What Is a Non-Fungible Token? Beginner’s Guide to NFTs
Cryptocurrencies and blockchain technology went through an eventful period in 2020. First, the Bitcoin halving happened in the spring of 2020, which happens roughly every four years. Then we saw large financial institutions starting to plow unprecedented sums into Bitcoin. In 2020, Decentralized Finance (DeFi) also received a lot of attention.
If you have been following the crypto space, you might have heard the term “Non-Fungible Token,” but you might not have understood what it is. Non-fungible tokens (NFTs) began to receive a lot of attention in 2020, but they have exploded in popularity in early 2021. If you want to know what NFTs are, we will explain everything you need to know about them in this guide.
What Is a Non-Fungible Token?
Non-fungible tokens are digital assets written on smart contracts. Because they cannot be replicated, they represent something unique and special. You can think of them as collectible items. One non-fungible token cannot be exchanged for another because each of them contains something unique in itself.
For example, there are about 18 million bitcoins in circulation. All bitcoins are the same. But, unlike Bitcoin, NFTs have unique individual qualities that set them aside. So they are not interchangeable.
Apart from being unique, they are also non-divisible, meaning that they cannot be divided. So the elemental unit is the token itself as a whole. Non-fungible tokens can also be described as digital works of art. It is not easy for them to be created, and therefore they are rare and have a scarcity factor, which increases their value even more.
In crypto, Cryptokitties are among the most popular non-fungible tokens. Each Cryptokitty is unique, which means they are often sold for large sums of money. For example, a Cryptokitty cannot be broken down into smaller fractions and then traded with several others, as is the case with Bitcoin. So it is not possible to buy a fraction of a Cryptokitty – you have to buy it all in its entirety.
Proof of authenticity of an NFT can be proven within the blockchain network. Also, these digital assets can move freely without compromising ownership as blockchain technology helps maintain ownership rights.
If you want to buy non-fungible tokens, you can do it through a number of NFT marketplaces, such as OpenSea or Enjin Marketplace. To buy an NFT, Ethereum’s Ether cryptocurrency (ETH) is normally used to pay. However, other cryptocurrencies can also be used.
So, to sum up, NFTs have certain characteristics:
- Scarce. NFTs acquire value because of their scarcity. Despite this, NFT developers can make an unlimited amount of NFTs.
- Indivisible. Most NFTs cannot be divided into smaller units.
- Unique. Thanks to smart contract technology, the information of every NFT is unique. ERC-721 is the ‘non-fungible token standard’ that implements an API protocol for NFTs to follow.
What Is a Fungible Token?
Fungible tokens are developed in such a way so that each one of them is equal to the next. A fungible token can be exchanged for any other token of the same kind. These tokens are identical to one another. Therefore, fungible tokens are interchangeable.
In fact, fungibility is what distinguishes cryptocurrencies by nature. Most cryptocurrencies are fungible. Bitcoin and Ethereum, for example, are fungible. One Bitcoin (or a fraction of it) can be exchanged with another because they represent the same value. The same goes for Ethereum.
Fungible tokens are divisible, and they are not unique. Moreover, fungible tokens untangle the exchange and trade processes, as fungibility indicates identical value amongst the tokens.
In crypto, most fungible tokens are issued on the ERC-20 standard of the Ethereum blockchain.
Examples of fungible and non-fungible tokens. Source: blockchainsimplified.com
Fungible vs. Non-Fungible
At first glance, it may seem challenging to understand the difference between fungible and non-fungible, but in fact, it is very simple. Something that is fungible is easily interchangeable. So a fungible item has the same value as another item. They can be exchanged with each other, so they are mutually interchangeable.
The simplest example that can be given is the dollar as a currency. If you owe someone a dollar, you expect that person to repay you a dollar, but you do not expect them to repay you with the same dollar bill you owed them. You will accept any kind of dollar – let’s say four quarters – because you are preoccupied with that dollar’s value and not with the same dollar you gave them. In other words, the dollar is fungible. So, fungibility is an asset’s capability to be interchanged with other assets of the same kind. Some other fungible assets include commodities such as oil, or bars of gold.
Meanwhile, non-fungible assets cannot be exchanged for each other. They are not interchangeable because each of them is unique and does not have the same value as any other asset.
Non-fungible assets are often collector’s items, but not always. An example of a non-fungible item is a car. If you send your car to the mechanic and the mechanic gives you another car to use that is in a better condition, you will be happy. If the car is in a worse condition, you will be unhappy. But, the mechanic’s car does not have the value of your car, so it is non-fungible.
Another example is if your grandfather gave you an old watch as a gift – for sentimental value, there is no other watch in the world that has the value of that watch. Or if you have created a work of art that is special to you, there is no other item that can have the same value, so that piece of art is non-fungible.
Pros and Cons of Non-Fungible Tokens
Just like other crypto assets, NFT’s have their pros and cons. Let’s take a look at them.
- NFTs can be an avenue for many people to enter the world of crypto and blockchain.
- Authenticity is guaranteed through blockchain technology, which increases the value of NFTs and makes them more desirable as a market.
- Many individuals have difficulty monetizing their work, especially in art and gaming, and NFTs can serve as a new way to generate revenue in these areas.
- NFTs can simplify collectible trading. Various rare items can be purchased as digital versions of the collectibles.
- It takes a lot of time to build decentralized apps for NFTs. And sometimes, the process can get complicated.
- The NFTs market is generally new. Consequently, NFTs are not used as much as fungible crypto assets. Therefore for users who have no experience in building decentralized apps, it could be hard to utilize NFTs.
- There is a potential for loss when one buys an NFT in the hope of making money by selling it on for a profit. If the market deflates, then the buyer will experience a loss.
- Since it is still considered a new market, understanding NFTs can be complicated for individuals who are new to crypto and blockchain.
Why Are Non-Fungible Tokens Popular?
In 2019 and 2020, NFT’s saw a modest increase in popularity, but their popularity exploded at the beginning of 2021. Many artists and creators have come to see NFTs as an opportunity to showcase their skills digitally.
In February 2021, personalities like the YouTuber Logan Paul and rapper Post Malone hopped on the NFT train.
Non-fungible tokens received the biggest impetus at the beginning of 2021. Source: Cryptoart.io
A tweet from an analyst in the NFT space, Cherie Hu, noted that only in the last week of February 2021, $18.2 million was spent in music NFT sales – 80% of all music NFT sales from over the previous nine months.
However, this is nothing compared to the NBA digital collectible NFT sales that broke $250 million in all-time sales through the platform Boardroom. The most astonishing part is that $218 million of it was spent in February 2021.
There are several factors why NFTs are becoming popular. Cryptocurrencies are generally experiencing growth and are becoming more acceptable. Blockchain technology is being seen as a solution to many problems in various industries.
The technology behind NFTs could be complex to understand, but factors such as the cult behind NFTs, and scarcity are what make them so popular. The fact that it is a new technology and the feeling of being part of such an early stage plays its role as well. Cherie Hu described it best: “NFTs help close the stubborn gap between the emotional value and market value of art in a digital world.”
Real-World Uses Of Non-Fungible Tokens
Could NFTs tokenize the real world? The real-world uses of non-fungible tokens are starting to become more common, and more diverse. Yet, certainly, the use case of NFTs is still in its early stage. Let’s take a look at the most popular cases.
- Art – Programmable art is one of the most common kinds of NFTs. Art is opening the doors for the adoption of blockchain technology, as it is allowing the tokenization of various artworks. Blockchain offers proof of ownership, so when a user buys an artwork, they will be able to see the artwork’s history. Former ownerships and the prices it was sold for can also be found out.
- Music files – They can also be associated with NFTs. Artists can mint their songs into NFTs with platforms like Rarible and Mintbase.
- Certifications and Licenses – These types of licenses can be minted in the form of NFTs. Therefore this can save a lot of time for those that verify records by checking paper certificates and documents. With NFTs, they won’t have to go through such procedures.
- Sports – NFTs can prevent ticket counterfeiting through tokenized game tickets getting issued on the blockchain network.
- Real Estate – Properties can get tokenized in a blockchain platform. A property is divided into smaller assets. Investors can then buy these assets through blockchain-based exchanges. Real estate tokenization also eliminates third parties in the transaction when someone buys or sells a house.
The Future Of Non-Fungible Tokens
Many in the world of crypto are considering NFTs as the next big thing.
US billionaire entrepreneur Mark Cuban has voiced his opinion about NFTs, saying that they have huge potential.
“This is like the early internet days all over again. I think [NFTs and blockchain tech is] going to be huge,” Cuban said while speaking for “The Quest” podcast with Justin Kan. “I think the collectible side of it is going to completely turn the [art], music and movie industry upside down,” he added.
Also, billionaire investor Chamath Palihapitiya and the influencer Gary Vaynerchuk have praised NFT’s lately.
NFTs can be digitally made or tokenized real-world assets on the blockchain. This shows the potential of NFTs for many different uses. Since they are in the early stages of development, it is the perfect time to start learning about and becoming more acquainted with NFTs.
Big brands are starting to get into NFTs. For example, fantasy soccer game Sorare has signed up 100 football clubs to its platform.
Soon NFTs could become something familiar among all of us, in the way Bitcoin is. With the use of NFTs, many various fields like law, art, supply chain, video games, certificates, and licensing can benefit. The sky is the limit for NFTs.
The Bottom Line
It is an exciting time for cryptocurrencies and blockchain, and NFTs can be regarded as the icing on the cake. They genuinely represent a unique part of the blockchain world and have the potential to blow up in a big way, not least because they can potentially solve various problems for different industries. Furthermore, users can be rest assured that copyright and authenticity will be preserved with NFTs, thanks to the wonders of blockchain technology.