This Thesis was created by André J Guardia, rising senior at Illinois Institute of Technology. I’m a Dorm Room Fund BIT Fellow, Republic VFA and GenZ Scout. This thesis was created during the Summer of 2022 for my Internship @Decasonic.
Summary
Dynamic NFTs are the future of digital asset ownership. Market trends point to an increase adoption for utility and metaverse NFTs, a trend which will further catalyze adoption of Dynamic NFT technology in numerous use-cases. Therefore, there is great potential to invest and incubate in the early stages of dNFT projects. The study below presents a list of compelling use-cases and examples of projects building them today.
- Proof-of Traffic: View Counts
- Beyond Personal Identity: Dynamic Websites as NFTs
- Revenue Sharing: Certificate of Impact
- Progression-based blockchain gaming: dynamic avatars
In addition to that, the study below presents the definition of static and dynamic NFTs, their differences, trends driving growth in the space, potential opportunities, risks, market sizing and a list of interesting protocols building in this space. If you have any questions don’t hesitate to connect with me over Twitter @andrguardia
Background
What is an NFT?
“An NFT is a digital asset that represents real world bjects like art, music, in-game items & videos. They are bought and sold online, frequently with cryptocurrency and they are generally encoded with the same underlying software as many cryptos”. - Forbes: What is an NFT
The acronym NFT stands for Non-Fungible Token. In order to really understand what that means, we must look at the definitions for tokens, fungibility and consequently, non-fungibility:
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A Token is a unit of data encoded on the blockchain, and enforced through a smart contract. According to Coinbase:
“The other increasingly common meaning for “token” has an even more specific connotation, which is to describe cryptoassets that run on top of another cryptocurrency’s blockchain” - Coinbase
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Fungible: Like physical currencies and other crypto tokens, being fungible means the token can be interchanged with other tokens. They’re all equal in value and indistinguishable.
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Non-Fungible: Each token has a digital signature that makes it unique. Each token has its own value, one NFT can not be interchanged for another unless they have the same price. Each token is cryptographically unique.
The concept of non-fungibility introduces the concept of digital scarcity, as Arry Yu siad:
“Essentially, NFTs create digital scarcity” - Arry Yu, WTIACBC
Now that we’ve covered what NFT stands for, we must explore their early use-cases and traction to date. The most popular use-case for NFTs has been in the form of monetizing digital art. Throughout the 2020-2021 period, NFTs have risen to mainstream consciousness.
The current NFTs we’ve seen rise to prominence are a type of NFT known as static, since at the time of writing the token, its metadata (core properties) is frozen, and therefore permanent. This works great for digital artworks in the form of videos, images, gifs, 3D models, etc. Below, we’ll take a look at some of the core features of static NFTs.
- Designed for original artwork
- Offer exact ownership to users
- Most common use case for sNFT is art collecting due to their frozen metadata. Increasing the earnings potential of artists was and continues to be a compelling value proposition.
Bugs with sNFTs:
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Fixed Metadata: limited use-cases, specially limited use on real-world assets, progression based games, blockchain fantasy sports leagues
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Limited Value Add: since digital content can easily be downloaded and copied, static NFTs have commonly struggled to provide value beyond proof of authenticity and uniqueness (on-chain). Therefore, it is clear to see that the most successful sNFT projects have been the ones who build a strong community around the project (ex: BAYC, CryptoPunks, Cryptokitties)
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Fake Content:
“According to OpenSea's analysis of its own marketplace, over 80 percent of the NFTs listed on the marketplace were plagiarized art” - Wired
With such large fraction of all NFTs on a major marketplace like OpenSea being plagiarized works, it is clear to see that there is still a long way to go in favor of enforcing digital authenticity.
Static NFTs are the first generation of Non-Fungible Tokens, characterized by their inmutability, limited value proposition and risk of plagiarism. The next generation of NFTs is known as Dynamic NFTs, which are explored in the following section of this report.
What are Dynamic NFTs?
Dynamic NFTs are the next iteration of static NFTs. By allowing for the NFTs’ data to be changed in real time through data feeds, smart contract logic can be used to tweak the NFTs properties in response to external stimuli. An interesting definition for Dynamic NFTs (dNFTs) is:
“Real assets similar to living entities. They grow, morph, degrade and regenerate based on external stimuli” - CoinTelegraph
But what kind of data to dNFTs take in? There are two types: on-chain and off-chain data. On-chain data can be directly accessed through the smart contract, but off-chain data needs to be validated and added to the blockchain by an entity known as an Oracle.
What is an Oracle?
An Oracle attempts to add real-time data from off-chain data sources such as web2 websites, sensors, etc. An interesting definition can be found below:
“Service that provides smart contracts with verified and up-to-date data, triggering a change of state in the smart contract” - Visionary Art
Oracles play a pivotal role in the implementation of dynamic NFTs, since off-chain data holds the key to expanding dNFTs to different use cases.
“Oracles are absolutely crucial for Dynamic NFTs to become ubiquitous”. - Supra Articles
Now that we’ve explored what an Oracle is,we can dive back to our definition of Dynamic NFTs:
Dynamic NFTs = NFTs + Oracles
Dynamic NFTs have static properties plus dynamic data inputs that are constantly updated through oracle input. This is an NFT that changes its expression over time. Below you’ll see the flow for a common dynamic NFT contract
- Person/process makes a request for Smart Contract for NFT token URI
- Smart Contract receives request for processing
- Smart Contract makes a call for on-chain data and processes the results
- Smart Contract makes a call for off-chain data from an Oracle, and processes the results
- Contract logic evaluates what to display
Dynamic NFTs are the combination of first generation NFT technology (static NFTs) and real-time data feeds. These data feeds can either be on-chain or off-chain. For the case of off-chain data (which holds the more enticing use-cases), this data needs to be added to the blockchain for analysis by the smart contract. Oracles play a pivotal role in performing this service.
Below you will see a full comparisson between Static and Dynamic NFTs:
Static vs Dynamic NFTs
The data above was compiled from Zeeve.io
Now that we understand the key differences between Static NFTs and Dynamic NFTs, it is clear to see how dNFTs provide different, uniquely programmable user experiences based on real-time data feeds. In the next section of this report we will evaluate the trends causing disruption in the very much nascent NFT space.
Trends Causing Disruption
- Number of Sales and Total Sales (USD): Increase in Sales Volume and Total Sales Value. As can be seen on the first graph, NFT sales volume is represented by the red line, and total sales in USD is represented by the white line. There is a massive spike in sales volume starting 2021, where the NFT boom was just beggining. This increase peaks at approximately 1.25M daily sales volume in mid 2021. This increase in sales volume is (obviously) correlated to the increase in total dollar sales, which saw a max daily value of $2B. It is important to note that the current bear market landscape and high ETH gas fees have significantly brought down the total transaction volume to below 250k daily sales.
- Primary Sales USD and Secondary Sales (USD): Secondary sales market dominates primary sales market even in bear-market landscape. Another important graph to look at is the total dollar value of both primary (red) and secondary (white) sales. It is clear that the secondary sales business in the NFT market represents a much larger share of total sales for the duration of the period analyzed (with the exception of that one spike in primary sales near the end of 2021). Again, under the current bear market landscape total primary and secondary sales have significantly dropped to near zero and below $25k
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Move to D2C: Digital artists are now moving to D2C models for monetizing their creations. This has lead to an increase in margins and the introduction of programmable, enforceable royalties
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Big Brand Adoption: Big brands are adopting NFTs as a means for fundraising
- Pizza Hut’s pixelated pizza
- Pringles and the can of chips you can’t eat
- Taco Bell’s delectable collectible
- Ubisoft and its disappearing Rabbids
- Charmin’s non-fungible toilet paper
- Nike raids CryptoKitties to patent CryptoKicks
- Celebrities like Snoop Dogg and Lindsay Lohan have started to create their own crypto collections
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Key Segments growing in Q2 2022
“The metaverse and utilities NFT segments have both seen a major increase in their activity in terms of numbers of sales and volume of $ traded, which may seem paradoxical for a bear market context” - nonfungible
As can be seen above, the metaverse and utilities segments of the NFT market have experienced unusual growth in total volume, number of sales, total profit, active wallets and volume of circulating assets.
Growth in these segments can be explained by the increased need for useful applications of NFT technology beyond digital art. This trend is the key trend that will catalyze the adoption of Dynamic NFTs. In this report, we will explore a handful of high-impact use-cases for dynamic NFTs.
Potential Killer Apps
The section below is dedicated to exploring the different use cases dynamic NFTs can have, which are expected to produce killer apps in this space
Proof-of Traffic: View Counts
- Description: Proof-of-Traffic mechanism that shows the ammount attention a user gave to a particular part of a website/content piece/NFT. This is equivalent to a view count or a timer that counts engagement with content. This use-case will be used to obtain website engagement analytics on-chain.
- Value Proposition: Embed the web3 equivalent of Google Analytics, this allows for an open-sourced way of keeping track content engagement and popularity, which can be directly monetized on a per-query or a subscription basis.
- Target User: Content creators in need of tracking engagement with their NFTs or additional content on Centralized Social Media platforms.
Beyond Personal Identity: Dynamic Websites as NFTs
- Description:
- dNFTs can be used to represent the ever changing online identity of users.
- Using dNFTs, dynamic data can be stored in the NFT, which means dynamic websites can be stored as dNFTs. This allows for users to create their own personal websites around their personal identity.
- The static NFT equivalent of this is the Ethereum Name Service, which allows users of ethereum wallets to create a more memorable custom name address in the form of an NFT. This NFT is integrated across Ethereum marketplaces and platforms, and offers consolidation with DNS names ending in “.com” and “.org”.
- Monthly .eth address registrations have grown x10 in the last year - Visual Capitalist
- The proposed use case is a multi-chain, dynamic version of the Ethereum Name Service
- Value Proposition: Create and showcase your personal identity across multiple dApps on different chains through the use of dynamic NFTs.
- Target User: Web3 users looking for a way to personalize their identity on multiple chains (more than just ENS).
Revenue Sharing/Certificate of Impact
- Description:
- dNFTs can be used to re-align revenue sharing incentives around nested royalties. A certificate of impact is a registry of all collaborations and changes to a particular piece of code.
- With a dynamic NFT, users can nest royalties into pieces of content such that once a new user decides to purchase an NFT to use its IP, royalties are split across all the contributors and collaborators of that piece of content.
- Example: a TikTok, which is constantly remixed as it starts to go viral. In this case, the first TikTok created is a dynamic NFT, and whenever a user wants to remix the TikTok to get on the trend, they pay a small fee to contribute to the creator. The Smart contract for the remixed TikTok now includes the initial creator and the first person to remix the tiktok, equally sharing the revenue from future remixes. This is a simple model to re-align incentives around sharing digital IP and content monetization, which are two of the largest problems with existing social media networks.
- Value Proposition: Increased earnings potential and re-aligned incentives around intellectual property result in the actual creators of digital trends being handsomely rewarded for it.
- Target User: Content creators looking to monetize their content through the sale of NFTs
Progression-based blockchain gaming
- Description: dNFTs can be used to track a user’s progress through a game in a more efficient way. In this use-case, the dNFT represents the users’ avatar, which is upgraded based on completed tasks/quests/in-game achievements. As the avatar is upgraded new functionality can be unclocked in-game.
- Value Proposition: Dynamic registry to track a users progress and unlock different user experiences based on how much a player interacts with a game
- Target User: Blockchain Gaming users interested in progression-based games
Three additional potential use cases:
- Event Ticketing: enhanced revenue sharing and voting amongst event goers
- Real Estate: a property deed can be converted into a dynamic NFT. Using oracles, off-chain data can be compiled to acurrately value properties in real time, thus reducing the friction associated with valuating properties.
- Education: a dNFT that tracks a student’s courses and academic achievements. Using oracles, university transcript and achievement data can be imported on-chain. An important roadblock to this use case is the legal compliance of adding academic records on-chain.
Potential Risks
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Fake Content / Right-click mindset: In-appropriate re-posting of NFTs
“According to OpenSea's analysis of its own marketplace, over 80 percent of the NFTs listed on the marketplace were plagiarized art” - Wired
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Compatibility: NFT Cross-chain compatibility
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[Compliance](https://www.demandsage.com/nft-statistics/#:\~:text=NFT sales volumes totaled roughly,around 28.6 million in 2021.): Taxes
- NFTs are often subject to capital gains taxes (analogous to profiting on the sale of a stock). Long-term capital gains tax policies are yet to be decided for NFT investors, since NFTs are considered collectibles they might be subject to higher taxation rates.
- The IRS is yet to define NFTs under a taxation framework
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Access to Information: The Oracle centralization problem
“…failure to decentralize oracle operation will lead to more corruption, price manipulation or network attacks on a long enough timeline” - Supra Oracles
- Proper Oracle protocol design is central to the success of Dynamic NFTs, since they directly use Oracles to obtain off-chain information. There is still a long way to go in the sense of decentralization for platforms like Chainlink or Bond.
The first three risks presented above represent the current issues that static NFTs are experiencing, since dNFTs are such an emerging technology, formalized risks are yet to emerge. In actuality, these problems stand to be solved by the implementation of dynamic NFTs.
The only risk for the growth of dNFTs that I could identify to this point is the Oracle Centralization problem, which is a wider problem spanning access to off-chain data.
Potential Market Size
- 37% of Global Market is focused on North America (2021), 4Ire Labs
- NFT Market Size (2021) was valued at $50.10B
- The NFT Market is poised to grow at a CAGR of 10.7% for the period 2021-2030
The NFT Market is predicted to be valued at $125.07B by 2030.
Landscape
Sol Soldiers | Type: Dynamic, Art | Why it matters: interesting because of how they are using Oracles to truly randomize feature selection in their NFT rewards.
VenVuu | Type: Dynamic, Ads | Why it matters: interesting because it allows users to easily get paid for ad, wearables and product placements in the metaverse through the use of dNFTs.
Liquid Earth | Type: Dynamic, Static, Real Estate | Why it matters: interesting because it allows users to easily get paid for ad, wearables and product placements in the metaverse through the use of dNFTs.
Unstoppable Domains | Type: Dynamic, Personal Identity**| Why it matters:** interesting because they allow users to register various NFT domains on multiple chains in the form of static NFTs. In addition to this, Unstoppable Domains NFTs are directly connected to regular websites and can be used as both webpage URL and wallet address. They have direct compatibility with top web browsers (Chrome, Firefox, Opera, Edge, Brave) and work with top crypto protocols like Chainlink, Moonpay, Coinbase Wallet, OpenSea and The Graph.
Final Thoughts
Thesis Statement
Dynamic NFTs are the next iteration of static NFTs. Dynamic NFTs are the combination of first generation NFT technology (static NFTs) and real-time data feeds. These data feeds can either be on-chain or off-chain.
Trends Driving Growth:
- Increase in Sales Volume and Total Sales Value
- Secondary sales market dominates primary sales market even in bear-market landscape
- Digital artists are now moving to D2C models for monetizing their creations
- Big brands are adopting NFTs as a means for fundraising ${^8}$
- The metaverse and utilities segments of the NFT market have experienced unusual growth in total volume, number of sales, total profit, active wallets and volume of circulating assets even in bear-market landscape. Growth in these segments can be explained by the increased need for useful applications of NFT technology beyond digital art.
Potential Killer Apps: dNFTs
The potential app concepts presented below represent opportunities for both early-stage investment or incubation in protocols building that use-case:
- Proof-of Traffic: View Counts
- Beyond Personal Identity: Dynamic Websites as NFTs
- Revenue Sharing: Certificate of Impact
- Progression-based blockchain gaming
Potential Risks
The first three risks presented below represent the current issues that static NFTs are experiencing. In actuality, these problems stand to be solved by the implementation of dynamic NFTs.
- Fake Content / Right-click mindset
- Compatibility
- Compliance
- Access to Information
The major risk identified for the growth of dNFTs is the Oracle Centralization problem, which is a wider problem spanning access to off-chain data.
Projected Market Size
The NFT Market is poised to grow at a CAGR of 10.7% for the period 2021-2030 from a valuation of $50.1B (2021) to $125.07B (2030)
Interesting Projects
A list of interesting projects spanning most identified use cases is presented:
- Sol Soldiers
- VenVuu
- Liquid Earth
- Unstoppable Domains
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