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NFTs, More than just JPGs

Picture of AJ Nary

 

While you may be familiar at this point with cryptocurrencies such as Bitcoin and Ethereum, you’ve probably also been hearing a lot lately about NFTs (non-fungible tokens). So what exactly are NFTs and why has their value skyrocketed over the past several months? 

NFTs are simply a digital record of ownership that is stored on a blockchain, making them highly secure and verifiable. While relatively new, they already make up a multibillion dollar segment of the cryptocurrency market. NFTs often represent digital works of art, which are also linked to the blockchain, allowing their ownership and any future transfers of ownership to be easily verified. 

Non-Fungible

To better understand them, let’s first start with the name, “non-fungible token”.  When something is said to be “fungible” it means it’s interchangeable with another unit of the same type.  For example, a one pound gold bar is equal to a pound of gold coins. In the crypto world, 100 million satoshis (the smallest unit of BTC, much like the penny for USD) can always be exchanged for one bitcoin. But unlike cryptocurrencies, NFTs are unique and not interchangeable; they do not have this property of fungibility.

“Tokenization”

Another difference from cryptocurrencies is that even though NFTs are most commonly tied to digital assets, this is not a requirement. Any individual object may become an NFT if its ownership is recorded on the blockchain: a painting, an antique violin, or even a rare pair of sneakers. 

This is often referred to as the “tokenization” of the underlying item. Tokenization protects the underlying asset from theft due to the heightened capacity for ownership verification and facilitates more secure trading of the asset in the future.

You could regard NFTs in the same light as say investing in rare collectibles like the trading card market. However, since NFTs are linked to the blockchain, their true scarcity is readily verifiable. This is extremely important, since being able to authenticate the actual rarity (and by extension, value) of an item is one of the most important aspects of collectible investing.

Present (And Future) Applications 

The primary utility in NFTs lies in their ability to authenticate ownership and verify transfers of ownership, as we’ve discussed above. Digital art and rare collectibles were a natural starting point to begin leveraging this functionality, but NFTs can also serve in other capacities:

  • Artist Toolkit - Connect creators directly with their audience, sell their work directly to fans and promote private access events
  • Data Privacy & Identity Theft - Store important personal data like healthcare records and credit history in a secure, immutable form
  • Play to Earn - Create, reward and track ownership of gaming assets like characters and digital items
  • Smart Contracts - Program actions directly into the NFT, such as a royalty fee, to ensure the artist is paid every time their work is sold or traded after the initial sale

And this is only the beginning for NFTs. Their potential applications extend to anything requiring individual ownership: event tickets, domain names, property deeds, and endless other possibilities. There have even been predictions that in the future, major stock exchanges like the S&P 500 could entirely exist on the blockchain. 

NFT Marketplace 

You can buy, sell, and trade NFTs through an online marketplace, much like securities in a stock market. A few popular NFT marketplaces include OpenSea, SuperRare and Rarible. 

To access these sites, you’ll need a digital wallet (MetaMask, WalletConnect, Coinbase Wallet) that’s compatible with the chosen NFT marketplace. Purchases are typically made with the native cryptocurrency of the protocol layer that the marketplace sits on - Ethereum being the most common. You’ll need to fund your digital wallet with these coins prior to buying an NFT.  Some wallets also support purchases via a credit card or ACH transfer.   

If you’re looking to learn more, many marketplaces feature helpful resources such as educational blogs, newsletters, and even tax assistance.

Conclusion

Much like Bitcoin and other cryptocurrencies, it seems like NFTs are here to stay, and could offer an interesting opportunity for portfolio diversification. But like any new emerging asset class, NFTs are highly volatile and prone to speculation so it’s important to do your homework first and understand the risks before investing.

Please note, this article is intended for informational purposes only and should not be considered investment, tax or legal advice. Consult your investment, tax and legal teams for definitive guidance on any digital asset.
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