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This article is contributed by Felix Xu, cofounder of ARPA and Bella Protocol.
Non-fungible tokens (NFTs) had a fantastic journey in 2021, inaugurating one of the most remarkable episodes in the history of emergent decentralized industries. NFT trading volume stood at $2.5 billion in June 2021. It surged ten times in the next six months, with total NFT sales reaching a whopping $23 billion by December 2021. In contrast, the 2020 total NFT trading volume amounted to just $100 million.
To grasp the extraordinary success story of NFTs, we need to chart their trajectory throughout the last year. This article will adopt a chronological approach to explain the NFT craze and what lies ahead of us.
Laying the foundations
Cryptocurrency historians often debate whether any singular event led to the explosion of NFTs in the crypto domain. While there is no definite answer, the sale of Beeple’s NFT art for $69 million created ripples across the global market. People suddenly saw a spurt in NFT projects with attention-grabbing headlines on newspapers and web portals. Moreover, most of these NFTs reimagined the nature of artwork with their finite series of algorithmically-generated collectibles.
CryptoPunks, one of the earliest NFT generative art projects on Ethereum, surpassed $1 billion in total sales in August 2021. A single CryptoPunk collectible sold for $10 million in December, becoming one of the most expensive NFT collectibles. Another popular NFT series to recently cross the $1 billion mark is the Bored Ape Yacht Club (BAYC). These projects became immensely popular with the active support and promotion from NFT influencers.
For example, NBA player Stephen Curry bought a BAYC for $180K while hip-hop sensation Eminem bought another BAYC for $500K. The diverse NFT influencers’ community ranges from Reddit co-founder Alexis Ohanian and comedian Steve Harvey to Dallas Mavericks’ owner, Mark Cuban. There are also several anonymous NFT influencers on social media like Artchick, EllioTrades and Gmoney, who help drive some interest in this projects. But it is not just individuals who express bullish sentiments about NFTs.
Several mainstream companies are adopting NFTs to diversify their investment strategies. The global payments giant, Visa, bought a CryptoPunk NFT for $150K in August 2021. Adidas, the famous sports brand, purchased a BAYC NFT in September 2021 for $156K. Moreover, some of the most popular NFTs were sold from the nearly 300-year-old auction houses Sotheby’s and Christie’s, which recorded $100 million and $150 million in NFT sales, respectively.
However, NFT collectibles are not the only assets driving mainstream crypto adoption among retail and institutional investors. NFT-based play-to-earn games have enormously contributed to the growth of the crypto sector in 2021. Amidst the COVID-19 induced lockdowns and job losses, Southeast Asians turned to NFT games like Axie Infinity. Earnings from NFT gaming have helped a sizable population to bring food to the table.
The examples cited above demonstrate that NFTs have become a cultural phenomenon with diverse use cases and utilities. On the one hand, people use NFTs to supplement their monthly income. But on the other hand, NFT collectibles emerge as a status symbol for the wealthy demographic. As a result, people are now putting up their NFTs as profile pictures (PFP) on different social media handles to showcase their collections. So much so that Twitter, which already contemplated NFT verification badges, has now come up with a solution on Twitter Blue.
NFTs are unlocking a hitherto unexplored territory of digital ownership and asset provenance utilizing blockchain technology. These verifiable virtual assets are the core components of the emerging metaverse across multiple blockchain networks. However, NFT projects need to address some issues if they wish to sustain themselves in the long run.
Sailing through a choppy landscape
Presently, a handful of NFT projects are showing signs of instability. For example, developers of the highly successful Pudgy Penguins NFT spent all the treasury funds but failed to deliver on the promised roadmap. As a result, the Penguins community has voted out the founding members through its decentralized governance structure.
Apart from that, NFTs have crazy floor price fluctuations, with speculators bidding up the price even in illiquid market conditions. For example, last year, a clip-art rock NFT with no specific utility had an outrageous floor price of $2.2 million. This tendency of some speculative investors to hype up a price metric without reason and rationale can be detrimental.
This turbulence in the NFT market is not very surprising. While the technology and concept of NFTs are revolutionary, the NFT sector is still in the embryonic stages. At such an early stage of development, things can be pretty unstable. But NFT projects can succeed if they focus on three essential factors: innovation, community, and ecosystem.
The most crucial task for any NFT project is to focus on innovative design and diversified utilities for its users. Moreover, the first-to-market NFT project will always have the edge over other competing projects to generate value. Unfortunately, while making copies of the original (forks) is easy, it does not always translate into a successful project.
For example, the legendary Ethereum-based CryptoPunks from Larva Labs is the inspiration behind PolygonPunks residing on the Polygon blockchain. Although PolygonPunks is very successful, many consider it a ‘derivative collection’ that can compromise buyers’ safety. This is why the NFT marketplace OpenSea delisted PolygonPunks after a request from developers at Larva Labs.
The second characteristic of a good NFT project is how strong the community is. A genuinely decentralized project with a well-knit community goes a long way in making it a success. As demonstrated above, the Pudgy Penguins and CryptoPunks communities are robust enough to protect the legacy of the projects. Moreover, interoperable NFTs help forge communities across blockchain networks, making them stronger.
Another critical factor for consideration is the blockchain on which the NFT resides, since each network ecosystem is different. For example, Ethereum has very high gas fees, with NFT whales holding more than 80% of the blockchain’s NFTs. On the other hand, blockchains like Binance Smart Chain, Solana and Tezos have negligible gas fees. Moreover, many of them are carbon-neutral networks, attracting a lot of environmentally conscious NFT artists.
If NFT projects focus on the qualities mentioned above during the developmental stages, most of them will sustain long-term. But what will the NFT landscape look like in the immediate future?
Hope on the horizon for NFT-based projects
Undoubtedly, 2022 will be a year of mind-boggling innovations and growth in the NFT space. As a result, we might see a steady proliferation of NFT use cases in previously unimagined ways.
One such usage can be through NFT-based financial instruments with tokenized insurance, real estate, bonds, debts, and commodities. NFTs can open up new ways of collateralized lending or rent and help in raising capital for startups. Moreover, NFT derivatives might become very popular this year. So, gamers can trade their in-game NFT assets like cars and weapons on the derivatives market, bringing in more liquidity. Additionally, Bluechip NFT Indexes can allow new investors to participate in the most successful NFT projects. Several charitable organizations and companies are using NFTs for fundraising campaigns as well. Although few NFT projects currently offer the services mentioned earlier, they remain immature and underdeveloped. Significant innovations and further diversification in everyday use-cases are yet to reach the people.
As the year progresses, the value and applications of NFTs will diversify and thus disrupt a variety of industries. However, the success of the NFT sector will depend to a large extent on how fair, transparent, and secure NFTs are. Game Theory has proven that random numbers are the fundamental building blocks of any fair and safe system. Most blockchain networks, including most NFT protocols, depend on random numbers for their routine system operations.
First, they are used in cryptographically generated public-private keys and digital signatures. Second, randomness in input and output programs ensures a fair chance for all participants in NFT-based games. Third, random numbers are crucial for hash power and in Proof-of-Work consensus protocols.
With the expansion of the NFT industry, developers will need massive sets of random numbers for their projects. But as the American mathematician Robert Coveyou said, “The generation of random numbers is too important to be left to chance.” Thus, “Random numbers should not be generated with a method chosen at random,” according to Turing Award winner Donald Knuth. Rigorous research and solid science are crucial to generating random numbers.
If everything goes well, NFTs are up for a bright future ahead.
Felix Xu is the cofounder of ARPA and Bella Protocol.