In Defense of Non-Fungible Tokens (NFTs)

It seems like every day the news on non-fungible tokens (NFTs) continues to grow. First I heard about a video of Lebron James dunking that sold for $208,000. Then I discovered the crypto punk images that were regularly selling for over $30,000. And recently Jack Butcher sold a beautiful GIF of a Michelangelo quote for $57,000. However, despite what might seem like rampant speculation, I am here to defend NFTs as an asset class.

For those of you that have never heard of NFTs, they are basically the certified ownership of a digital object. For example, you can buy digital art, digital videos, and even tweets as NFTs. Where is this certified ownership recorded? On the blockchain (most commonly Ethereum’s blockchain).

I first heard about NFTs through Michael Batnick’s discussion of NBA TopShot, an online community where people can buy and sell NBA highlight videos. However, I grew more intrigued as I witnessed an increasing number of digital objects selling online.

While it’s easy to write off NFTs merely as objects of speculation, this misses the bigger picture of what they represent. NFTs are simply the digitization of collector’s items. Therefore, fans that like a particular artist/niche (i.e. NBA highlights) can now support that artist/niche through the use of digital ownership. For example, this video is a good explainer of how an artist who was previously unable to monetize her digital art, can now earn a living because of NFTs.

But why would someone buy a digital object that can technically be copied (and consumed) by anyone? Supporting the artist/niche is one reason, but NFTs are a way for people to publicly signal this support. It’s not just saying “I like the NBA”, it’s saying, “I like the NBA so much that I’m willing to pay to own this clip.” The same thing goes for crypto punks, or any other digital collectible. It’s a signal of identity.

Of course, there are also those who buy NFTs for purely speculative purposes. They purchase an NFT at one price in hopes of selling at a higher price in the future. Unfortunately, it’s these high prices that have attracted headlines and overshadowed what is really going on here.

The real beauty behind NFTs is that collectibles can now basically be preserved forever. We don’t have to worry about losing them or them getting damaged in any way. No single party can ban them or censor them either. As long as future civilizations value these digital items, they will live on their respective blockchains indefinitely.

I understand that the internet also acts as a sort of preserver of human culture, but the internet is still controlled by individual parties. Parties that ultimately decide what is preserved and what is lost. 

For example, as the owner of this blog I can unilaterally take it down anytime I want. If you enjoyed a particular post of mine and didn’t have it saved in any way, you are out of luck. This isn’t true with NFTs. Once a transaction has occurred, that transaction lives on the blockchain forever, for all to see. No central party can remove it.

Just imagine being able to preserve the tulips from the Tulip mania in 1637 or every baseball card ever made. Of course we cannot preserve physical items in this way, but we now can do this with digital items thanks to NFTs. 

Unfortunately, the preservation of NFTs is not without cost though. As this analysis suggests, a single NFT transaction is ecologically equivalent to a 2-hour flight or an EU resident’s electricity consumption for 1 month. We will need to find ways to mitigate these costs if NFTs continue to grow in popularity.

Are NFTs a Good Investment?

Despite my general defense of NFTs as a concept, I’m not as confident about them as an investment. Since NFTs have such a short track record and are priced solely based on what others are willing to pay for them, I recommend being cautious before investing. While you could make lots of money tradings NFTs, you could also buy something that is eventually deemed worthless.

Unlike income-producing assets, NFTs have no cashflows or expected returns, which makes me hesitant to recommend them. This might seem hypocritical given my recent investment in physical art (which also has no cashflows), but, unlike NFTs, physical art has a track record that is centuries long. Of course, the NFT market could one day surpass the physical art market in size, but a “wait and see” approach seems like the most prudent course of action for now.

If you still want to get involved, then I would recommend only purchasing NFTs that you could see yourself keeping as a collectible. That way, in the event that the market dries up, you still own something that you value in some way.

At the end of the day, I see owning NFTs as the digital equivalent of baseball cards and other physical collectibles. Those who will make money in NFTs will likely be those who can identify bargains as they present themselves, much like physical collectors do today.

Unfortunately, the ability to identify bargains likely requires esoteric knowledge and dedication to a particular community for an extended period of time. Are you one of these select people? If not, then you might want to sit this one out.

Ultimately, I hope you can look beyond the speculative behavior going on within the NFT community and see the wealth of opportunity that this technology has established for digital creators around the globe.

Thank you for reading!

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This is post 232. Any code I have related to this post can be found here with the same numbering:

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