A Beginner's Guide to NFTs
Apr 22, 2021
10 min read
Every day there is an announcement of a new NFT drop from an electronic music artist in collaboration with a visual digital artist. Diplo did it, deadmau5 did it, and so did Flume, Gareth Emery, Madeon, RAC, and of course 3LAU, the EDM NFT forerunner.
More noticeable than the proliferation of NFTs is the dollar amounts they’re going for. 3LAU’s auction of 33 NFTs commemorating the three-year anniversary of his album, Ultraviolet sold for a total of $11.6 million, the top bid coming in at $3.6 million.
This sounds pretty mind-blowing, but what does it mean exactly? What are NFTs? Are those dollar amounts actually in US currency? Should you get into the NFT game?
The first explanation an NFT expert will give you is that it is a “non-fungible token,” which is not helpful as it is simply spelling out the acronym.
“Fungible” means “something you can exchange for something of equal value,” such as money. For example, five $1 bills can be exchanged for a $5 bill, or for five other $1 bills. Non-fungible is the opposite of fungible. You cannot trade something that’s non-fungible, because there is nothing that is of equal value - not because it is necessarily exceedingly valuable, but because there is nothing exactly like it. An everyday example of this would be a house. You cannot trade a house with another home exactly like it.
A non-fungible token, therefore, is a digital file with an assigned certificate of title, like the exciting piece of paper you get once you pay off your car that proves you as the legal owner.
Let’s say you create a digital file such as an MP3 of a song, a JPEG of an image or an MP4 of a video. Next, you generate a traceable certificate. This certificate can be bought, sold or traded. Considering the ubiquitous nature of digital files and the ease with which they can be copied and shared, why would this certificate have any value at all? Because you decide it does, and other people accept this decision, which is pretty much how the world of physical art collection works anyway.
To many, this sounds ridiculous. What is this rogue economy where people can just make stuff and decide it’s a non-fungible token by creating yet another ethereal digital item in the form of a certificate of title? Why would someone out there bid an insane amount of money for this random digital certificate?
It’s kind of like bragging rights. Yes, you can copy the image of the very same NFT that sold for millions by right-clicking it and saving it to your desktop, but only the person(s) with that certificate truly own said art.
To put it in a real-world context, let’s borrow an excellent example from Matthew Chaim at ONE37pm. Chaim draws an analogy between taking a picture of the Mona Lisa to copying a digital file, and owning the Mona Lisa to owning the certificate of title to that digital file. You can take as many pictures of the Mona Lisa as you like, but you will never own it. In theory, the more your digital file is circulated by people copying it and sharing it, the more valuable your certificate becomes.
The reason, it’s “in theory” is because, like anything, the price tag on an item, digital or tangible, is dependent on how much the buyer is willing to pay. You can put whatever dollar amount you want on any item, but will there be someone to meet your price?
When electronic music artists drop NFTs, it’s rarely in the form of music alone. Usually, it’s a piece in collaboration with a digital visual artist, and there is no predetermined price. Rather, NFTs are sold within a limited timeframe, at auction, to the highest bidder(s). Not having a preset price has driven final bids to be more expensive.
“NFTs are a way to make a digital file ownable and transactable, that’s where it’s special and interesting,” says Block Party’s Vlad Ginzburg. “Digital art has been around since computers. When negatives became obsolete, photographers became digital artists. Paste Gallery in New York and Pompidou in Paris exhibits digital art, but digital art has never been monetized because how do you sell a piece of digital art? How does it get transacted from one person to the next? Going back to negatives, nobody’s going to pay you money for a negative. A print is largely the way to productize photography. NFTs are a way to productize digital art.”
NFT sales and auctions are held via platforms such as the popular Nifty Gateway, Zora, SuperRare and Block Party, to mention a few. You can’t show up on most of these platforms, credit card in hand, ready to drop the big coin on an NFT. Most expect buyers to have cryptocurrency in their digital wallets.
To understand cryptocurrency, one must first understand the blockchain.
A “blockchain” is a network of computers that share information, kind of like the internet. This blockchain network shares and witnesses transactions simultaneously. You cannot change the record of transactions, which means you cannot change the ledger, which means you can’t fudge the numbers or cook the books. It’s a super-secure way to keep track of transactions with no accountancy errors.
Cryptocurrency is the unit by which these transactions are measured. Think of it as writing a check to someone, which is a record that you will pay them that money, backed by your having funds in the bank the check to draw on. Cryptocurrency is a non-paper check or receipt of your transaction, which is backed by the legitimacy of the blockchain.
“The simplest definition is peer-to-peer cash,” says Ginzburg. “That’s what makes it awesome. Anyone can transact with anybody. No one’s in charge. No one’s telling you can’t do something. There is no employee. There is no CEO. There is no office. There is no customer service. There are precisely zero humans involved.”
There are different cryptocurrencies, just as there are different hard currencies (Euros , British Pounds, US Dollars). Just as at one point in the distant past these hard currencies began to be accepted instead of the bartering of goods, cryptocurrency is a “new money,” which doesn’t exist as a physical object, but a digital one. The most recognizable are Bitcoin and Ethereum. The latter used to purchase the majority of NFTs associated with musicians.
You can obtain cryptocurrency a couple of ways, the most consumer-friendly of which is to buy it with cash or a credit card from a site like Coinbase. The dollar amount value of each cryptocurrency fluctuates, just like any other type of currency, but with far more volatility. At press time, one Bitcoin is going for $54,279.80 and one Ethereum is going for $2,381.00. Transactions on Nifty Gateway, for example, useEthereum. The reported costs of NFTs is equated to the US Dollar equivalent at the time of sale.
The other way to obtain cryptocurrency is by connecting your computer to a blockchain network, thereby assisting in the witnessing of transactions and helping to maintain the blockchain’s reliability. For this, you earn cryptocurrency incrementally.
A significant difference between conventional currency and cryptocurrency is that the former comes from the Federal Reserve and is inflationary in nature, particularly at this point in time when trillions of dollars are being printed to offset the effects of the pandemic.
The latter is minted based on an algorithm. For example, there are approximately three and a half new Bitcoins printed every 10 minutes. These Bitcoins get distributed to all the computers assisting the blockchain. Every four years, the algorithm changes and the amount of Bitcoin being distributed gets cut in half. Once 21 million Bitcoins are minted, it will stop, making it naturally deflationary.
Not all cryptocurrencies can be used when purchasing NFTs, and not all platforms are conducive to different types of NFTs.
Nifty Gateway (created by the Winklevoss twins) is the leader. Zora is an open-source platform.
“I talk to a lot of artists, big and, particularly, small,” Zora’s head of culture Michail Stangl tells The Cadence. “We really care about the kids that you usually don't get through the door because they don't look like money.”
Block Party takes the mystery out of the experience by accepting credit cards as well as cryptocurrency and hand-holding the buyer through the whole process. If a musician wants to have an NFT also function as a VIP ticket to their show or be exchanged for an exclusive T-shirt, Block Party has a centralized system for that.
What does this mean for artists? Where streams are on the whole hugely devalued, each NFT is scarce and has the potential to be highly valuable.
As Gareth Emery explains about the way Spotify works for artists and consumers,
“Everybody is forced into the same economic model, whether they want to be in it or not,” Gareth Emery recently told Festival Insider. “In reality, for some artists, that model may work, but then there’s others with smaller fan bases who are actually willing to pay a lot more. There’s others that may want to sell some one-off digital collectibles. I think the great thing about NFT is that it’s really opening those other avenues.”
When the certificate of title is generated, the original seller can designate that a percentage of all future sales or trades of the NFT be paid back to them indefinitely. For example, if you sell an NFT for $100 with a 20% royalty of all future sales as part of the certificate of title’s terms, and if the buyer then sells that NFT for $1000, then 20% or $200 of that sale goes back to you. If that NFT is sold a second time for $10,000, then 20% or $2,000 of that sale will go to you. The catch here is that these “smart contracts” for “programmable NFTs” are unique to each platform so the residual revenue only happens on the same platform where the primary sale occurs.
This is a particularly attractive proposition for artists whose work increases in value as their profile grows.
Dropping an NFT is worth it, especially if you have a highly engaged fanbase (note: “large” does not always mean “engaged” and vice versa). The creativity and offshoot potential for the artist to create their own blockchain micro-economy is unlimited.
For a fan, the decision to purchase an NFT is as personal as purchasing any other piece of art. The medium, which is digital, is also a personal preference. How excited are you by turning on your computer, finding that digital file, and looking at it?
Whether NFTs are good investments, and whether or not they appreciate in value like a Basquiat or a Warhol remains to be seen. Again, an object is only worth as much as someone is willing to pay for it.
With all the ka-ching for artists, does this mean they can take their NFT dollars and buy a house with it? Sure, but they would have to convert all their NFTs to hard cash as that’s what everyday goods are exchanged for, at least for now. The point of transactions on the blockchain is not necessarily to spend it on brick and mortar objects—no pun intended. Instead, you’re expected to keep it moving on the internet.
“I’m excited to continue to experiment with distributed ledger technology and its intersection with my passion for music,” 3LAU says. “I will continue to utilize NFTs to manifest all types of creativity that I explore in the future, as a means of maintaining a direct connection with listeners and supporters.”