What are Non-Fungible Tokens (NFTs)?

Non-fungible tokens (NFTs) have become a significant buzzword in the world of blockchain and cryptocurrency. These unique digital assets have garnered immense popularity for their ability to tokenize and represent ownership of various digital and physical items, artworks, collectables, virtual real estate, and more.

The advent of NFTs can be dated back to 2012 with the induction of Bitcoin2x. These NFTs came in with the developer’s intent to embed the tokens onto the blockchain, the most popularly adopted non-fungible token is the ERC721 which works on the Ethereum ecosystem.

This guide aims to provide a comprehensive understanding of non-fungible tokens, including their definition, history, creation process, key features, use cases, marketplaces, notable examples, and the pros and cons of NFTs.

Non-Fungible Tokens Defined

A non-fungible token, or NFT, is a digital representation of a unique asset or item on a blockchain network. Compared to cryptocurrencies like Bitcoin (BTC) or Ethereum (ETH), which are fungible and interchangeable with one another, each NFT possesses distinct characteristics, making it one-of-a-kind and non-interchangeable. The uniqueness and scarcity of NFTs make them ideal for representing ownership of valuable digital content.

History of NFTs

The concept of NFTs dates back to the early days of blockchain technology, with the emergence of coloured coins on the Bitcoin blockchain in 2012. However, the first notable NFT project was the creation of the “Colored Coins” protocol by Yoni Assia in 2013. It allowed users to issue tokens representing real-world assets on the Bitcoin blockchain.

The real breakthrough for NFTs came with the launch of Ethereum in 2015. Ethereum’s smart contract capabilities enabled developers to create NFT standards like ERC-721 and ERC-1155, which defined the technical specifications for non-fungible tokens. This laid the foundation for the explosive growth of NFTs in subsequent years.

How Do Non-Fungible Tokens Work?

NFTs are created using blockchain technology, which ensures transparency, security, and immutability. The process of creating NFTs involves three key steps:

• Tokenization. The unique digital or physical asset is represented as a token on the blockchain. This tokenization process involves converting the asset into a unique set of data, which is then stored as an NFT on the blockchain.
• Smart Contracts. NFTs are typically built using smart contracts, self-executing contracts with predefined rules. These contracts define the ownership, transferability, and other attributes of the NFT. Ethereum’s ERC-721 and ERC-1155 standards are widely used for NFT creation.
• Blockchain Confirmation. The NFT’s existence and ownership are recorded and verified on the blockchain through a process called mining or consensus. This ensures the authenticity and uniqueness of the NFT.

Nonetheless, the distinctive features of NFTs are a major reason why their presence in the blockchain and cryptocurrency space is significant. One of their most notable features is that each NFT has a distinct value and cannot be replicated, making it singular and non-interchangeable.

Furthermore, NFTs are indivisible, meaning they cannot be divided into smaller units. Unlike cryptocurrencies, which are divisible into fractions, NFTs exist as whole entities representing the entirety of the digital asset they represent. This indivisibility further emphasizes the uniqueness and exclusivity of NFTs.

An intriguing feature of NFTs is that they are owned and transferred through blockchain transactions. Ownership changes are transparent and recorded on the blockchain. Lastly, NFTs can have a limited supply, adding to their value and desirability among collectors.

NFTs vs Cryptocurrencies

NFTs and cryptocurrencies are both blockchain-based assets, but there are a few key differences between them.

Firstly, NFTs are non-fungible and unique, while cryptocurrencies are fungible, meaning each unit is interchangeable and holds the same value as another unit of the same type.

Secondly, NFTs are designed to represent ownership of unique assets like digital art, virtual real estate, virtual goods, and collectibles. Meanwhile, cryptocurrencies are primarily used as a medium of exchange, store of value, or investment.

Further, NFTs, due to their uniqueness, cannot be directly swapped with other NFTs. In contrast, cryptocurrencies are easily interchangeable with one another.

Finally, NFTs’ value is influenced by scarcity, the reputation of the creator, and the asset’s perceived value. On the other hand, cryptocurrencies derive their value from factors like market demand, utility, and adoption.

What Are NFTs Used For?

NFTs have found applications in various industries which include the following:

• Digital art. NFTs have revolutionized the art world by providing digital artists with a way to tokenize and sell their artwork as unique collectibles, opening new revenue streams and ensuring provenance.
• Gaming. NFTs enable gamers to own, trade, and sell in-game assets, characters, and virtual real estate, fostering a player-driven economy.
• Collectibles. NFTs have popularized digital collectibles, allowing users to own unique digital trading cards, virtual pets, and more.
• Virtual real estate. Virtual worlds and metaverses use NFTs to represent ownership of virtual real estate, allowing users to monetize their virtual properties.
• Music and entertainment. Musicians and content creators use NFTs to sell limited editions of their music, merchandise, and exclusive experiences to fans.

NFTs Marketplaces

NFT marketplaces are platforms where users can create, buy, sell, and trade NFTs. These marketplaces facilitate the exchange of digital assets and ensure the authenticity of NFTs. Some popular NFT marketplaces include:

1. OpenSea. One of the largest and most popular NFT marketplaces, supporting various NFT standards and categories.
2. Rarible. A decentralized marketplace that allows artists and creators to mint and sell their NFTs without any upfront costs.
3. SuperRare. An exclusive platform for digital artists to showcase and sell their rare and unique artworks.
4. Decentraland. A virtual world metaverse where users can buy, sell, and monetize virtual real estate and other assets.

NFTs Examples

Among the most notable NFTs and NFT collections that have made headlines in recent years are:

• CryptoPunks – one of the earliest NFT projects, featuring 10,000 unique pixel art characters, with some selling for millions of dollars.
• Beeple’s “Everydays” – a digital art collection of 5,000 unique pieces, sold for a record-breaking price at auction.
• NBA Top Shot – a blockchain-based platform where users can buy, sell, and trade officially licensed NBA collectible highlights.

Pros and Cons of Non-Fungible Tokens

Unlike most other cryptocurrencies, NFTs are unique in their way, meaning that the value attached to tokens in this category has all the potential to be high, yielding returns to early investors. Besides, similar to fungible digital currencies, NFTs are built and secured on a blockchain system, ensuring that the token is secure, authentic, and safe to transfer between people who own the token in their wallets.

Another advantage offered by NTFs is that they have introduced several millions of people to the world of cryptocurrencies, as many basic human interests are available in the virtual space. In addition, they offer artists, creators, and developers new ways to monetize their work and engage with their audience.

Along with benefits, NFTs also have a few drawbacks to take into consideration.

One of the problems with non-fungible tokens is that you cannot own a part of one token, the investor must be financially capable to afford the price of one unit.

Another issue is the time required to create decentralized applications for NFTs to effectively run on. It take quite long, with the process being extremely tricky, making it hard for the developers, and for subscribers who are new to the blockchain space.

Further, the NFT space is relatively unregulated, leading to potential scams and market manipulation.

Above all, the energy consumption of blockchain networks used for NFTs has raised concerns about its environmental impact.

Conclusion

Non-fungible tokens have undoubtedly disrupted various industries, providing unique opportunities for artists, creators, gamers, and collectors alike.

Notably, the NFT industry has grown from a market cap of over $300 million in 2020 to over $2 trillion in 2023. Nonetheless, it is generally advisable that NFTs should be considered a long term tool for investment. Hence, investors should not fund it with money that they can not let go of in the case of failure.

Nonetheless, potential investors with low-risk tolerance should rather stick to more popular and established digital currencies that have encountered and overcome several challenges along the way.