This is Part one of a two-part series on nfts. |
I was very happy not knowing anything about NFTs (non-fungible tokens). In fact, everything I knew came from watching the COVID-19 special on South Park. (Butters kind of nailed it.) Now that NFTs have infiltrated the political world (and more of my friends are getting involved), I decided I need to write about them. In order to do that, I need to understand them.
NFTs make it possible to “own” a digital file. Data is added to the file, such as an image, video, or audio, that creates a unique signature that can be sold. The jargon can be painful, but it’s not as complicated as some make it out to be. Not only can you invest in NFTs, most of the stories in the media are along the lines of how NFTs are being used as a get-rich-quick scheme. It is true that some people have made a ton of money creating or selling them, and political campaigns even started using them late last year as a money-making tool. In reality, like most things, it’s not quite that simple.
You will learn what they are, how they work, how to invest in them, and the myriad issues associated with them. The last part of this series focuses completely on how they have infiltrated the political world.
NFT Primer
The best way to define NFTs is to say they are a way to provide unique proof of ownership over a non-physical asset. Likely, you’ve heard about them in the context of digital art being sold to buyers for obscene amounts of money.
In addition to digital images, NFTs can be associated with songs, videos, electronic game assets, and virtual real estate (online plots of land in the metaverse). Even blogs can become digital assets for NFTs, which are being pushed as a way to secure copyright and create a bidding market for content.
Just like cryptocurrencies, NFTs are stored on the blockchain. If you need to understand how the blockchain works, here’s a simple explanation. Essentially, the blockchain is a system of recording information on a digital log that makes it impossible to change, hack, or cheat.
However, cryptocurrencies, like physical money, are “fungible.” For example, one Bitcoin is always equal in value to another Bitcoin. NFTs, however, are “non-fungible” in that each one is unique and irreplaceable. It is therefore impossible for one NFT to be equal to another. They are similar to digital passports because each non-fungible token contains a unique identity.
When you create an NFT on an NFT platform, it is assigned a file asset number, token name, and symbol. Also, there is a hyperlink to the actual digital file, as the digital file itself is never stored on the blockchain. What is stored on the blockchain is the unique asset information, the hyperlink to the digital file, and the list of the previous and current owners. NFTs are essentially just a digital ledger, with the whole point being to prove ownership of the asset.
If you need a visual explanation, here’s a video that helped me:
NFTs do solve a longtime issue for people who create digital content online. Before, there was no way for one to prove ownership over a digital file, let alone a way to make money from it. People could always just download online and share. However, as an NFT, the digital item is at least recorded on the blockchain to establish ownership. Yet while the buyer owns the file, the creator retains the copyright and reproduction right. This allows the creator to make money off of his or her creation by selling ownership rights, but the creator can still sell copies, like prints if the file is artwork.
Investing in NFTs
Investing in NFTs means either buying and selling files or creating your own. Once you have a digital file you wish to convert into an NFT, such as my fancy image in the headline photo, there are several steps to take, several accounts to open, and many apps to download. Sadly, there is also a lot of money that needs to be spent each step of the way. Here are the steps:
- Obtain a Crypto Wallet: In order to conduct any transaction for an NFT, your first step is to obtain a crypto wallet to hold your funds. The wallet is what connects you to an NFT marketplace. I chose one that was recommended to me called Coinbase Wallet, but there are several to choose from. Once you get an account established for the wallet, you must then fill it by buying crypto coin: “ether,” to be exact. Ether is the cryptocurrency that runs the Ethereum network. Ethereum isn’t the only blockchain that allows you to trade in NFTs, but most NFTs are Ethereum-based tokens and several NFT marketplaces currently only accept ether tokens as payment. Ether can be purchased on the Ethereum website.
- Choose an exchange: It can take several days after you select an exchange due to legal checks. On the Ethereum website, you will be given options to select an exchange based on the country you are from. In some cases, you are also limited by the state you reside in. There are several options, although I selected Coinbase because I already had a Coinbase Wallet, and it also allowed me to use a debit card instead of wire transfer. This is yet another app that must be downloaded. Once you buy the crypto currency, you must then transfer the funds to your Crypto Wallet. This involves yet another fee.
- Choose an NFT marketplace: Hooo boy. Still more to do. There are plenty of options when trying to choose an NFT marketplace, which is where you buy, sell, and trade NFTs. Currently, the most popular is OpenSea because it holds the world's largest share of NFTs. Once you pick, you must sign in using your crypto wallet. After you do that, you can upload your digital files for your “collection.”
- Sell, sell, sell: You must now decide if you want to sell your NFT using a set price or an auction. There are fees for any successful transaction on the marketplace, and then there is something called a “gas fee” for any transaction on the Ethereum network. This gas fee wildly fluctuates and is quite expensive, because it compensates for the computing energy required to complete a transaction on the blockchain. It’s the reason you see simple little gif files being priced at over 100 dollars—anything less, and the seller loses money.
Not to discourage anyone from investing in NFTs, but the stories of people making millions are misleading. Yes, some people have made a fortune, but those who have made a lot of money are, by and large, artists who either already have an established fan base, or managed to land exclusive listing deals with large marketplaces, like Nifty Gateway or SuperRare. This is very similar to a musician who lands a record deal. If you don’t fall into either of these two categories, you will really need to work hard to find a way to market what you are selling.
Please don’t assume that you can put something on a marketplace and some random rich person is going to find it and offer you big money. You also have to be very wary of scams, which I’ll discuss later. Just know that these scams cost victims an average of $1,200, according to the Better Business Bureau. As for me, I don’t have anything that I’m passionate about selling nor do I think anyone would want. I decided that the fees weren’t worth the effort and didn’t want to contribute to the environmental issue that I outline in the next section.
Yes, some of my friends who do invest have actually made money, but not much—especially with the fees cutting into their profits. Can you make money? Yes. Are there better and cheaper ways to do it? In my opinion, definitely.
So many problems
NFTs have several fundamental drawbacks that need to be considered, both ethical and legal.
Illusion of scarcity
The first drawback is the idea that NFTs derive their value from being scarce. In the digital world, it’s a complete illusion. Rarity increases value, but NFTs force the question: Can you artificially create rarity? NFTs are often compared to baseball cards. The market is flooded with copies of Babe Ruth baseball cards, but there are only a few of the 1933 Goudey #181 Babe Ruth cards—or so the analogy goes. Yet unlike a physical object, a digital asset is completely non-distinctive from any other copy out there.
That Babe Ruth baseball card has distinctive physical attributes that make it rare, yet a digital asset doesn’t. It is not actually rare, which means the value is artificially being inflated. I can copy anything I find on an NFT marketplace right now and save it to my desktop. The only thing that makes my copy different from someone who paid for it is the digital ledger.
This hasn’t stopped items from selling for outrageous sums of money, such as 2D doodles going for $4 million. Although ownership is acknowledged on a blockchain, you don’t actually “own” the meme. There’s even the argument that memes and digital art can’t really be “owned.”
Remember those star registry schemes? You can literally buy the rights to name a star, but it is only your name being recorded on a private company’s registry. Having your information recorded on a blockchain won’t stop someone from copying an NFT you paid money for, but do you really “own” it? To some, this type of virtual ownership is meaningless.
High potential for scams
With so much money being made, the scammers came quickly. One collector was scammed when he was given the chance to buy Banksy’s supposed first foray into NFTs. Although Banksy’s website has announced that the artist does not create any NFT artwork, that didn’t stop someone from paying $244,000 in crypto currency for a fake piece.
The incident undermines one of the things that make NFTs so attractive: the fact that they offer cryptographically secure authenticity. But the problem is that authenticity is dependent on the seller being who they say they are.
Digital artists like Damien Hirst have embraced the NFT market, but some have had their work stolen and sold without permission. It is very easy for someone to impersonate someone and/or sell their work as someone else. A popular technology blogger, Terence Eden, ranted about someone who claimed and sold one of his tweets as an NFT.
Another kind of scam is called a “wash sale,” where someone creates an NFT, puts it up for sale, quickly buys it themselves for a very high price to make it look valuable, then offers it at an inflated price.
There are countless stories about scammers selling NFTs of work that they don't own. It has caused some to even shut down:
Environmental disaster
A network of compensated miners on Ethereum compete to verify transactions on a blockchain by solving cryptographically difficult problems. This is what makes it possible to create the NFT and store it on a blockchain. Yet that effort requires an obscene amount of computing power and energy consumption. How bad is it? One blockchain, Bitcoin, uses more energy than most countries. VISA, which powers 42% of the world’s credit market, uses 1752.79 KWh per 1.2 million transactions, which equates to just one Bitcoin transaction.
It’s unfair to put the onus on NFTs for climate change, but they certainly don’t help. One environmentally conscious artist figured out that the sale of six of his NFTs cost 8.7 megawatt hours of energy, which was the equivalent of two years worth of energy in his studio. He is no longer developing NFTs and is pushing the NFT marketplaces to adopt more efficient technology.
To be fair, the crypto world is trying to change this. Some of this is due to genuine environmental concerns, but much of the effort is coming from investors who know this is a big issue driving away consumers. NFT platforms are advertising new eco-friendly processes like a new protocol called Zer00, which is self-sustainable and greatly reduces waste. Some companies are promising to only use places to mine coins that use renewable sources or excess energy. Others are investing in new technology to be more efficient, such as the ability to store more information on blocks within the block chain to make it much more efficient.
Pro-NFT advocates say that technology is rapidly changing and predict that NFTs will get much more environmentally friendly. Perhaps that is true, but considering how bad the blockchains are for the environment right now, they really can only move up.
As far as investing in NFTs, I gave my reasoning for not doing it. You might come to a different conclusion. If you do invest, please be careful, or you might wind up like one of Butters’ victims.