Key fundamentals of how the NFTs work
Non-fungible tokens (NFTs) have already set record-breaking sales and trading in 2022 — and the year is barely a month old. Two of the most popular collections, the Bored Ape Yacht Club (BAYC) and Crypto Punks, raked in $13 million more in combined sales last month than the global movie industry at the box office for the same period, according to The Milk Road newsletter.
If you're interested in this topic (like many others) or even want to try buying an NFT for yourself, there's no time to wait. It's time to understand what NFTs are all about, how they work, and if they're worth buying.
What exactly is an NFT?
An NFT is a unique unit of data employing technology that allows digital content—from videos to songs to images—to become logged and authenticated on cryptocurrency blockchains, primarily Ethereum. They are bought and sold online, frequently with cryptocurrency, and they are generally encoded with the same underlying software as many cryptos. The main impact of NFTs is making it easy to own and sell digital content.
An NFT essentially allows its buyer to say that they own the original copy of a digital file. In the same way, you might hold the original copy of a physical art piece or the master file of a music recording.
How Does an NFT Work?
Understanding NFTs also requires a baseline understanding of how blockchain technology works. NFTs exist on a blockchain, a distributed public ledger that records transactions. You’re probably most familiar with blockchain as the underlying process that makes cryptocurrencies possible. Specifically, NFTs are typically held on the Ethereum blockchain, although other blockchains also support them.
NFTs can have only one owner at a time. NFTs’ unique data makes it easy to verify their ownership and transfer tokens between owners. The owner or creator can also store specific information inside them. For instance, artists can sign their artwork by including their signature in an NFT’s metadata.
How Is an NFT Different from Cryptocurrency?
The chats about NFTs often lead to cryptocurrency topics and vice versa. But actually, they have more differences than things in common. NFT stands for non-fungible tokens. It’s generally built using the same kind of programming as cryptocurrency, like Bitcoin or Ethereum, where the similarity ends. Understanding this distinction will significantly clarify your pursuit of NFTs.
In short, cryptocurrencies are fungible (meaning they can be traded or exchanged for one another), while NFTs are non-fungible. Each NFT on the blockchain is unique. For instance, one ETH is always equal to another, just like $1 = $1. HOWEVER, an NFT from CryptoPunks never stands for the value of any other NFTs in this collection, although they are both NFTs. The same is true for NFTs belonging to different collections.
Why do people keep trading NFTs?
Previously, digital artists offered to sell digital or print copies of their works. It is nearly impossible to "steal" these publications because public editions are always limited in size and quality. But with NFTs, you can thoroughly view and download the highest standard version of them into your device. The biggest question here is, Why should you buy what you can download for free?
At present, it is still quite difficult to fully explain this issue. As I said above, what you get when you buy an NFT is not only the images (or clips or something like that) but also the "ownership" of them. Since all NFTs are tied to the blockchain, it is easy to determine who owns them. If you can't prove ownership, everyone will know that the copy you get is simply a fake (how embarrassing). Currently, NFTs are not so popular that people don't care about the copyright. But with the help of social networks and technology (such as NFT Profile Pictures on Twitter), they will soon be interested.
Should you buy NFTs?
Of course, like every other commodity, NFTs are not only bought to be used but can also be traded and invested. Investing in NFTs is a primarily personal decision. It may be worth considering if you have money to spare, especially if a piece holds meaning for you.
But keep in mind, an NFT’s value is based entirely on what someone else is willing to pay for it. Therefore, demand will drive the price rather than fundamental, technical, or economic indicators, which typically influence stock prices and generally form the basis for investor demand. This means an NFT may resale for less than you paid for it. Or you may not be able to resell it if no one wants it.
Approach NFTs just like you would make any investment: Do your research, understand the risks—including that you might lose all of your investing dollars—and proceed with a healthy dose of caution if you decide to take the plunge.
You can read our next article: Buying NFTs for dummies, to learn more about this.
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