How fungible can a non-fungible investment be?
If you think Blockchain is a classic bubble, or Exchange Traded Funds are nefarious investments, then you certainly have not noticed the new digital asset called a non-fungible token.
Before 2021, putting money into a non-fungible token was unheard of, as was the concept itself. Although the first NFTs were launched by Etherium in 2015, (or at least the technology was introduced) it was not until 2017 that NFTs set course on its creative tangent, becoming crazy in the process.
An NFT is a digital token, created in a blockchain, comprising a computer file that can contain ANYTHING that can be digitised. NFT’s gained public attention, or should I say notoriety, when an artwork by an American artist by the name of Beeple, sold for US$69 million as a digital token.
As explained by numerous sites, this does not mean that the file cannot be replicated, in fact it can. It only means that the token cannot be replicated, or in investor’s or collector’s parlance: Many people can buy and own a Monet print, but only one person can own the original.
And this is what I believe will eventually constitute the only value any NFT can have.
Elsewhere in this edition, there is an article by two economists arguing that the NFT market will eventually collapse. This may be so but I am not so convinced that it will happen.
You see, it is all about value and what constitutes value. Essentially an NFT is without any intrinsic value, after all, it is only a computer file that can be copied a trillion times if you have the inclination. But the token itself, that proves and preserves ownership of the original file, cannot be replicated. It is just like digital currency and were you to try and sell a fake, the underlying blockchain will immediately recognise it and prevent such a transaction.
Essentially, it is not that different from any country’s currency. It is not called legal tender without reason. The paper money that you and I use everyday does not have any real value, it is just a piece of paper. But it is backed by a central bank and ultimately by the authority of a sovereign government, and people use it every day to trade with one another and to obtain whatever it is they need to live. In learned circles it is referred to as fiat money and that is exactly what it is. Were it not protected by the apparatus of a state, it will be worthless.
As an aside, fiat is the Latin for “let there be” as in fiat lux – let there be light. So, with our paper money system, the fiat designation indicates that academics clearly recognise that a currency not backed by any concrete asset like gold, is essentially without value. Its value is guaranteed by the fact that everybody wants it or needs it to exist, and this is what the sovereign authority protects. These are not entirely abstract ideas divorced from all reality, no, Zimbabwe gave us a very good example of what happens when a currency loses its value because its custodian has undermined it.
So when we look at NFTs we see that the token’s value is protected by the blockchain technology, in most cases by Etherium although other digital currencies are also now starting to support and trade NFTs.
But fundamentally, it remains that an NFT only has value if someone other than the issuer or current owner, is prepared to pay for the exclusive right to own it.
In a sense, the exploding NFT market is a pyramid scheme. It can only continue to grow if a sufficiently large number of investors continues to enter the market, to drive up the prices of those NFT already sold. NFTs are also still very much in the market-making phase, although I have to admit that there does not seem to be a dearth of liquidity to support the market’s growth.
Take for instance Unit Trusts. When they first came out almost forty years ago, they were not very popular. People who invested in Unit Trusts were considered to be slightly wacky, – certainly not the classic type of prudent investor. But then followed a ten-year market making phase during which the large institutional investors, the Sanlams and the Old Mutuals, ensured demand and liquidity by always guaranteeing that any Unit Trust issued by them, will be bought back immediately and the seller refunded in cash. That route was followed by all the large companies until we got to a point when not a single individual would ever doubt the credibility, or the value of a unit trust.
But think about it for a while. The first unit trusts only consisted of shares and cash. So, in a sense, one could still argue that there was underlying assets with an intrinsic value, the shares of any of a few hundred companies listed on a stock exchange, so there is absolutely no fundamental reason why any person cannot go and buy those same shares for himself or herself.
The difference is in the ease of administration, the guaranteed liquidity, and the published value which is updated every day. Even when looking at so-called fund of funds where there is no underlying intrinsic value, the market value constitutes the investor value.
Looking at NFTs from a purely economic or academic point of view, it is obvious that the token does not have any intrinsic value. But that is missing the point.
As long as there are people issuing NFTs and as long as he blockchain technology guarantees exclusivity of ownership, for so long will there be buyers. And where there are buyers, there is liquidity which implies that the market makes itself.
The concept may seem ridiculous and the profits unreal, but when people believe that they can sell an asset for a profit, then that market will grow.
My observation is backed by what I saw happening in the NFT market in 2021 after the Beeple blip which turned into a meteorite. In 2020 the global value of all NFT transactions was just above US$82 million. In 2021, that value exploded by more than 21,000%, that is, twenty one thousand percent!), reaching US$ 17 billion.
You decide for yourself whether you think there is no real value in an NFT.