For the uninitiated or crypto-curious people out there, non-fungible tokens (NFTs) represent one of the more colorful sectors of the cryptocurrency industry.
How is it that duplicable, oftentimes wacky pieces of digital artwork can fetch extraordinarily high prices, and why are people flocking to buy these intangible items?
It’s certainly a difficult topic to get your head around, but let’s give it a try.
What exactly is an NFT?
First off, it’s important to point out what you get when you purchase an NFT. Usually, you’re buying a digital token that points to a specific computer file. This file exists somewhere else on the internet. Some NFT platforms store the digital file in the blockchain itself, but in most cases, the file exists outside the blockchain.
This file can be anything from an MP3, an in-game costume, or a cartoon animal picture. It can also represent a membership card or even a ticket.
Think of an NFT as a digital deed to a plot of land. The deed represents ownership of that particular property; but, in real terms, the deed is not the plot itself.
Similarly, in most cases, the NFT is NOT the digital item itself.
So, while it may seem like it’s all one thing, there are two separate components involved.
- The digital item itself (a picture of a cartoon ape, a GIF of an animated cat with a Pop-Tart torso, etc.)
- The non-fungible digital token containing unique identifying metadata that points to the above item. This metadata could include the file’s location, an item’s name, its unique traits, or a blockchain address.
An NFT is simply a tradable digital token that stores important metadata (digital information) about the associated digital item. This information is unique such that even if you were to screenshot or duplicate the intended file and mint a new NFT to represent it, it would contain different metadata. This means that it would be easy to identify which one was the original and which one was a copy.
Just as you can’t “copy” a piece of real estate that a deed describes, you can’t just copy the digital object that an NFT describes. You can take a picture of a plot of land or right-click on a funny cat NFT, but the object the NFT relates to stays the same.
This ease of authentication is due to the immutable, transparent, free-for-all-to-see nature of blockchain technology on which all NFT tokens are stored.
When you buy an NFT, the blockchain stores data that says a specific digital token is linked to a specific item. The token, in turn, is connected to a specific crypto wallet address. If you choose to sell the NFT, the system updates the blockchain data to reflect the new owner’s crypto wallet address.
What do you own when you buy an NFT?
The ownership part of NFTs isn’t as straightforward as you might think.
On one hand, when you buy an NFT, you are essentially buying a token that gives you bragging rights. You can tell everybody: “There might be hundreds of copies of this digital picture on the internet, but I own the original one, and here’s the immutable evidence (in the form of a unique digital token) to prove it.”
While you may be the “owner” of an original digital item, that doesn’t necessarily mean you have any rights concerning that item. You can’t, for example, use it as a business logo or create and sell memorabilia based on it. Oftentimes, those intellectual property rights remain with the person or people who first created the item, but this often differs by NFT collection.
That isn’t to say there aren’t NFTs that do grant open license usage. Most of the time, unless expressly mentioned by the creator, buyers shouldn’t just assume the NFT creator hands these rights over upon sale.
So, in short, what you own is a digital token that immutably points to an original digital item.
What can you do with them? Holders of certain NFT collections such as Bored Apes Yacht Club (BAYC) have found ways of increasing utility by establishing exclusive communities. These private channels allow like-minded people to share ideas and information and receive perks like early access to new NFT drops.
Advances in DeFi protocols also mean holders can now rent their NFTs to others in some instances.
What happens if the digital file is deleted?
If you only own the NFT and not the digital file itself, then what would happen if the original creator decided to wipe the file?
This danger is one of the major drawbacks of NFTs right now. In a rush to capitalize on the surging NFT trend, many creators fail to adequately secure their NFT data. That means if that data gets lost or corrupted, the NFT will point to nothing and be worthless.
A recent example of this is the widespread loss of many NFTs minted on the now-defunct FTX exchange. Instead of hosting NFT data using a decentralized, blockchain-based storage solution like Storj or Sia, FTX hosted them on FTX US servers. Those servers are now defunct. As a result, the affected NFTs no longer link to their original files. Now they simply direct users to an FTX webpage that outlines the company’s insolvency. Unfortunate events like this re-illustrate the importance of decentralized NFT metadata storage and will hopefully set new standards for collections going forward.
Learning how NFTs work now will help you navigate the future of the metaverse and digital ownership. Many expect that we could eventually end up buying and selling digital goods in the same way we sell physical ones. After all, we will still need cool shoes, T-shirts, and jewelry, whether we’re hanging out in a real bar or a virtual one.
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