Non-Fungible Tokens, also known as NFTs, are unique and non-interchangeable units of digital content stored on a blockchain ledger. They are used to store anything from digital art to sports videos and virtual worlds. They can be exchanged between wallets just like crypto and prove ownership thanks to their minting on the Ethereum blockchain.
Now that you know the basic definition of an NFT, why are they so highly valued and are they in a bubble?
It is important to note that NFTs have only recently gained popularity. Unlike the cosmic crypto prices in 2017, the NFT market cap was only $30 million during that time. Because of this, we can say that the past few months have been the first parabolic bull run for NFT prices. During times like these, investors tend to succumb to FOMO and make risky decisions. Here are the 5 main ways that we can give NFTs a valuation:
1. The game engine needs to remain playable/popular
2. Cryptocurrency market status (measurable by price of blue chip cryptos)
3. Supply of NFT
4. NFT issuer / Prove ownership (do they have the license for the content?)
5. Liquidity and prior sales (has value been decreasing after each sale, are there actually people who are bidding?)
6. Community (exclusivity, inclusion)
In the end, NFT value is completely reliant on the issuer. If one of Leonardo da Vinci’s paintings was discovered to have been painted by one of his students, it would plummet in value. The same concept applies to NFTs. The value comes from the fact that the NFT was originally distributed from the issuer’s ledger address. This can be verified by anyone who has access to the internet.
In the current state of the market, many limited supply NFTs are being bought solely because of their scarcity and historical significance. For example, CryptoPunks are 24x24 pixel visual art. 9999 of them exist after being randomly generated in 2017.
$11.8 million: The price an anonymous buyer spent on the CryptoPunk below.
This Punk is 1 out of the only 9 alien race Punks, which is the rarest race.
You may be asking yourself — why would someone pay millions for an image that anyone can download for free?
The answer is simple: Ownership
You are not buying the art; you are buying the proof that you own the art.
Because of the exclusivity of owning a CryptoPunk, speculators are willing to spend exorbitant amounts for bragging rights. Some people have gone as far as calling CryptoPunks the Picassos of NFTs. Critics have claimed that the NFT explosion is nothing other than a speculative craze, but many blockchain enthusiasts have claimed that as the world becomes more and more digital, NFTs are going to become the new normal as people continue to digitize their assets. Until then, we will have to watch closely as these projects develop and create a more mainstream ecosystem, where everyone views NFTs as a way to diversify their portfolio, just like physical art or real estate.
Over the past 30 years, the technology sector has outperformed every other sector in terms of innovation and progress. The medical field has also made major advancements. However, the financial system has failed to innovate. Institutions continue to use the same financial instruments they used decades ago. Crypto applications like NFTs are changing that. Institutions are gaining interest in new crypto projects. Now anyone can create something and sell it on a free marketplace, where innovation and excellence is rewarded. On top of that, NFTs have potentially groundbreaking applications including being used for medical records or concert tickets to prove uniqueness and transferability.
NFTs rely on trust towards the issuer. The issuer could technically dilute the supply of what they released since they still have the ETH wallet they issued from. What is stopping Larva Labs from releasing 1,000 more CryptoPunks and cashing out? Nothing. The moral decency of issuers is crucial for the market and remains intact because of fears of tainting their reputation. Because of this, investors need to be careful that the NFT they buy is not a cash grab and cannot have its value destroyed because of a greedy issuer.
Decentraland is a virtual gaming world that is partitioned into plots that can be bought and sold by players. The land is packaged as NFTs that have greatly accrued in value this past year.
Players can use their land for advertisement and display NFT’s that they have for sale. Since there are only 90,000 plots, prices for the smallest plots have risen above $5,000, causing the demand for virtual real-estate to skyrocket. In this case, the value of these plots depends on a few more factors than CryptoPunks:
1. The game engine needs to remain playable/popular
2. The MANA token needs to hold value (currency that Decentraland land is priced in)
3. The player community needs to grow
4. There cannot be an increase in land supply
Just like Bitcoin and CryptoPunks, Decentraland is the first of its kind. In the next few years, I expect many traditional online games to implement NFTs into their economies. Both players and developers benefit from this new ecosystem. Parents who used to complain that their kids were wasting time playing video games will now be able to say that their children are investing in virtual real estate and building a new type of portfolio.
An emerging technology, NFTs have taken the world by storm. There are great opportunities to make money as demand continues to skyrocket. It is however crucial to remember that the value that you get from them is reliant on the value that others give them. Buying an NFT is only a good investment if there is resell potential. On the other hand, NFTs are also a good investment if you believe them to be the future of digital possessions and want to take part in the early stages of the fourth industrial revolution.
Disclaimer: This article is meant for general education purposes only and should not be construed as financial advice.