NFTs: New Asset Class (Non-Fungible Tokens) - Beginners' Guide
JPEG’s selling for millions... WTF, right. While most of us in crypto have already wrapped our heads around the value proposition of bitcoin, ethereum, and other crypto projects in this new developing financial landscape, This jpeg NFT manic euphoria is a lot more difficult for us to grasp. Hello, I’m Crypto Casey and in this video, we will lay out a simple, easy-to-understand framework for beginners and experts alike that will help us see the current value and potential future value of this new and exciting asset class: NFT’s or non-fungible tokens. This particular video explanation was inspired by a Twitter thread posted by economist and entrepreneur Natasha Che. So be sure to check out and follow her Twitter account for more interesting macroeconomic ideas she applies to the crypto world. If you haven’t yet, please check out my beginners’ guide that breaks down what NFT’s are for beginners’ by clicking on the link above.
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Awesome. So let’s explore the value proposition of NFT’s, or Non-Fungible Tokens. We will break down this framework into two 2 simple sections with a few concepts within each section. Section 1: Assets So what is an asset? An asset is just a fancy financial term that refers to something useful or valuable whose ownership can be transferred to another person or entity, across space and time.
It can be something physical like gold, it can be something digital like bitcoin, it can be something abstract like expertise, it can be a financial instrument like a 401k, or it can be anything that helps you generate income, like a computer or cell phone, for example. So there are important concepts we need to understand about assets. Let’s break them down together. Concept 1: Valuation of Assets The value of an asset or the what an asset’s price is based on is determined by a few variables: 1) how well they are able to preserve value over time; 2) how efficiently ownership of the asset can be transferred; 3) Supply versus demand of the asset; 4) its ability to generate income or produce cash flow over time, like cash flow from rental properties or income you can generate using an asset like a computer or machinery like a tractor. 5) and how risky the asset is, art NFT’s currently bearing a relatively high degree of risk due to their speculative nature, while investing in US treasuries or Amazon stock is relatively low risk.
And 6) liquidity, which is just a fancy finance term that is twofold: one, it describes how quickly and efficiently you are able to convert the asset to cash; And two, it describes the level of activity in a market, or how many people are buying and selling in a market and at what frequency; So, houses typically have low liquidity because it takes longer to convert them into cash, while bitcoin has high liquidity because there are a lot of buyers and sellers trading at a high frequency, so you can sell it instantly with the tap of a button, for the most part. Cool. Now that we know what an asset is and what variables determine its price, let’s move on to the next concept of assets.
Concept 2: Fungibility vs Non-fungibility Fungibility describes an asset’s ability to be evenly swapped with another asset of the same type. So a fungible asset is something that is interchangeable. For example, a $100 dollar bill is fungible because, if I have a $100 dollar bill, and you also have a $100 dollar bill, we could interchange the bills, or I give you mine and you give me yours, and the value doesn’t change. Ethereum and bitcoin are both fungible assets as well. One whole bitcoin is no different from another one whole bitcoin. Same goes for
ether. One ether is no different than another ether, as the value is equal. Non-fungible asset is something that is not interchangeable and not divisible for the most part. It’s anything that cannot be copied or replicated. For example, your pet dog is non-fungible,
because let’s say you have a pet dog, and I have a pet dog, and then we swapped dogs. Even if we had the same exact type of dog and they looked the same, each of the dogs harbor their own unique personality, memories, and abilities. Real estate like land, houses, and buildings are also non-fungible assets because no two are exactly the same or perfectly interchangeable value-wise. Same as with used cars. And thinking back to divisibility, our pet dogs, our houses, and used cars can’t be divided and spread out amongst multiple people. You can’t buy 30% of a car or half of a house. However, US dollars, bitcoin, and ether are divisible and have different denominations. For example, $100 US dollars can be broken down into smaller dollar bills, and a dollar bill can be broken down using quarters, dimes, nickels, and pennies.
Sweet. Now that we understand the difference between fungible and non-fungible assets, let’s move on to the next section of the framework. Concept 3: Store of Value What is a store of value? Well, assets are stores of value and there are three qualities that both make an asset a store of value and the degree to which the asset is a good pristine store of value versus a less desirable store of value. Quality 1: Limited Supply Assets with a limited supply are better stores of value than assets with unlimited supplies.
Assets with limited supplies include gold, diamonds, bitcoin, and NFT’s. While assets with unlimited supplies include fiat currencies like the US dollar. Limited supplies of assets allow the asset to retain its value and hopefully appreciate over time.
While an unlimited supply degrades the value of the asset over time. The more US dollars are printed into circulation, the lower its purchasing power becomes. For example, imagine we have one whole pizza that represents the value of the US dollar. And then imagine the government keeps cutting the pizza into smaller and smaller pieces to try and feed more pizza.
Yeah, so cutting this pizza into one million pieces is not going to satiate one million people. Hence the degradation of the asset over time. There is a limited supply of gold and real diamonds on our planet and also a limited supply of each that has been mined and readily available for actual physical use.
While the limited supply of NFT’s is programmed, enforced by code, and logged transparently and immutably on a decentralized blockchain, which means it cannot be altered or destroyed for the most part. Nice. Let’s move on to the next quality of stores of value: Quality 2: Durability Durability of an asset refers to its ability to retain value over time, be transported across space, and exchanged between buyers, sellers, or inheritors.
So diamonds are chemically stable and strong, making them physically durable. They have been and continue to be desired by the marketplace because they are attractive in the jewelry industry and their physical durability is useful in making tools, like diamond tip drills or diamond edge saw blades, which represents a more abstract sense of durability in retaining its value over time. In terms of NFT’s, their transparent and immutable existence on a decentralized blockchain ledger makes the digital assets extremely durable from the standpoint of its ability to exist, because the nature of the blockchain makes it hard to destroy while also making it easy to transport and be exchanged between buyers, sellers, or inheritors. Nice. Moving on to the final and most interesting quality of stores of value: Quality 3: Social Agreement Social agreement is simply when a substantial amount of people agree that something is valuable or has value. Diamonds have formed a ton of social agreement over time due to their durability, usefulness in tools like diamond edged saws, and their beauty and desirability from a jewelry standpoint.
Gold is another example of an asset that has stood the ultimate test of time as a good store of value from a social agreement standpoint as a hedge against inflation, its use in jewelry, and in technology. In modern times, it’s actually extremely difficult for social agreement to form around potential new digital assets like cryptocurrencies and NFT’s because it requires a near-perfect storm of variables coming together at the right time in the right place, Things like laws, regulations, institutional recognition and adoption, retail recognition and adoption, and psychological phenomena surrounding the new potential asset, as well as trusted technological platforms capable of maintaining the new potential asset. So as social agreement of the original digital asset bitcoin has formed and solidified over the past decade, it paved a way for the value of new, up-and-coming digital assets like NFT’s to start gaining social agreement. NFT’s have secured and continue to secure the social agreement quality of stores of values by forming strong communities that continue to expand and solidify. Digging deeper into social agreement, there are some abstract factors to consider in certain factions of these NFT communities like the extrinsic and subjective value of any given asset. I break down subjective versus objective value extensively in the NFT guide I recommended checking out earlier because it’s one of the hardest concepts to understand when watching the million dollar jpeg mania, but will also likely be the ah, eureka moment that creates more social agreement of NFT’s among us all.
Concept 4: Subjective Value So, subjective value is the idea that an item’s value to a person is dependent on that person’s beliefs, perceptions, or preferences. Which is why there are people willing to buy a 100 year old printed paper of a Ty Cobb baseball card, and why others are willing to shell out over $2 million dollars for a football card of Tom Brady. Would I pay any amount of money for those sports cards? No, because I don’t really like sports cards, it’s not my thing. But there is clearly a market for it out there, or simply a substantial group of people willing to buy, sell, and invest in sports cards. So clearly within the social agreement realm there are factions of communities that place high subjective value on some of these jpeg NFT’s.
But Casey, how is there durability of a jpeg’s ability to maintain its value over time when you can simply screenshot or make a copy of the jpeg? Sure, well we can make that same argument about having replicas or copies of famous paintings, statues, or other types of art. Except in this case, it’s digital, which when you think about famous photographers taking photos that people pay money for, yeah, I can just as easily find any of their photos and put it as my computer background for free. So yes, I know it still seems ridiculous that jpegs are selling for millions, but in the next section of this framework, we will go through and illustrate the long-term macro background that is creating the perfect storm and environment for NFT’s to exist and thrive as an investment vehicle. So before you say, ah Casey people are buying and selling NFT’s to themselves creating false trading activity, and ah Casey people are using NFT’s to launder money, and ah Casey it’s all tulip mania that is headed toward a certain demise, and ah this will just never work, this is insanity.
Sure, we will have market corrections, but hear me out in this next section as we explore the macro backdrop of this framework outlining the value proposition of NFT’s going forward. Section 2: Long-Term Macro Backdrop Once we understand and accept the current reality and long-term macro backdrop the new global financial system will operate within, everything we’ve discussed so far will come together and make a lot more sense as far as why NFT’s will become a powerful investment vehicle. Concept 1: New Generation of Wealth Here are a few things to consider: one, millennials, gen Z, and gen alpha are getting older and closer to being the recipients of one of the greatest wealth transfers of human history. And two, they aren’t interested in physical bars of gold; they aren’t interested in hanging the original Mona Lisa in their homes; they aren’t interested in owning precious gems and stones; the new generation of humans largely lives in the digital world.
These currently static jpeg NFT’s will eventually have other attributes added to them like the ability to move and interact within virtual reality worlds and metaversuses, And digital value within gaming ecosystems have long been proven decades ago with games like World of WarCraft. And smart savvy business people and investors know this and see the writing on the wall. I mean let’s think about it, just this week: 1 - Sotheby’s Brings in $26 Million with Bored Ape NFT Bundle Sotheby’s, a british-founded american multinational corporation found in the year 1744, one of the world’s largest brokers of fine art, jewelry, and collectibles… Why would they auction off jpeg NFT’s of cartoon apes? Because they are determined to survive in this new macro environment that is unfolding right before our eyes.
They know gen y, gen z, and gen a probably had no idea what Sotheby’s was until they got into the NFT space, and they know what we discussed earlier, which is all the wealth in the world is being transferred to people that largely have no interest in Sotheby’s original line of business, that being real physical art, jewelry, and other physical collectibles. On Sotheby’s part, this is an act of marketing, resilience, early adoption of new digital assets, and a host of other things that will give them an edge in an eve-rchanging environment and will probably help them survive goin forward, for now. Nice, let’s move on to the next concept of the long-term macro backdrop. Concept 2: Global Asset Shortage If you’ve watched my previous videos, we’ve discussed how there is a massive shortage of pristine collateral like US treasury bills, which is why banks are choosing not to lend, and why they would rather park their cash somewhere, in exchange for actual collateral. If you haven’t yet, check out my video explaining the structure of the current financial system that breaks this all down by clicking on the link above.
So what is the global asset shortage? Since the early 2000’s, there has been a massive shortage of assets on a global level. Let’s explore why this happened and how it will continue to happen: The long and short is the available supply of assets is not keeping up with the increasing global demand for assets by retail investors, institutional investors, insurance companies, banks, and governments alike. Why is it so? Because the GDP of emerging markets like China and India are growing at an exponential rate. What is GDP? GDP stands for Gross Domestic Product and it’s just a fancy economic term that refers to the total value of all of the goods produced and services provided within a country during a specific period of time.
For example, if a country’s total output for the year consisted of selling 10 pizzas for $10 each and performing 5 car washing services for $20 each, the total GDP, or gross domestic product for that country would be $100. Simple enough right? So when emerging markets like China’s and India’s GDP increases, that means the amount of wealth circulating within their countries increases as well. When people, companies, and governments with newfound wealth start operating within the global economy, they want to preserve that wealth through investment vehicles. This exponential increase of demand by investors with new wealth, in a world with a stagnant supply of high-quality assets, has created a global asset shortage.
But Casey, aren’t these emerging markets creating more assets? Shouldn’t there be an equal amount of asset production as wealth is being generated? Not necessarily. Even though emerging markets’ GDP’s are increasing by the creation of more goods and expansion of new services provided, they still have trouble creating quality assets. This is because, like we discussed earlier, creating a new asset requires a near-perfect storm of various legal, regulatory, technological, social and psychological variables. Since emerging markets have a difficult time creating high-quality assets, the demand for existing high-quality assets created by more advanced economies like US treasury bonds increases substantially. In fact, this global asset shortage played a huge part in the 2008 global financial crisis.
Mortgage-backed securities were created to try and satisfy the growing demand for collateral by basically morphing multiple mortgages together, chopping them up into pieces, and reselling those pieces to investors as “high-quality assets.” When in fact, as we all know, it was just all garbage debt that was doomed from the start. But the fact that these new mortgage-backed securities were accepted and adopted so quickly without much investigation into the underlying collateral, illustrates just how much demand for quality assets for stores of value and value transfer that existed during that time.
And since the 2008 financial crisis when those mortgage-backed securities were wiped out, the global financial system has still not recovered from the global asset supply shortage and it just continues to get worse. One of the most important aspects of the long-term macro outlook is the ever-decreasing social agreement about valuations of traditional “high-quality assets” like the US dollar and US treasuries. Regardless of what generation we came from, people and institutions are losing faith in the US dollar and US treasuries ability to preserve wealth and store value. Social agreement is one of the most important aspects of stores of value.
As we discussed in previous video, when the US went off the gold standard, our country transitioned from an equity-based economy, where real hard cash from savings backed dollar to dollar all of the debt people and companies were using to grow their businesses to increase economic output. We went from an equity-based to debt-based economy that uses fractional reserve banking - which means instead of debt being 100% backed by cash, debt is backed by only a small fraction of cash. So as the debt-based US economy continues to go deeper and deeper into debt and continues to print more US dollars to circulate in the economy, the value of the US dollars slowly decreases over time, which destroy important qualities that make assets valuable: the ability to preserve value and the social agreement surrounding it, which is arguably the most crucial feature of any asset. The slow degradation of trust in traditional financial assets, in the midst of the largest global asset shortage in history, and ultimately as wealth transfers to younger digital-savvy investors, paints the current long-term macro backdrop. What does the confluence of these realities in the long-term macro backdrop lead to? Well, much like how quickly mortgage-backed securities gained popularity, any new asset class that can prove to do what high-quality assets do best, which is what we outlined throughout this video: store and transfer value, will grow substantially and quickly.
So you can see how, in this context, the success of crypto asset classes are inevitable. Specifically, let’s talk about the NFT crypto asset class and how it will grow and become quality assets. And here’s one of the most exciting aspects of NFT’s as an accepted, adopted, and investable digital asset class. Remember how we discussed the difficulties emerging markets face when creating high-quality assets? Well, with the nature of the blockchain NFT’s are ultimately created, transferred, and stored on, the creation of assets is democratized.
Basically, everyone, regardless of your country, now has the ability to create durable, limited, verifiable, digital assets that can be easily owned, stored, transferred, bought, and sold on a global decentralized database. So sure, they are just jpegs for now, but the jpegs and people behind them create value through their stories, provenance, lineage, and social agreement within communities. NFT’s will and currently are taking the digital world by storm, bringing rich, creative, and interesting features to the digital asset realm. Awesome. Thank you so much for watching and I hope this video gave you more clarity about the potential future value proposition of the exciting new digital asset class of NFT’s. If you enjoyed the content, please make sure to like this video and subscribe to my channel for more crypto content.
So what do you think about these crazy jpegs now? Can you see how NFT’s could become a vehicle investors use to preserve and transfer wealth? What do you think about our long-term macro backdrop? Let me know in the comments below. Be safe out there.
2021-09-17 12:50
