Cryptocurrencies were originally built to recreate the functionality of currency in the digital world. A crucial characteristic of currencies is fungibility. In other words, each individual unit must be valued the same as—and interchangeable for—another unit. For instance, if you give your friend a $1 bill from your pocket, and they give you a $1 bill from theirs, no meaningful change in value has occurred. The same is true for 1 bitcoin or 1 ether.
NFTs, however, are blockchain-based assets (or, tokens) that are one-of-a-kind (i.e. non-fungible). This functionality imbues them with qualities that make them useful in many settings. Perhaps the most well-known is the collectibles market. Just as a Babe Ruth rookie card or original Picasso painting can fetch high prices because of their rarity, so can popular collectible NFTs. However, NFTs can also represent in-game avatars or items in video games, tickets to events (in the real or virtual world), titles or deeds to physical property, and more.
How do NFTs work?
The most popular NFTs are implemented on the Ethereum blockchain as ERC-721 tokens. To be able to trade these unique items and build a strong ecosystem of tokens, you need a standard for their implementation. Fungible tokens use the ERC-20 standard to make tokens compatible. Non-fungible tokens, however, need a different standard because of their uniqueness. In order for the blockchain to be able to accommodate NFTs, a brand new standard, called ERC-721, was written.
ERC-721 sets a standard by using smart contracts. The standard lists functions and their parameters which make NTF implementation possible, allowing NFTs to be managed, owned and traded. By standardizing NFTs, the developer community was able to create a new ecosystem of digital content, applications and games that use NFTs. The unique ID of each token means that no two tokens are identical.
Of note, NFTs have since become popular in other blockchains such as Solana and Algorand.
NFT use cases
NFTs are versatile tools in crypto because they are one-of-a-kind. First and foremost, that makes the scarce, which can drive value for collectables like digital art. It also means that if someone wants to prove they own something, whether it is in the virtual world or real world, they can do so by holding a unique NFT.
It is impossible to list every use for NFTs, because uses are still being imagined and developed. With that said, some of the most common ones are:
- Real-world ownership: As a way to provably demonstrate ownership of a unique asset, NFTs can reach outside of web3 and into the physical world. There is no reason that the title to a car has to be a piece of paper. As an NFT, it would live immutably on the blockchain. In February 2022, a house in Florida became the first physical real estate to be sold as an NFT on the blockchain—and the listing even included a work of art minted as an NFT.
- Digital art: The most expensive NFT ever sold was Beeple’s “Everydays: The First 5000 Days.” It sold at the famous Christie’s auction house for 38,525 ETH (worth more than $69 million at the time). Online open marketplaces for digital art (and other NFTs) have also been developed, including OpenSea and Magic Eden. PFP collections like CryptoPunks and Bored Ape Yacht Club also fall into this category.
- Metaverse assets: In metaverses like The Sandbox or Decentraland, virtual real estate is represented as NFTs on the blockchain. Other assets like avatars, wearables, and in-game experiences can be tokenized as NFTs, as well. This creates the opportunity for ownership of digital world assets, and it also establishes a rich economy for those assets to be traded among users.
- Blockchain-based games: Just as metaverse land and avatars on Ethereum are often represented as NFTs, so are characters within decentralized games. Further, in-game items like tools, weapons, and digital playing cards can provide unique functionality as NFTs.
- Music: By selling an NFT of a song to an individual, it gives that user ownership of the song’s file, which goes beyond the right to listen to the song. This could be used to grant the owner access to special experiences with the artist, or even legal rights and royalties to the song, depending on the NFT’s specifications. It also theoretically gives artists more control over their music when compared with the traditional music business.
- Community: Because NFTs are both identifiable and one-of-a-kind, they can bestow membership to online communities to their holders. For instance, owners of an Ape in the BAYC collection are granted exclusive opportunities to interact with each other—or even to attend events in the real world. For this same reason, NFTs can also be used as tickets for concerts or sports games.
Why are NFTs valuable?
The security and trustless nature of NFTs creates attractive reasons to own them. If we think of NFTs as collectible items, then it’s easy to see why these non-fungible tokens would be valuable to own. Additionally, NFTs are based on blockchain technology which means that you do not need to rely on trusted third-parties for storage or validation.
Every NFT is a representation of a unique item and is, therefore, one of a kind. This creates digital scarcity. ERC-721 allows developers to create representations of digital items that are both unique and irreplaceable. This means that you are the only one in the world who owns that particular item. And you can prove your ownership with the blockchain.
If you want to buy your very own NFT, you can do so with cryptocurrencies like SOL or ETH. Bitstamp is one of the few exchanges in the world that allows you to trade traditional money for cryptocurrencies, with which you can then acquire NFTs.
NFT Essentials
- NFT stands for non-fungible token.
- They are representations of unique items in the digital or physical world.
- Built on the ERC-721 standard on Ethereum
This webpage has been approved as a financial promotion by Bitstamp UK Limited which is registered with the UK’s Financial Conduct Authority. Please read the Risk Warning Statement before investing. Cryptoassets and cryptoasset services are not regulated by the Financial Conduct Authority. You are unlikely to be protected if something goes wrong. Your investment may go down as well as up. You may be liable to pay Capital Gains Tax on any profits you earn.