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What are NFTs? The Ultimate Guide to Non-Fungible Tokens

February 24, 2022 - 19 min read

How NFTs Work and Why They’re Set to Revolutionize The Digital Economy

According to JP Morgan, as of November 2021, the global NFT market was worth approximately $7 billion, with the market expected to grow exponentially in the coming months and years. In fact, the value of the NFT market is expected to grow to $75 billion by 2025. NFTs themselves can be seen as an integral part of the growing digital metaverse, an economic niche itself expected to grow to over $600 billion by 2027. 

NFTs are one of the most exciting things to emerge from the blockchain industry. Heralded by many as something that will (and is) revolutionizing the art, sports, music, and entertainment industry, NFTs represent an enormous opportunity to digitally transform both intellectual and physical property. 

What is an NFT?

An NFT, or non-fungible token, is a digital token on a blockchain. Each NFT represents a unique asset, such as a digital sports card, a piece of digital art, a piece of music, or a piece of virtual property. “Wrapped” NFTs can also represent real assets, such as pieces of real estate, physical artwork, bottles of wine, or even exotic cars. 

NFTs vs. Fungible Tokens and Cryptocurrencies 

Cryptocurrencies like bitcoin were the first mainstream product to emerge from blockchain technology, but they are different from NFTs in several important ways. NFTs are also different from traditional tokens as well, which, like cryptocurrencies, are produced or mined in large quantities and can be exchanged for specific prices on the open market. 

Cryptocurrencies are the native currency of a specific blockchain. For instance, Bitcoin is the native currency of the Bitcoin blockchain, and Ether, typically referred to as Ethereum, is the native currency of the Ethereum blockchain. Cryptocurrencies can be mined via various consensus methods; Bitcoin is mined via the energy-intensive proof-of-work method, in which computers solve increasingly difficult randomized problems in order to compete to be the first to validate a transaction block and receive a reward. 

Ethereum was a proof-of-work blockchain but is now transitioning to a less energy-intensive proof-of-stake consensus model, where block validators “stake” or lock up a certain amount of Ether (ETH) in order to compete to validate transactions and receive payment. 

Fungible tokens, unlike coins, do not have their own blockchain, and operate on other blockchains, relying on smart contracts. Fungible tokens are generally issued by companies in predetermined amounts as a way to raise capital as a form of equity, or as a way to allow people to participate in the governance of a specific blockchain project. Some cryptocurrencies, including the stablecoin Tether (UDST), are actually tokens issued on the Ethereum (or other) blockchains. Tokens can be traded on major exchanges, with the value naturally fluctuating due to supply and demand. 

Unlike cryptocurrencies, which are recorded on their native blockchain and do not actually move into a user’s wallet — tokens, when spent, actually move from one place to another. Each blockchain has its own form of token configuration, with the most popular currently being Ethereum’s ERC-20 token configuration. 

Unlike fungible tokens, which typically use the ERC-20 configuration, NFTs typically use the ERC-721 model, which is specialized for non-fungible tokens. ERC-1155 is a newer type of NFT token configuration which attempts to merge some of the aspects of ERC-20 and ERC-721 tokens in order to increase ease of transfer and reduce transaction costs. 

The Top NFT Marketplaces and Websites

Some of the top NFT marketplaces currently include: 

OpenSea

OpenSea is currently the largest NFT marketplace in the industry, and is one of the easiest platforms for beginners to create, or “mint” their first NFT. While transactions are generally denominated in Ether, OpenSea permits users to pay with over 150 types of tokens. OpenSea is home to some of the most famous NFT collections, such as CryptoPunks, Bored Ape Yacht Club, and CryptoKitties. 

Rarible

Rarible, somewhat similar to OpenSea, is a popular platform for a variety of media-based NFTs, including music, videos, collectibles, and original art. Like OpenSea, users can buy, sell, trade, and mint NFTs on the platform. While OpenSea allows users to buy and sell with ETH and other common tokens, Rarible requires users to transact with its own Rarible token (RAR). Like OpenSea, Rarible is built on the Ethereum blockchain. The company currently has a variety of notable corporate partnerships, including partnerships with Adobe and Taco Bell. 

NBA Top Shot Marketplace

NBA Top Shot Marketplace is currently the world’s largest sports-based NFT platform. It’s the official NFT platform of both the NBA and the WNBA, allowing users to purchase “collectible moments” of memorable plays and game highlights. It also features NBA-related art and other collectibles. Unlike Rarible and OpenSea, it operates on its own bespoke blockchain created by Dapper Labs. 

Axie Marketplace

Axie is currently one of the largest crypto-based online games in the industry. As of December 2021, its popular token (AXS) has an impressive market cap of more than $5 billion. Axie allows players to play with Axies, fantastical creatures that can be purchased and trained for duels (much like Pokemon). Axie Marketplace is the digital marketplace for the game, allowing users to buy Axies, lands, and other NFTs that can be used within the game. Like OpenSea and Rarible, Axie and its marketplace are built on the Ethereum blockchain. Axie has gotten significant press coverage, as some full-time players in countries like the Philippines have been able to replace their income by playing the game and exchanging their NFTs for cash. 

Foundation

Foundation is an NFT marketplace with a specific focus on buying and selling digital art. Like Axie, OpenSea, and Rarible, Foundation is built on the Ethereum blockchain and has sold more than $100 million worth of NFTs. 

There are a wide variety of other popular NFT marketplaces, such as SupreRare, CryptoPunks/Larva Labs, Known Origin, and Nifty Gateway– and new NFT marketplaces are popping up each month. As we’ve mentioned, many use the Ethereum blockchain, though it’s likely that newer marketplaces may move away from Ethereum due to its high transaction costs. 

How to Mint Your First NFT

Minting your first NFT can differ depending on which blockchain your intended NFT platform uses. However, for this section, we’ll focus on minting NFTs on Ethereum-based platforms, as most major marketplaces are built on Ethereum. 

First, you will need to open an account on a crypto exchange like Coinbase or Kraken; this will allow you to purchase the Ethereum you will need to mint your NFT. Then you will need to purchase a sufficient amount of Ether (ETH) in order to complete the minting process. The amount you will need depends on the platform and the current minting price, which can fluctuate due to supply and demand. 

Next, you will need to obtain an Ethereum compatible crypto wallet; the most popular among these is MetaMask. MetaMask and most other Ethereum wallets will provide you with a secret recovery phrase, which you should store in a safe place. 

After that, you will need to create a profile on your intended NFT marketplace, and connect your profile to your wallet. The exact steps will vary depending on the marketplace you use, but, in general, can easily be found online with a quick Google search. 

Next, you will need to find the area on the platform which allows you to create your NFT; this process will generally involve uploading your intended media items, such as a JPG or GIF image, or a video or audio file. You can also typically add a description of your NFT. 

At this point, you will be able to list your NFT for a set price or put it up for auction. Platforms differ in how the pricing works, but on OpenSea, if you list your NFT for a set price, you will not need to pay a gas fee, while for an auction, you will need to pay a minting fee. OpenSea, for example, takes 2.5% of the sale price for all NFT sales and auctions. Rarible, in comparison, charges a 3.5% fee, while Foundation charges a 15% seller fee. 

There will generally be a fee for wallet initialization, which is different from the gas fee you will pay to actually mint your NFT. This is usually $50-60 on OpenSea, but in times of high demand, could go up to $800. In this case, you will want to wait until the fee decreases before initiating your wallet. 

If you mint an NFT on one blockchain and want to move it to another, you can often do so in a process called “bridging.” For instance, for an additional gas fee, you can send NFTs from Ethereum to Solana.

ERC-721 vs. ERC-1155 NFTs and Batch NFT Creation

It’s important to note that OpenSea and some other platforms also allow the minting of another type of token, ERC-1155 tokens. While the ERC-721 standard allows the easy transfer of NFTs between accounts, permits users to determine the total supply of a set of NFTs on a network, and allows them to query the owners of a specific asset, it still has certain limitations.

The ERC-1155 token is similar in many ways to the ERC-721 but allows for batch transfers of groups of NFTs, which significantly reduces transaction costs. In contrast, ERC-721 tokens must be transferred individually, which greatly drives up costs. This is particularly useful for NFTs in video games, where users may want to transfer tens or hundreds of NFTs at one time. The ERC-1155 standard also supports the creation of semi-fungible tokens. These semi-fungible tokens (SFTs) initially trade as fungible tokens but are then converted to NFTs upon use. For instance, an ERC-1155 event ticket token may be traded as a fungible token before the event but converts to a non-fungible collectible after the event has occurred. 

It should also be noted that the above guide to NFT creation only focuses on the creation of single NFTs. Today, many major NFT projects, such as the Bored Ape Yacht Club (BAYC) are created using scripts or templates that randomize various features across each NFT. This allows the relatively quick and easy creation of large collections of 10,000 or more. These clone scripts, in the form of smart contracts, can also be used to create massive batch NFTs on OpeanSea and other marketplaces.  

How to Invest in NFTs

Investing in NFTs is a tricky business, but some have made fortunes doing it. NFTs that gain in value generally come from a reputable source, such as an artist, creator, or celebrity with a reasonably large following. However, this doesn’t mean that investing in “no-name” NFTs is always a bad idea. If you find an artist or creator that you feel does excellent work, investing in their NFTs could be a way to get on the bandwagon early. However, it’s important to avoid investing large amounts of money in the NFTs of “no-name” creators, as their popularity, and hence, the price of the NFT may never increase. 

One important aspect to look at when investing in NFTs is the “floor price,” the lowest price at which the seller of the NFT will part with it. NFTs with higher floor prices are often better investments, particularly if previous sales of similar NFTs, either from the same collection or the same creator, have sold at high prices. 

You can also look for sellers that are listing a popular brand of NFT, such as a CryptoKitty or a Bored Ape Yacht Club NFT, for a particularly low price, perhaps due to a mistake or due to the need to cash out quickly. 

Investing in NFTs, just like investing in any other type of collectible, is a potentially high-risk venture, so you should generally not put any money into NFTs that you are not willing to lose. However, just like cryptocurrencies and tokens, if you become a true expert in the market, you may be able to make significant money by buying, selling, and trading NFTs. 

NFTs and the Art World 

The art industry is perhaps the place where NFTs have made the biggest splash– both for upcoming and traditional artists. Unlike traditional, physical art, most NFT art is entirely digital. Digital art traditionally has had the problem of proof of ownership; a file can be copied endlessly, and anyone can claim ownership. However, by creating an immutable record of ownership, an owner can prove that they are the sole owner of the NFT. 

Perhaps the most famous art collection to come out of the NFT world is the Bored Ape Yacht Club, a series of 10,000 cartoonish illustrations of apes in various costumes. The Bored Ape Yacht Club (BAYC) is not just a series of digital illustrations; but also a community, which allows owners various benefits, such as utilizing a shared graffiti board. As of December 2021, the lowest selling price for a BAYC NFT was $210,000, with many reaching $300,000 or more

Famously, YouTuber Beeple’s EVERYDAYS: THE FIRST 5000 DAYS, a video NFT compiling a life record of more than 12 years of the influencer’s life, sold $69,346,250 in March 2021, making it the most expensive NFT sold to date. 

However, traditional artists have also found great success with using NFTs to promote their work. Perhaps the world’s most famous living artist, Damien Hirst minted a collection of 10,000 NFTs in 2021, which, by May, had sold upwards of $25 million

NFTs are also a boon for smaller and emerging artists; many use Instagram to create a community around their artwork, doing weekly or monthly live, video auctions to increase interest and demand for their work. In this way, artists with smaller followings, say 10,000 to 20,000 followers, can generate reasonable income from their work. In some cases, artists will pair their NFT with a real print, which will be sent to the buyer upon the sale of the NFT. 

NFTs and Music 

The music industry has undergone quite a revolution in recent years, with newer artists often opting to release songs and albums independently. Newer artists also have opted to sell their own merchandise in an attempt to capture much more value than they could by signing with traditional record labels and advertising agencies. NFTs seem to be a natural extension of this DIY trend in the industry. 

Just like art, almost any type of music-related media can be converted into an NFT. This includes traditional music audio files, music videos, concert and behind-the-scenes video clips, album art, concert tickets, and much much more. Like with art, NFTs can either be standalone or linked to real-world objects. 

One example of a major band jumping on the NFT bandwagon is Kings of Lean, which released their album When You See Yourself as an NFT in March 2021. The NFT drop was accompanied by a limited-edition vinyl record as well as an original piece of animated cover art. 

While musical artists can drop NFTs on major platforms such as OpenSea, SuperRare, and NiftyGateway, among others, there are also NFT marketplaces specifically designed for the music industry. For example, NFT TONE is a decentralized NFT marketplace that allows musical artists and fans to buy, sell, auction, and trade music-related NFTs. The marketplace uses its own native token to help users transact. While this platform is relatively small, with a token market cap of only $2 million as of December 2021, it’s likely that more music-focused NFT platforms will continue to launch in the near future as industry demand grows. 

NFTs and Sports

In many ways, NFTs in the sports world can be seen as an extension of traditional sports memorabilia, like signed balls, jerseys, and collector cards. However, with the maturing of the sports NFT economy, more integration will come, with creators and companies saying that sports NFTs will soon be integrated into both crypto and traditional video games. 

Just like art and music-based NFTs, sports-related NFTs have had billions of dollars of sales in 2021 alone. In fact, consulting firm McKinsey reported that in one hot week, weekly sports NF sales reached a staggering $138 million.  

As we mentioned earlier, NBA Top Shot Marketplace is currently the largest officially-licensed sports-related NFT marketplace in the industry, but a variety of new marketplaces are popping up as industry interest grows. Dapper Labs, the same company that engineering NBA Top Shot, recently signed an agreement to produce NFTs for the NFL. 

Tops MLB is another large NFT marketplace generating licensed NFTs for Major League Baseball, but it isn’t the only MLB marketplace entering the ring. Candy Digital, another NFT development firm, is creating another platform specifically to generate new NFTs for the MLB. After receiving a $100 million equity infusion from SoftBank and other investors, Candy Digital, a relatively new firm, is now valued at $1.5 billion. This only demonstrates the power that NFT deals have to pump up company valuations, as well as demonstrating the increasing institutional interest in NFT marketplaces. 

NFTs, Real Estate, and Digital Real Estate

Surprisingly, one of the most lucrative NFT markets has been virtual real estate. During the week of December 6, 2021, a staggering 25% of all NFT purchases through popular platform NonFungible.com consisted of digital land, with sales totaling over $300 million. Other popular platforms for virtual real estate include The Sandbox, Decentraland, Upland, and Somnium Space. 

NFT-denominated digital land is considered one of the core elements of the metaverse, which was valued at almost $50 billion in 2021, and, as we mentioned at the beginning of this article, is expected to grow to around $600 billion by 2027. 

However, NFTs aren’t just for virtual real estate, they’re also applicable for buying and selling property in the real world. For years, millennial customers have agonized about the long and confusing process of home purchasing, which includes multiple parties, such as escrow firms, notaries, title companies, lawyers, and inspectors, among other participants. 

NFTs have the potential to change all of this, and one firm, Propy, Inc. has spearheaded the process by facilitating the first NFT home sale in the U.S., which occurred earlier this year. The process involved creating the NFT on the Ethereum blockchain, transferring the home to a U.S. legal entity, and then wrapping the legal entity inside the NFT, meaning that transferring the NFT would automatically transfer ownership of the property. 

After holding a 24-hour auction in June, Propy ended up getting 40 bids in ETH. The auction was won by a millennial homebuyer from Silicon Valley, with the entire NFT transfer process taking 22 minutes, a far cry from the weeks and sometimes months it takes to purchase a home traditionally. 

However, buying and selling homes is just the beginning when it comes to real estate and NFTs; crypto-enabled mortgages based on liquidity pools, crypto title insurance, and crypto appraisals are other products that experts expect to come onto the market in the coming months and years. 

NFT Lending, Borrowing, Staking and Yield Farming 

Since NFTs, like tokens and cryptocurrencies, are digital assets, it was only a matter of time before NFTs began to become integrated into the wider DeFi universe. Today, just like one can take out a loan on their Bitcoin on a platform like AAVE, market participants can actually take out loans on their NFTs. 

One of the newest NFT lending platforms, NFTfi, is a decentralized marketplace where customers can utilize their NFTs to obtain collateralized loans from other users. The marketplace set a record of $8.6 million of NFT-backed loans in October 2021 alone. One NFT backed loan, backed by an NFT issued by the creators of popular collection CryptoPunks, clocked in at a staggering $1.42 million. 

In addition to providing capital for borrowers, NFT lending can be extremely lucrative for lenders. Due to the high risk of NFT lending, many are seeing interest rates of 20%+. However, NFT lending is just the beginning when it comes to profiting off of NFTs. 

In addition to traditional borrowing and lending, NFT owners can also engage in (potentially) highly-lucrative yield farming. Similar to yield farming with traditional cryptocurrencies, NFT yield farming involves staking an NFT to get tokens as a reward. Conversely, it can involve staking tokens to get rewarded with one or more NFTs. 

For example, one crypto gaming platform, Bunicorn, has created an innovative type of liquidity mining protocol in which illiquid NFT tokens are wrapped into collectible NFTs. These tokens are time-locked, which stops users from immediately selling their tokens. 

In addition, Bunicorn has implemented an AMM (automated market maker) DEX (decentralized exchange) that allows investors to earn high yields via mining “unique time-locked rewards wrapped into tradable NFTs.” Basically, users can stake their NFTs for a certain period to get additional tokens, potentially achieving higher interest rates than via simple borrowing and lending protocols. 

Like other NFT technologies, NFT yield farming is still in its infancy and may appear a bit too complex for mainstream crypto or NFT investors at the moment, but, like other NFT innovations, this may change in the near future. 

Crowdfunded and Fractionalized NFTs, Explained

Some of the most popular NFTs out there are extremely expensive, but unlike other asset classes, there traditionally was no way for people to put their money together to purchase an NFT as a group. However, some protocols are changing that via NFT crowdfunding

For example, Ark Gallery is a DAO specifically designed to crowdfund the popular yet expensive CryptoPunks collection of NFTs. Ark permits users to crowdfund a CryptoPunk NFT, allowing them to possess a small fraction of the token. The owners, as a group, can then decide when and if to sell if a buyer tenders an offer on the NFT.  Each crowdfunding investor gets a proportionate payment based on their ownership share of the specific CryptoPunks NFT. 

In a similar fashion, new protocols are allowing for the fractionalization of NFTs. For example, a company called NIFTEX has fractionalized NFTs into what it calls “shards.” These shards are generated in the form of fungible ERC-20 tokens, each of which represents a partial share in the NFT in question. NIFTEX’s protocol allows only fractionalized token holders of a specific NFT to make an offer to buy the NFT. This sharing process creates more liquidity in the NFT market and makes it easier for smaller investors to make significant profits from high-value NFTs. 

Burning NFTs 

Just like tokens or cryptocurrencies, NFTs can be burned, or destroyed, by sending them to an unspendable address, eliminating them from the blockchain. The goal of burning an NFT is to reduce the supply of similar NFTs, thereby increasing the demand, and, ideally, the value of the NFT. Burning an NFT costs only the amount of gas that you’ll need to send it to the non-functioning wallet address. 

NFT burning is unlikely to bring any benefit to the average NFT investor, as they are literally throwing their investment away. However, for a creator of NFTs who is looking to increase the sales price or an investor who has hundreds of NFTs from the same collection, burning can be a strategic, albeit controversial, way to potentially increase the price of other similar NFTs they may own. 

Dynamic NFTs, Sports, and Gaming 

Most NFTs are static, in the sense that they have immutable traits that are permanently recorded on the blockchain. However, a new type of NFTs, dynamic NFTs, can be altered through outside influences, such as real-world events. 

For instance, a static sports card NFT would only record past information about a player’s past performance, while a dynamic sports card NFT could be updated minute-to-minute to show a player’s performance from game to game. 

In another example, a dynamic NFT inside a fantasy video game could change characteristics over time. For instance, an NFT weapon in a fantasy game could decay over time and lose value, or it could gain additional value as it’s used in more battles. 

In both of these examples, the changing nature of the NFT could make it far more entertaining and engaging for the user, as well as potentially change the value of the NFT over time. 

Since most blockchains are closed systems, dynamic NFTs require the use of oracles, third-party services that provide “real-world” off-chain data to blockchain smart contracts and applications. 

In the example of the sports card, the NFT could use a decentralized oracle to pull sports performance data from multiple online sources in order to reach a consensus about how to update the NFT’s data. In the case of the video game weapon NFT, the oracle would pull data from the game itself in order to communicate the required changes to the NFT. 

References: 

  1. Fox, M. (2021, Nov.) The NFT market is now worth more than $7 billion, but legal issues facing the nascent sector could hinder its growth, JPMorgan says. Business Insider: Markets Insider. 
  2. Van Bloom, D. (2021, Dec.) How a $300K Bored Ape Yacht Club NFT accidentally sold for $3K. CNET. 
  3. Cheng, D. (2021, Dec.) Your Guide to ERC-1155: Comparing ERC-721 to ERC-1155. Web3 University. 
  4. Waterworth, K. (2021, Dec.) Almost 25% of NFT Purchases in Early December Were for Digital Land. The Motley Fool. 
  5. Genç, E. (2021, Oct.) Beginner’s Guide to NFTs: How To Mint a Non-Fungible Token on Ethereum. Decrypt. 
  6. Centieiro, H. (2021, Sept.) ERC-20 vs ERC-721 vs ERC-1155 Ethereum Token Smart Contract — Which One to Choose?. Gitconnected. 
  7. Brooks, K. J. (2021, Nov.) Sports NFTs are popular, but are they a winning investment?. CBS News. 
  8. Rossolillo, N. (2021, Dec.) 10 Top NFT Marketplaces. The Motley Fool. 
  9. Goldstein, C. (2021, Aug.) Damien Hirst’s NFT Initiative, Which Asks Buyers to Choose Between a Digital Token and IRL Art, Has Already Generated $25 Million. Artnet. 
  10. Karayaneva, N. (2021, Nov.) Real Estate NFTs: How It Began. Forbes. 
  11. Fernau, O. (2021, Nov.) NFT-backed Lending Market Surges with $1M-Plus Loans and 20% Interest Rates. The Defiant. 
  12. Baig, H. (2021, Aug.) The Rise of NFT-Based Yield Farming in Blockchain Gaming. Hackernoon. 
  13. Dale, B. (2021, Sept.) The Inevitable Marriage of Yield Farming and NFTs, Explained. CoinDesk. 
  14. Gomezz, A. Burning Your NFT: How to, Cost and Purpose. Cyber Scrilla. 

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