almost 3 years ago • 4 mins
Investor interest in non-fungible tokens (NFTs) is exploding, posing at least two questions: what exactly are they, and can you make any money out of them?
NFTs are unique digital assets hosted on a blockchain. If bitcoin is the digital equivalent of gold, then NFTs are the digital equivalent of paintings or polished diamonds: no two are quite alike.
Individual bitcoins, like more traditional investments such as stocks and bonds, are fungible: each one is interchangeable with and indistinguishable from another of the same type. But while you won’t care whether you own Apple share number 27,005 or Apple share number 27,006, each NFT has unique individual characteristics – hence non-fungible.
NFTs have existed in various forms for at least five years, and were previously known simply as “crypto collectibles”. They’ve broken out in recent weeks, however, after Nyan Cat – an NFT-certified GIF of a flying cat with the body of a Pop-Tart – sold for nearly $600,000. Just check out this spike in Google searches:
The sums involved are rapidly rising. A blockchain-authenticated video artwork by digital artist Beeple sold last week for $6.6 million, with major auction house Christie’s currently offering another of his works for sale. People of more modest means are meanwhile spending tens of thousands of dollars on things like digital basketball cards.
Buying an NFT doesn’t give you exclusive control over the collectible. People can still view and share Nyan Cat, for example (you’ll be pleased to hear). What you do get, however, is provable ownership of a digital certification, held for posterity on a blockchain.
None of this is particularly new in the art world. After all, collectors have long been prepared to pay huge sums for everyday, mass-produced items – like urinals or bricks – purely because an artist has certified them as their authentic work.
And while, like art, these tokens have no inherent value as investments – they provide no income or utility – they are worth what someone else is prepared to pay. And recently, “what someone else is prepared to pay” has turned out to be a surprisingly large amount...
In-demand items selling for eye-catching sums, be they paintings, sneakers, or digital tokens, understandably generate interest among investors. And plenty of people seem prepared to bet that buying NFTs now will lead to big profits.
But if you’re getting a sense of déjà vu, that’s because we’ve been here before. NFTs were briefly all the rage during the previous crypto boom of 2017, with the CryptoKitties phenomenon grabbing headlines as some digital cats sold for six figures.
The average price of a CryptoKitty hit about $60 in early December 2017 before tumbling to about $10 a few weeks later, according to nonfungible.com. It recently topped $1,000.
Prices of CryptoPunks, meanwhile – unique 24x24-pixel images of faces that have also been around since 2017 – are similarly surging. The average CryptoPunk was changing hands for $75,000 earlier this week, up from about $4,000 at the start of the year.
In an increasingly computerized world, paying a lot of money for digital art pieces or sports cards doesn’t strike me as any more irrational than paying for physical ones. After all, games like Fortnite and Roblox have demonstrated that people are prepared to fork out for virtual goods – even when their supply isn’t inherently limited.
Blockchain tech also allows for investor-friendly mechanisms that would be difficult, if not impossible, to enforce otherwise: like automatic royalties being paid to artists each time their digital work changes hands.
In many ways, NFTs and blockchain’s distributed ledgers are a match made in heaven. And given that the financial system is based on provable asset ownership, it’s not unreasonable to expect there to be even more high-value applications of this technology to come.
I’ve always thought that the investment case for collectibles like Pokémon cards or comic books is that they become increasingly rare over time, thanks to fire, coffee spills, or general wear and tear. Since NFTs only exist on a blockchain, the natural removal of supply that occurs in the physical world ceases to be a driver of value. Plus you can’t show them off when you have friends over.
When it comes to the art world, companies like Masterworks or Rally may offer the chance to buy small ownership stakes – but the market would be nothing without the participation of the truly wealthy. And as most blockchain-based transactions are public (even if the identities of buyers and sellers are only represented by long strings of numbers), will the privacy-minded megarich want to get involved?
In conclusion, it’s hard for me not to see NFTs as a fad that will fade like the Beanie Baby craze of the late ‘90s. My worry is that many investors right now seem happy to trade in highly volatile assets they don’t truly understand so long as prices look likely to rise. Like GameStop shares, NFTs risk becoming a kind of financial MacGuffin – and that may be a sign that markets in general are headed for a fall. If you’re interested in getting involved, be very careful.
Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.