So what are NFTs, really?

April 11th, 2022

Since my journey into NFTs in August 2021, I get asked about NFTs so much so that I have started taking informal classes for my friends. They’ve told me that I explain complex concepts in a simple way, so this article is a test if it applies at scale. So here goes:

NFTs or Non-fungible tokens is a technology that establishes proof of ownership of a digital object. When you buy an NFT, you are mostly buying a receipt that points to a specific position on the blockchain.

What’s a blockchain, you ask? In simple words, it’s a distributed database that is decentralized. As a comparison, think of where your Twitter account details are stored. They’re on centralized servers owned by Twitter. Your NFTs, on the other hand, are stored on the blockchain that’s kept operational by thousands of people (nodes) in a decentralized manner. In that way, there is not one authority that can take down your data.

That’s a simplified way of explaining the tech that powers NFTs. But this technology has far-reaching implications and helps understand the concept of digital scarcity.

Digital Scarcity

Digital media (and software) are infinitely reproducible at a low marginal cost, by design. That’s why you can have the same text, image, or video consumed by millions of people at the same time. This has driven growth of internet startups since the 90s.

Due to this, the concept of scarcity has been largely restricted to the physical world. Only a few things that have been scarce digitally — domain names come to mind. Why does a dot com go on sale for a million dollars, because it is scarce and buyers ascribe value to having their brand name dot com site.

But, apart from domain names, digital media has not been scarce, until the invention of NFTs since it enables provable ownership through its tech. As a result, the concept of scarcity from the physical world is adopted by the digital world.

Now that we have established how NFTs help create proof of ownership, how can we understand NFTs better? Let’s start by comparing NFTs to things we already know in the real world.

Unique blend

NFTs are a unique blend of art, collectibles, community, and equity. Think NFTs as a Picasso painting, a Gucci bag, SoHo house membership, and startup equity — all rolled into one.

Picasso painting — art, scarcity, collectible, taste, status, store of wealth

Gucci — good quality bags, status, fashion

SoHo house — community, selection

Equity — wealth, status

Art and Collectibles

Humans have always signaled taste and status over the years through art and collectibles.

Art has been a store of wealth for centuries now. Owning a Picasso, Jackson Pollack, or an Andrew Warhol is signaling taste and wealth.

And it’s not just art. It’s also sneakers, Pokemon cards, a rare coin or stamp collection, watches, bags, and so on.

The question is — what are the determiners of value for these collectibles? You could argue that a $10 watch can tell time with the same accuracy as a $10,000 watch, but there are often other drivers of value that’s beyond only utility.

In fact, collectibles are ways for people to showcase their individuality, wealth, and belonging to a community. We’ll touch upon more on the community aspect in a bit.

Value is also determined by how much someone else is willing to pay for what you own. Most of these collectibles now have secondary markets where some of these are sold for much more than what they retail for new.

For example, the Rolex Explorer in Oystersteel and yellow gold is selling at a 33% premium in the secondary market, 15,000 for a $10,800 watch. Sneakers have a secondary marketplace as well, for instance, Vegnonveg in India. Similarly, Vestiare Collective is a luxury resale store for bags, accessories, and shoes.

However, collectibles are not only owned by rich people. If you were in the know, or spent a lot of time researching, and got in early you would have made wealth in the process. Similarly, this applies to the NFT world. You can get into a promising project at mint at a way cheaper price.

The takeaway from this is that the human motivation exists. NFTs is just a new technology to uncover that motivation for digital objects.

Community

Humans are social animals. We seek validation from peers and belonging with a group that we identify with. By owning a collectible, you become part of a clique, a community, and get access to perks that come from being in that community. The interesting thing I’ve noticed about communities is that the more niche or weirder the interest, the stronger the sense of community — because that’s when you feel you really belong.

We’ve seen early glimpses into this phenomenon on Twitter and social through changing profile pictures or adding the NFT project to your bio.

Another aspect is the premium club aspect. There are few examples of this right now, for people in the same NFT project joining city-based running or cycling clubs.

But think of a future in which an NFT project uses the community funds to buy buildings around the world to create its version of a SoHo house. The NFT unlocks exclusive access, and since you're part-owner of the fund, you are a stakeholder, unlike SoHo house which works on a subscription basis.

Equity

So far the examples of collectibles and communities that I’ve mentioned before don’t grant you equity into their businesses. For example, buying a Nike shoe or Gucci bag doesn’t grant you stocks in those companies. Nor does taking a SoHo house membership grant you equity into the publicly listed company.

However, buying into an NFT project and particularly the PFP ones (we’ll get to that in a minute) has the potential of granting you some equity.

Let’s take the example of Bored Apes Yacht Club. Those who bought into the project early got an airdrop of $APE tokens currently valued at $12 per token and with a market value of $3B right now.

This is equity that is liquid and every owner can sell or hodl.

Different Types of NFTs

Now let’s look at the few different types of NFTs and it is helpful to know the difference between them:

1/1 Art
PFPs
Others - Music, Writing, etc.

1/1 Art

One-of-one art is unique digital art created by digital artists or photographers.

The way you value this digital artwork is the same as physical art. Who is the artist + how good is the art? What is the demand — how many other people want the same art? For example, people buy a Picasso painting because of his name as much as the art he has created. This is because his other work has been notable and enough people believe this.

This kind of art is usually sold in an auction style with reserve prices and bidding.

There are clear risks that still persist. For example, the art could’ve been stolen and placed by an impostor. The original could’ve been a physical painting that was recreated digitally. And like with any art or collectible, the value could go down to zero if others don’t perceive it has value.

However, the utility of such purchases is that you can signal your status by showing you bought this artist’s painting. Platforms like oncyber.io even allow a virtual museum tour of the digital art that you verifiably own.

We’re still a few years away from the true metaverse, but it is likely that more people will visit your digital home vs your physical home. And in that way give you the opportunity of showcasing your possessions.

Platforms:

Profile pictures (PFPs)

This is the second major type of NFT project. It is usually algorithmically generated art that comes in collections of usually 10,000 images.

These aren’t hand-drawn. Their uniqueness comes from the computer-generated image using multiple layers and accessories.

The value in these projects is less about the actual art and more about the creators and community. It functions more like a club that breeds exclusivity.

In the digital world, PFPs are an interesting concept, as they act as your logo. So, every time you tweet or post on Instagram, people see your profile picture.

Previously, you would use pictures from vacations or high-quality portrait images as display pictures to showcase your proof-of-work or experience.

In a digital sense, it can be a crypto punk, bored ape, or chain runner.

Imagine that whenever you tweet or post something people can see that you have an asset that’s worth thousands of dollars!

There’s an aligned financial incentive for everyone who is a NFT holder for the community to keep prospering. That leads to a few benevolent gestures, for example, how when a Chain Runners community member lost his NFT due to a scam, Josh Buckley (CEO of Product Hunt and Hyper) went out of his way to retrieve the lost NFT and return it to the rightful owner.

All these aspects negate the common criticism of NFTs (especially for PFP ones) that you can just right-click + save the image, why would you buy it for thousands of dollars. It’s not really about the image, is it?

Platforms: Opensea.io

Others - Music, Sports, Writing, etc

There are other examples of NFTs in other media than just images.

Music

Music - if there is an upcoming artist that you want to support, you buy their music NFT and support them when they’re undiscovered. As soon as they gain popularity, you have bragging rights and also if there’s a price appreciation you can gain financially.

Platforms: sound.xyz

Sports

NBA Topshot — you can own a moment. Again with bragging rights, and hoping for a price appreciation in the future.

Imagine owning Michael Jordan’s buzzer-beating shot or Sergi Roberto’s last-minute winner in the 6-1 win against PSG in 2017 or Dhoni’s world cup winning 6 in 2011. Those would be great collector’s items now.

Platforms: nbatopshot.com

Writing

Writing — owning a part of a seminal piece like Packy’s Great Online Game on mirror.xyz

Writing has a long way to go with more people wanting to get a piece of someone’s creative work. What’s more interesting than owning a writing NFT is from a creator’s perspective — the way you can split the payments that come from people who buy your NFTs. If you’ve taken an idea from another writer, you can offer them a split for the earnings from the NFT — making creation truly composable.

Having said that, images and songs are more viral than long-form writing. It’s possible that we might have a bigger market for text NFTs with poems, haiku, and other such shorter text content.

Platforms: mirror.xyz

Final Thoughts

As we’ve seen, NFTs serve primarily as a signaling tool. They are divided into 1:1s and PFPs. 1:1s are more like traditional art. PFPs are a combination of art, community, club, and exclusivity.

It takes time to wrap your head around the concept of NFTs, it took me a while as well. It could still be a scam who knows, but it’s worth exploring with minimal time and financial investment. Or maybe, it can pay off in the long run. We’re still early.