What Are Non-Fungible Tokens (NFTs) and Why Are They Revolutionary?

Delwin Graham - May 14, 2021
Although they’ve been around since 2014, NFTs have suddenly captured the world’s attention because they transform digital works of art and other collectibles into one-of-a kind, verifiable assets that are worth millions.

Non-fungible tokens, or NFTs, are the latest blockchain phenomenon to go mainstream. Although they’ve been around since 2014, NFTs have suddenly captured the world’s attention because they transform digital works of art and other collectibles into one-of-a kind, verifiable assets that are worth millions. For example, famous digital artist Mike Winklemann, better known as “Beeple”, crafted a composite of 5000 daily drawings to create perhaps the most famous NFT of the moment, “EVERYDAYS: The First 5000 Days”, which sold at Christies for a record-breaking US$69.3 million. Similarly, Twitter co-founder Jack Dorsey sold his first ever tweet, “just setting up my twttr”, as an NFT for more than US$2.9 million. (Cf., Robyn Conti & John Schmidt, “What Is an NFT? How Do NFTs Work?”, www.forbes.com, April 29, 2021)

Whereas Bitcoin is being hailed as the digital answer to currency, NFTs are touted as the digital answer to collectables. But NFTs differ from cryptocurrencies by being non‑transferable – that is, non-fungible. In economics, a fungible asset is something with units that can be readily interchanged – like money. For example, a CAD$10 note can be exchanged for two CAD$5 notes or another CAD$10 note. Similarly, cryptocurrencies are fungible – i.e., they can be traded or exchanged one for the other. One Bitcoin is always equal in value to another Bitcoin. This fungibility characteristic makes cryptocurrencies suitable for use as a secure medium of transaction in the digital economy. (Cf., Rakesh Sharma, “Non-Fungible Token (NFT) Definition”, www.investopedia.com, March 8, 2021)

But NFTs are different in that they are generally one of a kind, or at least one of a very limited run, and have unique identifying codes. They are non-fungible, and one token cannot be exchanged for another. Unlike cryptocurrency then, an NFT is valuable because it cannot be exchanged. Similarly, the Mona Lisa is much more valuable as an original than a print.

Non-fungible tokens can function as certificates of ownership for both virtual and physical assets. As with cryptocurrency, a record of who owns what is stored on a shared ledger known as the blockchain, typically Ethereum. The records cannot be forged because the ledger is maintained by thousands of computers around the world. NFTs can also contain smart contracts that may give the artist, for example, a cut of any future sale of the token. (Cf.,” What Are NFTs and Why Are Some Worth Millions?”, www.bbc.com, March 12, 2021)

Note that nothing is stopping people from copying the digital art. In fact, millions of people have seen Beeple’s art piece, and the image has been copied and shared countless times. In many cases, the artist even retains the copyright ownership of their work so that they can continue to produce and sell copies. But the buyer of the NFT owns a token that proves they own the “original” work. Some people compare it to buying an autographed print. (Cf.,” What are NFTs …?)

While NFTs are most famously used to “tokenize” digital assets, they can also be used to represent real-world items like artwork and real estate. Tokenizing real-world tangible assets allows them to be bought, sold, and traded more efficiently while reducing the probability of fraud.

Perhaps the most obvious benefit of NFTs is market efficiency. By enabling digital representations of physical assets, they remove the need for intermediaries and allow artists to connect directly with their audiences. They can also improve business processes. For example, an NFT for a wine bottle will make it easier for different agents in a supply chain to work with it and help track its provenance, production, and sale. (Cf., Sharma, “Non-Fungible Token (NFT) Definition”)

Non-fungible tokens are also excellent for identity management. For example, by converting individual passports into NFTs, each with its own unique identifying characteristics, it is possible to streamline entry and exit processes between countries.

NFTs can also be used to democratize investing by fractionalizing physical assets like real estate. Given the bureaucracy involved, it’s easier to divide a digital real estate asset among multiple owners than a physical one. The relevant metadata is incorporated into each unique NFT. Similarly, an artwork does not necessarily have to have a single owner. In fact, the buyers of Beeple’s US$69 million NFT are said to be selling fractional ownership shares in the art piece to crypto-art investors. (Cf., Ben Davis, “Analysis”, www.artnet.com, May 10, 2021)

However, at the moment, there really aren’t many ways for the ordinary investor to invest in NFTs, except maybe buying Ethereum. But technology will continue to change the way we live, work, and own things, and we will always look to profit. Please contact me at dgraham@cgf.com or 780-408-1518 for a few ideas.