Recently, your Twitter feed has probably been flooded by the likes of Gary V, Grimes, Jake Paul, Chamath Palihapitiya, and Mark Cuban all talking about a hot new trend called NFTs. The total value of NFT transactions quadrupled to $250 million last year, according to a study from NonFungible and L’Atelier.
But what are NFTs?
Why is there such speculative fever around them — spending up to millions of dollars on individual pieces of art, trading cards, and more?
In this ELI5 — explain it to me like I’m five — report, we break down what NFTs are, how they work, why they are important, use cases, and actual successful applications being used today.
What are NFTs?
NFT stands for non-fungible tokens. It’s easiest to think of NFTs as a file format. People use file formats — like jpeg, png, or gif — to transfer information or value on the internet. NFTs are a file format that transfers data and value on blockchain networks like Ethereum. Since NFTs exist on blockchains, these tokens (or files) contain properties similar to bitcoin, primarily digital ownership (a token in a person’s wallet) and transparency (all activity is recorded on a blockchain). We’ll get into some of the other noteworthy benefits that come with NFTs further below.
The term non-fungible refers to the concept of fungibility. A good is said to be fungible if it is identical and interchangeable. For example, one dollar is worth one dollar. You would happily swap dollars with me since we all agree they have the same value. Comparatively, an item is said to be non-fungible if it is unique. Lots of items are non-fungible including diamonds, houses, and baseball cards. No two of these items are the same, diamonds have different colors and cuts while houses even in cookie-cutter neighborhoods have different locations which affect how light comes into the house.
An NFT is simply a token (or piece of information) that is unique. A common example of an NFT might be a digital trading card or piece of digital art.
Characteristics of NFTs
While NFTs are simply a way to transfer information (data), they provide various benefits because they are created on blockchain networks.
While the value of an NFT can vary depending on how it’s used, generally speaking, NFTs provide the following characteristics:
· Unique — The hallmark trait of non-fungible tokens is that they are unique and this can be verified on a blockchain.
· Permanent — NFTs have permanent information and data that is stored within the token. This information can include a message, image, music, signature, or any other piece of data.
· Programmable — An NFT is just a piece of code on a blockchain. This means it can be programmed to have various qualities. One of the most useful qualities of NFTs to date is that royalties can be programmed (or built-in) to the tokens. This means an artist obtains a royalty on all secondary sales of their artwork.
· Permissionless — NFTs can be used in multiple ways if they exist on a permissionless blockchain like Ethereum(not all NFTs are on Ethereum). For example, Sorare — a sports trading card game — has third-party games (not built by the Sorare team) that use Sorare trading cards.
· Digital Ownership — whoever possesses an NFT in their wallet, owns and controls the NFT. Digital assets like domain names (Google.com) aren’t actually owned by Google, but instead by middlemen like GoDaddy or Verisign even though they control the rights to the asset.
These qualities empower various new use cases for NFTs, some of which we outline below.
How can someone make an NFT?
Now that we know what NFTs are, how can we make one? Anyone can make an NFT in a few simple sets.
1. First, you’ll start by getting your media in order to decide what you want to make an NFT. NFTs can support an array of files, like visual files (JPG, PNG, GIF, etc.), music files (MP3, etc.), 3D files (GLB, etc.), and beyond. Once your traditional file is ready, you’ll move onto the next steps.
2. Next, you will need to set up an Ethereum Wallet. You need to create a digital wallet where you’ll securely store the cryptocurrency that is used to buy, sell, and create NFTs. The wallet also allows you to safely sign in and create accounts on NFT marketplaces.
3. After you have your Ethereum wallet, you will need to purchase a small amount of Ethereum to cover the costs of creating your first NFT. The reason being, there are fees associated with turning your content into an NFT on most major digital art marketplaces.
4. Then, you need to connect your wallet to an NFT Marketplace. One notable and easy-to-use NFT marketplace is called Rarible. Once you’ve connected your wallet, click the “Connect” button in the top right corner of the screen. After connecting a wallet, your Rarible account is instantly generated. You now have everything you need to create, mint, and sell your first NFT.
5. Finally, upload your file to your platform and fill out the asset’s description. At this point in the process, you’ll be able to decide whether you want to create a standalone (single pieces) or edition-based pieces (multiples NFTs of the same piece), your asset’s royalty percentage, unlockable content, and more. Once all this is prepared, you can begin the minting process, which will require some ETH to pay for approval and minting transactions. Minting an NFT is how your digital art becomes a part of the Ethereum blockchain–a public ledger that is unchangeable and tamper-proof. NFTs are tokens that get “minted” once they are created. Your digital artwork is represented as an NFT so it can then be purchased and traded in the market and digitally tracked as it changes collectors in the future.
Typical Use Cases For Non-Fungible Tokens
Hopefully, we’ve communicated by now the potential advantages of NFTs, and how they are simply a means to transfer value on a blockchain. Below are some of the NFTs applications that are in development or existence today.
Art
Digital art has taken the world by storm over the course of the past several months. Digital art combined with the digital property rights of NFTs (verifiable ownership) and perpetual royalties for artists makes NFTs a 10x improvement upon the current system. Most recently, the global auction house, Christie’s auctioned an NFT-based work of art created by Beeple, the top NFT artist by sales volume.
Digital Trading Cards
Sorare and NBA Top Shots are two of the most popular sports trading card collectibles. Sorare cards can be used in Sorare’s fantasy football (soccer) leagues while NBA Top Shots by Dapper Labs is developing a game that uses their NBA NFTs. Other digital trading card games include GodsUnchained which resemble strategy games like Magic the Gathering or Yu-gi-oh.
Provenance Tracking and Digital Certificates of Authenticity
Various items, especially collectibles and high-value items come with digital certificates. These certificates are often either stored as paper records or digital pdf copies. The benefits of digitizing these certificates and issuing them as NFTs means that any can verify the authenticity of the digital certificates and nobody can alter the information or misplace the document.
ConsenSys backed company, Treum has already piloted a program with the NBA that would authenticate memorabilia such as in-game worn jerseys that are sold during an NBA game via live auctions. While there’s always the possibility of a physical object being tampered with, digital NFTs can act as a better and more automated certification than existing practices.
Gaming items
Gaming assets are already digital in nature, so creating them as digital assets that individuals can own presents various benefits. There are multiple game studios building games that run on blockchain rails including Blockade and Horizon. Axie Infinity, a pokemon-style game has issued creatures called “axes” as NFTs that are used in Axie Infinity’s battling feature. Lastly, there are several platforms like Enjin which are building their own platforms that facilitate game development including the issuance, or minting of gaming assets.
Domain Names
Blockchains inherently make for great asset registries and one of the largest digitally native assets are domain names. Domain names are digital assets that map IP addresses to more human-readable names(e.g. 13.57.64.34 to Messari.io). Ethereum Name Service, Unstoppable Domains, and Handshake are three projects taking different approaches to enable domain names on blockchains.
Content
Music, blogs, tweets, memes, and other digital content can all be issued as NFTs. While that doesn’t make the content valuable it does present unique opportunities for digital ownership and on-chain royalties. Although the distribution of content may remain free for blogs or music, NFTs present unique monetization opportunities for crowdfunding content or selling a blog/song similar to how one might buy vinyl records or old edition books. Decentralized publishing platform, Mirror is enabling writers to crowdfund blogs and sell them as NFTs. Other experiments include the Kings of Leon selling albums as NFTs that provide additional value including lifetime concert tickets or exclusive experiential artwork for an album.
Tokenized luxury goods, e.g. wine
Another interesting area NFTs could have a real-world impact could be luxury goods. Luxury goods are constantly under attack from forgers trying to replicate products. An example of this is Fine wines. One interesting project to note is OpenSea. In February of 2020, OpenSea formed a collaboration with WiV Technology, a blockchain-based unique asset technology designed for wine producers and merchants, to support ERC-721 NFTs that represent physical wine bottles. This is the first time that a physical asset has been brought to the OpenSea platform. As NFT platforms evolve, NFTs will be used to help verify unique physical asset items.
Financial Products
Many types of financial products aren’t interchangeable. For example, your mortgage is unique to your house, length, interest rate, and more. Any simple financial contract can be issued as an NFT and stored on a blockchain. The real estate sector, in particular, suffers from serious barriers to entry, especially for younger people. The application of blockchain technology has the potential to radically change this industry for the better by broadening access, increasing transparency, and streamlining complex transaction processes. Nori has tokenized carbon removal credits as NFT where each Nori NFT acts as a certificate representing carbon removal.
Event Tickets
NFTs can also play a role in combating ticket fraud if every ticket was registered on the blockchain as an NFT. With blockchain-registered tickets, they are tied to their digital counterpart. This means that you can sell them through an online exchange by simply transferring the token. The exchange makes sure that you don’t charge extra, eliminating the risk of ticket scalping. A recent example of this was when the UEFA revealed it will use a blockchain-based ticketing system to distribute Euro 2020 passes to fans’ mobile phones. The digital tickets will only produce active QR codes via Bluetooth once fans are in close proximity to the venues, in a move designed to deter ticket scalping.
Tweets and Social Media Posts
NFTs present an opportunity to turn media into tokenized content. For instance, selling social media posts such as Tweets are the latest use case for NFTs. You have probably seen by now, but Twitter CEO Jack Dorsey is auctioning his first-ever published tweet as an NFT. Dorsey shared a tweet with a link to a digital platform called “Valuables,” that facilitates buying and selling of tweets autographed by their creators. This new use case for NFTs opens up the possibilities for selling speech or iconic cultural moments on the web.
Common Misconceptions About NFTs
There are various misconceptions about NFTs and so let’s discuss a few of the common critiques and misconceptions that many new entrants encounter.
Can’t I just screenshot NFTs that’s a piece of artwork or an image? Why do I need the NFT?
Absolutely, you can screenshot and hang up an NFT on your wall at home. You can do that with art too. But, just because you put a picture of the Mona Lisa up on your wall at home, doesn’t mean that it’s the Mona Lisa. While not up for sale, for some investors owning the Mona Lisa would be worth hundreds of millions of dollars while for others a picture on the internet would suffice. Art is also unique in that high-end art is typically a sport of the ultra wealthy who want to purchase pieces for some type of sentimental value (e.g. they like the artist) and not always because they think it will accrue value.
How are NFTs valued?
Simply because something is an NFT doesn’t make it valuable. Similarly, if a Twitter or Instagram influencer tells you that an NFT is a collectible, that doesn’t make it a valuable collectible. Plenty of collectibles are worthless or lose value over time. As with most goods and services the price or value is what someone is willing to pay. Over time the market decides the true value of NFTs just as it does with Bitcoin.
How do NFTs with physical pieces work?
When it comes to physical pieces of art, shoes, or any other goods there’s always the risk that a physical good can be altered, damaged, replaced, or destroyed. NFTs in this instance simply act as a better certificate than traditional physical or digital certificates.
How do NFT royalties work?
There are two types of royalties, on-chain and off-chain. On-chain royalties, such as an artist getting paid for any subsequent sale of their artwork happen automatically at the smart contract level. Off-chain royalties (e.g. someone playing a song or using it on Youtube without licensing rights) require some off-chain component, typically in the form of enforcement (e.g. Legal action).
Why does digital ownership matter?
As more and more value is created in digital worlds, ownership in those ecosystems becomes more important. NFTs are recorded on-chain just as cryptocurrencies are, so once ownership is transferred it cannot be reversed. As “tokens,” they possess a unique ID that distinguishes them from other NFTs. And because blockchains are typically open — that is, anyone can view the history of transactions for themselves — it’s easy to understand who owns a particular asset. In these ways, NFTs are verifiable like historic artworks: they travel securely between parties, they possess certain qualities that distinguish them from copies, and anybody who looks can make these determinations for themselves. The power of digital ownership ensures that the value individual’s create is theirs to actually control.
Non-fungible Takeaways
NFTs are either digitally created or tokenized real-world assets, both on a blockchain network. Physical assets that are tokenized still come with their challenges but can benefit from efficiencies that come with tokenization and smart contract automation.
Digital assets created as NFTs come with property rights where ownership over a digital asset can be easily proved. Since NFTs are simply a means to transfer data and value on top of blockchains, non-fungible tokens facilitate an abundance of opportunities. These uses span everything from digital content to financial products. Just as Bitcoin spearheaded the importance of financial sovereignty, NFTs facilitate ownership of all digital assets.
