What are NFTs? A guide to investing in digital art
By now, you may have probably heard of the term “NFT”, “non-fungible token”, or “crypto art”. But what are NFTs?
If you’ve heard the term but are still unsure what it means — and want to jump on the bandwagon ASAP — this guide covers all the information you need to be the NFT expert on the next (post-COVID) party!
Let’s get started!
What are NFTs and how do they work?
Basically, NFTs (also known as “non-fungible tokens”) are a new type of virtual asset that represents ownership status and authenticity of (mostly) digital art. NFTs are unique identifiers that rely on blockchain technology — just like Bitcoin, Dogecoin, and other cryptocurrencies. Hence, NFTs can also be bought using cryptocurrencies and the corresponding transactions (prior sales, sales prices, etc.) will be recorded on the blockchain as well.
If you’re asking yourself what kinds of digital “objects” can be tokenized, the answer is: all kinds!
Pictures, memes, gifs, virtual fashion for video games — or even the Twitter CEO’s first-ever tweet! — can be turned, or “minted” as one would say in the technical language, into an NFT.
After doing so, just like registering a vehicle documents a car owner, an NFT documents an official owner of a digital collectible. From this point on, while anybody can technically see the piece of art online, only the buyer has the official status of being the owner.
To understand how NFTs work, you first need to know the difference between fungible and non-fungible assets.
Fungibility is the characteristic of a good to be interchangeable. The Euro, USD, and Chinese Yen, for example, are all interchangeable currencies. If you would transfer your friend €1 and they would transfer you €1 as well, nothing would change, right?
The same goes for cryptocurrencies.
For example, Bitcoin is fungible, meaning that if you trade one Bitcoin for another, you’ll have the exact same amount afterwards.
Some goods, however, are non-fungible. A good physical example for non-fungible goods are Pokémon trading cards: trade one card for another and you will have a different card. If you trade Pikachu for Vanillish, for instance, you will have made a non-fungible trade because Pikachu and Vanillish are not interchangeable. They belong to different Pokémon generations and have different abilities. (But, who wants to trade Pikachu anyways?..)
The same goes for non-fungible tokens. You can’t simply trade two NFTs without gaining or losing value and the ownership of a digital piece of art.
Wait, are people actually buying NFTs?!
Yes, they are! And they’re spending a lot of money on them!
According to Cryptoart.io, until the beginning of June 2021, over 200,000 pieces of digital art have been sold using NFTs. The cumulative value of these transactions amounted to (you might want to sit down for this) over $600,000,000! That’s an average of $3,000 per artwork!
The Financial Times reported even $873,900,000 in cumulative sales since the beginning of 2021.
If this still sounds rather silly and abstract to you, don’t worry — it’s because it is.
Paying for symbolic ownership of a virtual piece of art that can be viewed by anyone else without them paying isn’t easy to comprehend.
But before digging deeper into the advantages and criticisms regarding NFTs, let’s quickly take a look at the following to better understand the incentives of buying digital art:
Think of some of the classic artworks, like Van Gogh’s “Starry Night” or the famous “Mona Lisa”. Apart from the beauty behind these paintings, scarcityis the number one reason that makes these original artworks to be extremely valuable — while a poster of “Starry Night” is up for just $9,99 online. There simply is only one original. NFTs make it possible to translate this concept of scarcity into the digital world of art: copies of the same video or tweet are interchangeable (fungible) like the posters of famous paintings — unless you are the rightful owner of the corresponding NFT, like the original painting. In other words, NFTs are “a kind of digital bragging rights” for being the official owner of an artwork. (“Look, I own an original Picasso!”)
In this interview with Wired, Vincent Harrison, a famous New York gallerist, expresses a similar view saying that “anyone can see pictures on the Internet of the most expensive artworks; posters are sold in museums but it’s the ownership that creates value”. So with NFTs, not only do you have ownership of the artwork, but also maintain that ownership on the blockchain that is transparent for everyone to see.
Pros of NFTs
While NFTs have been traded since around 2017, they only have surged in popularity in 2021.
Apart from the concept of scarcity discussed before, there are some other factors causing the recent hype for NFTs.
For example, the fact that digital assets are currently so popular is probably related to the hype surrounding cryptocurrencies such as Bitcoin or Ethereum.
Spurred on by Twitter and Reddit forums like Wall-Street Bets, a large number of people, including inexperienced investors, have started investing in cryptos in the hope of making a quick buck. Of course, some of these people also invested in NFTs and hoped that the price would quadruple eventually (which, sometimes, it did).
Pair the crypto hype with the current situation worldwide (hello Covid!), when people became even more digitally engaged due to lockdowns, this naturally made NFTs more attractive (specifically NFTs for video games, like digital clothing or digital real estate).
In addition, there is the current fear of future currency devaluation as aresult of high indebtedness during this pandemic, which always leads to people not wanting to have their money simply lying in the bank, but rather invest it.
For artists, who have suffered greatly during the global pandemic, there are real incentives to sell their digital art as NFTs. As pointed out by Bloomberg, earning money has been really hard for digital artists before NFTs were implemented. Take beeple, for example (an artist who sold the $69m digital painting). Before NFTs, any one of his works, once put on the Internet, couldn’t be distinguished from the original, making it nearly impossible to provide good reasons for people to buy his art.
Another upside for artists is that NFTs have the so-called “smart contracts” feature which pays the artists a percentage every time the NFT is sold. The above-mentioned beeple, for example, collects a 10% royalty every time one of his tokens changes hands.
Cons of NFTs
Although NFTs represent a new asset class and open up many new opportunities, skeptical opinions have been voiced, too.
With the fall of the crypto market following Tesla’s announcement of their deviation from Bitcoin, two main criticisms against NFTs have been recently emphasized: the volatility of the market and the climate harm of the transactions.
Since NFTs are minted using the same blockchain technology as some energy-hungry cryptocurrencies, they also end up using a lot of electricity — electricity that generates a lot of greenhouse gas emissions. This makes NFTs quite bad for the environment.
Here are some numbers:
Memo Akten, a British artist and technologist, looked at the electricity used in the creation and sale of NFTs over a period of several months. In the approximately 18,000 NFT artworks analyzed, the average power consumption is said to have been 340 kWh. According to Akten, this equals “to an EU resident’s total electric power consumption for more than a month, with emissions equivalent to driving for 1000Km, or flying for 2 hours.”
Regarding volatility, when we look at the following data, it is clear that NFTs (measured by the average NFT price) are highly fluctuating.
In the time from February 22 until February 26, for example, their average value decreased by 85% in just four days. The German DAX index on the other hand only declined by 2% in that same period making investments in NFTs high risk.
In simple words, before you decide to buy NFTs, do make sure that you’re fully aware of NFT’s high volatility — something that often comes with the risk of losing money.
Conclusion: Are NFTs the future?
NFTs will definitely be with us for a while. They have disrupted the art market and offer new opportunities and advantages for artists, but also collectors and investors.
The large amount of money that has flowed into the new assets in just a short time shows that the market is embracing them.
Moreover, the world has certainly not yet discovered all the possible uses for NFTs.
Currently, they are mostly used for digital art, but, in actuality, the sky’s the limit. Already today, there are several companies tokenizing physical, real-world assets such as real estate or boats — and enthusiasts believe that all kinds of property will eventually have their ownership status tokenized through NFTs.
Now, even well-known multinational companies like Walmart have found their use for NFT technology: the company uses the technology to manage the supply chain for the food it sells.
Despite all this, a slightly bad feeling remains. The damage done to the environment by NFTs and the blockchain technology is a persistent issue and must be improved in the future for these technologies to survive — and the world, too.
