. The SEC is trying to have all those be securities by default, but not all of them can be. It’s a fair debate whether NFTs like Moments should be regulated. But if they should, I doubt our present securities laws can be stretched so thin as to cover them.

ABOUT THE AUTHOR

Aegis J. Frumento