Non-Fungible Tokens or NFTs are cryptographic tokens that represent the ownership of digitally scarce goods like art, collectible items or digital assets in the Ethereum blockchain. Non-fungibility denotes that the asset is unique and has individual properties, just like a novel piece of art or collectible. One NFT can not be traded for another NFT.
This empowers creators across the globe to mark their royalty rights for things they create without the need for middlemen but directly to consumers. Uninterrupted control over their creations in this platform enables creator monetization. Anything can be created like a piece of art, a jpg/png file, a video file, a baseball card, an NBA card, cartoon faces and the list goes on.
Before we look into what is NFT? Let’s brush up on few definitions in the crypto world pertaining to NFT.
Subjective Vs Objective
Anything that holds value based on one’s beliefs, opinions, bias, personal decisions is known to be Subjective. Like an NBA card holds no value for a person outside North America but is of tremendous value for an ardent NBA follower. An NBA card is a piece of paper with pictures of Basketball players, sometimes with their signature on it. One card is worth several million in eBay or Amazon today. So many of us outside America will never understand its value or worth it holds beyond our perception. It literally means an NBA card has more of a subjective value.
The objective is not being sentimental or emotional in determining the value of anything but is based purely on facts, or data or analysis. An unprejudiced inference on something or an asset just like a 100-year-old tree standing there in the Californian park. It is real, true and the fact but not based on some opinion. A $100 bill is equivalent to another $100 bill, the value does not change, no matter what.
Centralized Vs Decentralized
A single entity owning the information or data for any particular asset or technology or maybe translated as one organization having control over the whole processes, people, protocol, services offered, monetary value etc., You or I can not decide what will be the minimum balance I can hold in my bank account this month even though it was hard-earned by me. Because we are in a society where there is government, regularity, security, certain standards that need to be followed by all parties involved. The single owner or organization is the controlling power for any particular asset like banking sectors, Retail shops and the rules are laid out by them and we as consumers are to abide by it for the security they provide. This is called a Centralized system.
Alternatively, When the power is distributed amongst everyone involved and the rules are set by everyone based on their consensus it is called Decentralized. This method of the system has high transparency and immutable. The power does not lie on one entity but is distributed in the network. Decentralization in an organization means giving the power to take decisions even at the lowest level of the company, just like in McDonald’s or Subway. These companies give away the deciding power of hiring people for their franchises to the ones who run them and called “Freedom within a Framework”
Fungible Vs Non-Fungible
A thing that has an equivalent value as its counterpart just like a $1 Bill is equal to another $1 Bill. These 2 bills are exchangeable, interchangeable because they have equal value. Likewise, their value is determined objectively by a centralized organization. A packet of grains can be traded for the same type of grain without the association of money. Any commodity for that matter can be traded for its same type without monetary involvement. These are called Fungible assets. A Bitcoin or Ethereum are fungible assets in the cryptospace.
On the other hand, you and I can not exchange our dogs though they may be of the same breed because their value is not determined monetarily but subjectively. The kind of memories each possesses, the way they were brought up, their likes and dislikes are so very different. Let’s also look into some non-living things such as a pendant(made up of a common metal) gifted by my grandmother has no value to you other than the market value it holds if sold on eBay. Nevertheless, for me, it’s packed with emotions, memories, past time phase it came from. The pendant gifted by my grandmother can never match the pendant gifted to you by your grandmother. These are called Non-fungible items, where there is no equivalent value and an item can not be replaced by another non-fungible item. The last thing to remember is it cannot be bought or transacted in fractions like 1/5 of my pendant is worth 1/10 of your pendant. They are always bought or sold in full.
What is an NFT?
A Subjective, Decentralized and Non-fungible item in the form of a token is called an NFT (Non-Fungible Token).
Here we come, to the actual core, an NFT, it is nothing but an asset (we say it as an asset because it always increases in value otherwise it would be a liability) in the form of a digital token that is not tangible but owned digitally. One NFT contains a Unique Id and metadata, where the metadata contains the information on who owns it and its history of values, buyers and sellers. There is not another NFT like this one in the market and that’s what makes it Unique.
Few examples of NFTs in the crypto world are CryptoKitties, Axie Infinities, CryptoPunks, NBA Top Shots, Hashmasks and much more. You can have a look at NonFungible.Com or CryptoSlam at the Millions of dollar transactions that had happened since their launch in 2017.
What are the properties of an NFT?
- Unique: Each Non Fungible Token is unique and has the necessary information proving it in its metadata.
- Provably Scarce: By design, only a limited number of NFTs are in circulation and are unusual. The number can be verified on the blockchain, hence its provability.
- Indivisibility: Most NFTs cannot be split into smaller units/denominations. So purchasing a fraction of the token isn’t possible. Similar to standard tokens, Non-Fungible tokens guarantee the ownership of the asset and are easily transferable and fraud-proof.
- Downloadable/Viewable: It can be viewed or downloaded or shared any number of times on the internet which increases its value. The more people saw does mean the more the probability is they are going to buy it for its resale value or subjective value.
- Collectible: A card, a 2D or 3D image or video file, a punk, a game, a piece of music. You can hold onto it and then resell it in the market for a good price.
- Immutable: The unique id and the value in the metadata do not change over time. No change of name and no change of ownership and can not be brought down from the blockchain because it is decentralized.
Why NFTs are so Famous?
A business model that profits every stakeholder involved such as creators, audiences and developers. If all can make money in this crypto marketplace, try why not?
Nonetheless, NFTs are in the crypto market since 2017, the pandemic hit in 2020 made us splurge while sitting at home, owning assets digitally. People own it for several reasons like for the thrill of owning it, the social status for owning something unprecedented, to resell it at a later date, for more monetary value. The more a file is seen, shared online, the more value it accrues in value. Unlike cryptocurrencies NFTs have a speculative value, the more people think an asset has value digitally even for subjective reasons that it accumulates value in the market. This is purely a crypto fad due to a large number are spending time inside their houses makes them more visible digitally.
NFTs may become market space for all media/art-related files because everyone involved can make money. Let’s look at the 3 main role players:
Creators – The creators of any NFT can reap the benefit by collecting royalties every time their item is sold. It is an entirely new system based on royalty logic or maybe called creator monetization.
Consumers – They rent access to digital assets thus patronizing the creators along with an emotional quotient. This is a strong incentive in becoming a patron which many drive more engaging and rewarding demands in markets for creative work. Usually, they only hold it for its subjective or monetary value to brag about it or for reselling purposes.
Developers – They make money by enabling NFTs in the markets by writing/modifying the smart contracts on the blockchain for the digital assets. Smart contracts are rules written by an entity to do a mundane job in a particular network. Many NFTs have complex mechanics like forging, crafting, redeeming or random generation that needs the help of programmers to leverage it across platforms.
Facts about NFT
Here’s the cool part about NFT, When you buy an NFT through an online platform, which is known as a primary market transaction, the platform takes a percentage cut between 3% and 15% and the creator takes the rest of the revenue. Then, if you decide to sell that NFT to a new buyer, which is known as a secondary transaction, you receive 90% of that revenue, but the original creator also gets a cut, generally 10%.
In 2019, Nike patented the concepts of shoes as NFTs, called CryptoKicks, which incorporate the digital ownership concept of non-fungible tokens with the appeal of customized sneakers.
Similar to digital ticketing, NFTs are also emerging as a way to grant access to exclusive experiences. In February, Microsoft launched a game that celebrates women in science and rewards players with NFTs that unlock secret games inside Minecraft.
We are also seeing new marketplaces popping up where creators can mint NFTs and connect with collectors. Foundation saw over $150K in sales during its first week online, including the first Vine video ever created, which sold for $14K. VCs are buying AI-generated artworks for their portfolios.
NBA Top Shot, an NFT platform based on the U.S. basketball league, lets users buy and sell short clips showing match highlights from star players. The NBA licenses the reels to Dapper Labs, a start-up that digitizes the footage, making a limited amount to create scarcity. NBA Top Shot has facilitated over $298 million in sales to date, according to the website CryptoSlam. Dapper Labs earns a cut on each transaction while the NBA gets royalty payments.
But 2021 has major technical upgrades planned in the cryptospace. Reduced transaction costs and higher throughput will help developers push NFTs into higher-volume, social territory. Zora is heading that direction with a Tumblr-like interface where each “post” is minted as an NFT. Because these social experiences have markets baked-in, and users can make money alongside the creators they support, there are strong incentives to participate.
The early days of 2021 have already seen cryptocurrencies reach new heights whether that’s Bitcoin’s record-breaking run or Elon Musk-inspired Dogecoin and retail investors take on hedge funds at their own game. But the fastest-rising example is the soaring status of crypto art, driven by Non-Fungible Tokens (NFTs) to break new records.
Much of it is taking place in the digital art space, but it’s also happening in proliferating niches—including gaming world assets like Axie Infinity, or sets of crypto-collectibles like Hashmasks and CryptoPunks, or generative artworks that are programmatically created on-chain. The sales on these are about $100Million on CryptoPunks and $37 Million on Hashmasks so far with a spike in 2020. CryptoKitties are soaring high in number too with $32 Million so far in sales.
And remember, these are not just collectors’ items, they are programmable assets that any developer can remix. As developers build new contexts for NFTs to live, there will be compounding demand from creators to have their work included in this emerging metaverse and for collectors to flex their ownership rights.
How do NFTs work?
Although NFTs can be implemented on any blockchain that supports smart contract programming. Some of the well-known examples are ERC-721 or ERC-1155 standards that are prevalent on the Ethereum blockchain.
ERC721 is a coding standard for implementing APIs for non-fungible tokens within smart contracts. It allows for the creation of smart contracts that can be used to create distinguishable tokens with different properties. For example, Cryptokitties, a game that allows anyone to collect and breed virtual kittens.
ERC 1155 is the next step in creating non-fungible tokens that is better in terms of security and immunity. It supports batch transfers of several tokens in a single transaction. This standard allows anyone to create a contract that supports fungible and non-fungible tokens and it was created by ENJIN, a project focused on creating games on the blockchain.
Several blockchain-powered games use these NFT standards like Gods Unchained and Decentraland where users can earn, mine and purchase in-game collectibles. Similarly, there are blockchain-powered domain registrars and digital art marketplaces that use NFTs as a backbone for their service.
NFTs as Collateral
NFTs can even unlock the full potential of the Decentralized Finance applications. Currently, the Majority of DeFi lending protocols are collateralized. One of the interesting ideas is to use NFTs as collateral, where each NFT derives its value from the art, tokenized real estate, collectible, etc., and the required amount can be borrowed.
Recommended Reading: What is DeFi?
Though this idea seems great, the only hiccup is that on lending & borrowing platforms like AAVE and Compound, the value of supplied collaterals can be easily measured by integrating price trackers that aggregate price from different sources to determine the value of the collateral. But when it comes to NFTs, the markets for certain tokens are illiquid and determining the actual value becomes hard.
For example, let’s take a scenario where, someone buys an NFT using ETH at the market value and later if there is no interest on the NFT, automatically the value would drop beyond the initial level, making it highly volatile. To manage this, some of the NFT collateralized lending platforms use a different Peer to Peer (P2P) lending model.
Borrowers can offer an NFT as collateral and lenders can choose which NFT they can accept before issuing the loan. The NFT that is used as collateral is held by an escrow contract that checks if the payments are made regularly and if the borrower defaults on payments after a certain number of times, the NFTs are transferred back to the borrower.
Beyond lending on DeFi, Non-fungible tokens can be used in other financial products such as Insurance, bonds and options. NFTs related trades are growing at a faster pace, where nearly Millions worth are being executed, it is something to look out for to earn a passive income.
Would you invest in some of the popular NFTs that are around? Let us know in the comments below.