NFTs: Fad or New Digital Frontier?

• What is an NFT?
• Can NFTs rival physical art?
• Use cases for NFTs

Interest in the crypto world is building a head of steam in 2021. Tesla, the latest blue-chip firm to invest directly in Bitcoin, bought $1.5 billion worth in February, creating a ripple of excitement in the space and causing traditional investors to prick up their ears. While most of the deep-pocketed institutions are likely to focus on Bitcoin, more curious investors are looking at another digital asset that's observing massive growth in the past few months: namely, Non Fungible Tokens (NFTs).

What is an NFT?

An NFT is a digital record, like a receipt, proving ownership of a collectible item, showing when you bought the item and how much you paid for it. ERC721 is the technical standard for creating NFTs via smart contracts on blockchain platforms like Ethereum.

NFT stands for non fungible token. Fungibility is a fancy word that means one thing is replaceable by an identical item. So money is fungible because notes and coins are interchangeable, which is fundamental for a frictionless economy, where people want to exchange money for buying goods and services.

Cryptocurrencies - as new forms of money - are designed to be fungible in the same way. 

Given its name, an NFT isn’t fungible; it cannot be exchanged for an identical item, it is designed to reflect ownership of a unique item for which there isn’t an interchangeable equivalent.

That last part is important because an NFT is a record of ownership of a unique item but doesn’t represent the item itself. It will indicate where the item exists, within a block of data on a blockchain;  a website url for a piece of digital art or photo; or the location of a physical asset. This is the same with analogue receipts or deeds which prove ownership.

You might ask why this is so revolutionary, given digital receipts are now quite commonplace and that traditional collectibles - like an autographed album - come with certificates of authenticity.

What is different about NFTs is that they are considered immutable records because they are created by decentralised blockchains. In other words, because of how decentralisation works, no one can amend the information associated with an NFT, it is a unique unchangeable record.

Programmable scarcity can translate into value, with speculation driving much of the current interest in NFTs.

An NFT is a digital record like a receipt. showing when you bought something and how much you paid it.

NFT properties lend themselves to establishing ownership of new digital asset from art to music and in-game items, though an NFT can equally record ownership of a physical item.

The concept of NFTs isn't new. It started in 2012 with the introduction of Bitcoin 2.X aka Colored Bitcoin- a part of the "Genesis transaction", as claimed by Yoni Assisa in a blog post. 

However, 2020 made NFTs mainstream when its market grew by 200% in just one year. As per the report by Nonfungible.com, the total number of wallets grew from 112,731 in 2019 to 222,179 in 2020, and the value of all transactions increased from over $62 million to approx $250 million. 

While growth is common from grassroots crypto sources, big names from the established industry have begun to enter the space, including Nike, BBC, Warner Music, IBM, and Samsung. 

As a sign of how fast the NFT sector is growing, celebrity investors are weighting in. Mark Cuban wants to sell his tweets via NFTs while Hollywood actress, Lindsay Lohan, sold her first NFT in February - a portrait image - for the equivalent of $17,000 on the NFT platform Rarible.

Can NFTs Ever Rival Physical Art?

Keeping the pixie dust of star power aside, can these new intangible records challenge the process of verifying ownership of their physical counterparts, especially if we’re talking about a priceless painting? 

A CryptoPunk NFT was sold in January this year for 605 ETH; that's worth $762,000 at the time. You can easily trace its sale history to see it was previously sold in July 2017 for 8 ETH, representing a 75x increase. Each Punk has unique characteristics and in this case, rare alien features which drove the frenzy.

At the time that seemed dramatic until the renowned global auction-house, Christie’s of London, auctioned a piece entitled "Everydays- The First 5000 Days", featuring a collage of images created by Mike Winkelmann - aka Beeple - every day since 2007. It sold for a colossal $69million opening the floodgates of NFT mania.

"JPG File Sells for $69 Million, as ‘NFT Mania’ Gathers Pace"  The New York Times headline from March 11th, 2021 showed the cynicism with which the mainstream media viewed the Beeple auction and NFT's in general.

The New York Times headline of March 11th perfectly captures the cynicism with which many viewed Beeple auction, describing it simply as a JPG and inferring that it could simply be copied.

This is the crux of the debate around NFTs and an extension of general misconceptions around crypto. NFTs are unique records of ownership of an item. They aren't a guarantee of scarcity of the item itself; value is in provenance. Just as the existence of millions of replica images of the Mona Lisa doesn't devalue the original, no one is claiming that "Everydays - The First 5000 Days" cannot be copied with a keyboard shortcut.

That really is an issue of perception, there are bigger issues NFTs have to contend with:

1. NFTs are blockchain specific, so an item might be tokenised on competing blockchains
2. The item the NFT relates to must be stored somewhere physically or digitally and that detail recorded with the NFT. It is easy for a webserver to go down or domain expire
3. NFTs are hugely susceptible to piracy. We could easily see a Napster style deluge of pirated NFTs, as provenance will be so hard to establish
4. Beeple's work is compelling and is a justifiable work of art, but it will inevitably lead to a Tsunami of NFT rubbish with associated issues of transaction fees and network congestion because minting an NFT isn't free.

There are endless opportunities for everyone in the NFT space but are we witnessing short-term exuberance or a genuine paradigm shift in the way we think about digital rights? 

There is a lot of uncertainty with exactly how NFTs can scale. The requirement of an underlying blockchain to establish the immutable record is one of the biggest challenges, as it comes with a transaction fee, and right now Ethereum fees are bloating. There is plenty of competition in the space from the likes of Enjin or Flow but they will surely need to cooperate to maintain industry standards and avoid the issue of replication.

There are likely legal minefields to be navigated too which will underline the need for both Caveat Vendor and Caveat Emptor especially in the case of media clips. The NBA are already licensing classic moments via NBA Topshot, but it would be fairly trivial for other platforms to do something similar, without the true digital rights. 

We dare not do the research, but it seems inevitable NFTs and the adult industry will come together in some form. Some kind of regulatory framework will inevitably emerge, but it could mean that investing comes with significant risk.

Use Cases for NFTs

Art

Non-fungible tokens allow for the fractionalised ownership of an asset, therefore allowing individuals to own a share in a valuable piece of art, an investment previously beyond their reach.

The blockchain technology that underpins NFTs enables a unique tokenised representation of the ownership of a physical item to be issued, stored and traded, thereby unlocking multiple use cases.

NFTs can include a Smart Contract element that programs royalty payments to artists because they don't typically get a cut of secondary sales. 

NFTs are unique, but they can be derived from existing brands who license their use under copyright to generate revenue streams. This is an area of huge potential growth as awareness of NFTs grows. The big names in the stock photo industry will almost certainly be looking closely at NFTs, as will professional photographers.

Programmable art is another feature where an artwork dynamically changes its certain features, like background. The creative possibilities are endless. You could, for example, pay a small subscription fee to display framed NFTs as art in your home or ambient background for all devices.

You could, for example, pay a small subscription fee to display framed NFTs as art in your home or ambient background for all devices.

Gaming

NFTs also solve some of the inherent problems in the gaming industry. For example, the gaming-industry giant, Fornite prohibits the sale of rare traits. But, NFTs can facilitate the transfer of coveted items-solving one of the biggest irritants faced by gamers. 

Plus, blockchain-based NFTs for in-gaming assets can put the power back in the hands of gamers as they will be able to buy, auction, and trade an asset in an online marketplace. 

Imagine owning an asset that was once owned by your favorite Youtuber. NFTs can show the provenance of an in-gaming asset, thus making it valuable, and a collectible because of its heritage. 

Does the word “collectible” ring a bell? Cryptokitties, one of the most popular Ethereum-based gaming platforms, had over 150,000 users and $15 million in transactions within just two weeks of launch.

The concept is just starting, however; its presence is already being felt in the gaming space as a decentralised gaming world called Decentraland raised $20.7 million within just 5 minutes.  

Music

NFTs could provide the much-needed new business model for the music industry that can support real-time revenue and ultimately give power to the individual artist. Here are some benefits offered by NFTs to both, artists and fans:

• Fans can pay for the music they consume, and also can crowdfund projects by their favorite artists.

• Bookings can be done for in-person concerts and tours by using smart contracts that would automatically release payments to the artist as soon as viewers are satisfied. 

• If someone buys art via an NFT, they know it's authentic because the data is available on the blockchain. Fans are getting to own things that weren't possible otherwise. 

• NFTs allow many artists to go independent instead of working for major music companies that usually exploit the talent. 

• Transparency of contractual terms and conditions on the blockchain network will bring more artists to the music industry.

What's Next for NFTs?

NFTs are only in their infancy, but the speed of innovation is accelerating. For now, the NFT market is focused on artwork, gaming, music, and crypto collectibles but that is likely to change rapidly, especially if the wider crypto market remains buoyant, providing ample seed money for new start-ups. 

Non-crypto native brands are already starting to enter the space, for example, Sorare, a fantasy soccer game will offer NFT player collectible for over 100 football clubs Panini sticker albums could quickly be viewed as quant antiques, while elsewhere the likes of Minecraft and Smurfs are  moving into the NFT space. 

In the short-term the pace of NFT adoption may depend on the cost of transferring them on the Ethereum network - paid in gas but it seems inevitable that adoption will grow driven by the e-gaming space, and speculative investor interest.

As with cryptocurrency, the key battle is convincing people of the value of the underlying concept of unique, indivisible crypto assets, but they will likely be considered the norm for the next generation.