In 2021 NFT have made a massive impact in the crypto world, with people becoming overnight millions to people paying $100,000s for a single NFT. But with every craze there is always a end date, so the question is are NFTs just a craze or here for the long term and in 2025 will the price hold of that $100,000 NTF be worth $1 or millions. Lets look into what
Collins Dictionary recentlyÂ announcedÂ â€˜NFTâ€™Âan abbreviation of â€˜non-fungible tokenâ€™Â as its 2021 word of the year. The award captures the meteoric rise in popularity of NFTs this year. In the first half of 2021, NFT salesÂ roseÂ to a record $2.5 billion, with the $2.5 million sale of Twitter founder Jack Dorseyâ€™s first tweet leading the way. Unsurprisingly, NFTÂ startupsÂ are now springing up.
A new IESEG School of Management working paper classifies new NFT startups in a novel way to examine these firmsâ€™ first-day trading characteristics. It then analyzes their long-run price behavior and risk-adjusted returns and estimates the NFT alphas and betas. Finally, it measures the value NFTs generate on blockchains once they integrate into their ecosystems. It finds the following.
- The average first trading day return is 130%, with daily returns of 0.3% afterward. Gaming startups have done particularly well, with Axie Infinity posting total returns of 53,535%.
- Several NFTs deliver positive and significant alphasÂ doubtless linked to the additional risksÂ to which NFTs might be exposed. The most volatile NFTs yield the lowest returns.
- NFTs generate billions of combined dollars for the blockchain once they integrate within theÂ architectureÂ Solanaâ€™s market cap rose 22% on the announcement of two new NFT endeavors.
What are NFTs?
Non-fungible assets are unique assets that cannot be interchanged for another of the same type because they have inherent and intangible value. Examples include real estate, derivatives, art and collectibles. Most investable assets in public and private markets are non-fungible. On the contrary, fungible assets can be exchanged one-for-one, like dollars andÂ Bitcoin.
Non-fungible tokens (NFTs) are ways to record, verify and track ownership of non-fungible assets, like an official register of homeownership. Once a unique digital object is createdÂsay, an online bookÂ a unique ID (hash), a token name and token symbol are â€˜mintedâ€™ and given to the author. This information is stored and transferred on a blockchain, such asÂ Ethereum.
Crucially, the author can then sell their token. The information of the sale price and the new buyer is then stored on the blockchain. The buyer now owns the unique digital ID, which proves their ownership of the book. Note, though, that the bookâ€™s copyright probably remains with the author, and the buyer may not even receive a physical copy. A token only proves ownership.
Why are NFTs so popular?
First, NFTs improve market liquidity and price discovery. You can trade assets more efficiently if you can instantly prove and transfer ownership quickly and securely for a near-zero fee. That way, NFTs increase openness, transparency and financial globalization of the assets.
Second, NFTs eliminate delayed clearance and settlement functions. Currently, settlement lag is countable in days. NFTs turn those days into seconds.
Third, collateral management requires transparency, which in the existing financial system can be seriously compromised. With NFTs, market participants cannot camouflage self-serving behaviors.
Examples of NFTs
Let us return to the paper. The author draws data from Binance on projects that embed NFT technology as the central element of the business model, i.e., the whitepaper mentions it. In total, as of August 31, 2021, they find 20 NFT-based projects that list 22 different tokens (see table 1). They categorize these into six groupsÂNFT purpose-built blockchains, NFT gaming, NFT music, NFT media, NFT DeFi and NFT other.
The largest group are NFT gaming projects, followed by DeFi. Most of these projects issue tokens that intend to facilitate the governance of the network, and two projects issue two different tokensÂxie Infinity (AXS,Â SLP) and Theta (THETA,Â TFUEL). Also, about half intend to converge gradually into decentralized autonomous organizations (DAOs). The authors analyze the returns of all butÂ ERN,Â MBOXÂ andÂ GHST.
The remaining 17 projects with 19 different tokens are listed on the exchange for 314 days on average, withÂ WAXÂ as the newest andÂ ENJÂ as the most established. Seven are NFT â€˜unicornsâ€™ (market cap is greater than $1 billion), and without those, the average market cap is $354 million.
The average first-day return across the projects is 130%, withÂ ALICEÂ earning a staggering 24,640%. These are substantially higher than the average first-day IPO return of 35%. Also, the average daily return since the first day is 0.3% (see chart 1). In total returns, AXS gained 53,535% over 300 daysÂsomeone made money there.
Moreover, if all investments were liquidated on August 31, 2021, the average investment multiple (a venture capital metric) would be six. The largest multiple is TFUEL, which rises to over 73. But some tokens lose. Five of the 19 tokens experienced negative total returns after the first day (seven experience negative daily returns). The largest loser wasÂ SUPER, with a -71% return over 160 days.
The author selects two standard measuresÂthe Sharpe ratio (SR) and market-adjusted return. The average SR is 0.32, although ERN,Â MANA,Â AUDIO, THETA andÂ SANDÂ all had SRs of at least one. For market-adjusted return, MANA and SAND offered 340% and 255% higher returns than Bitcoin, which itself appreciated 450% during the same interval. Only TFUEL, SLP, THETA andÂ BAKEÂ underperformed relative to Bitcoin.
Next, the paper estimates NFT alpha and beta from the capital asset pricing model (CAPM). The vast majority of NFTs have positive alphas, and AXS, AUDIO, MANA and THETA are among the best-performing NFTs on both absolute and risk-adjusted bases. Across the whole sample, alpha is positive and highly statistically significant at the 1% level. The author, therefore, concludes that â€œNFTs generate significantly higher returns than the averageÂ cryptocurrencyÂ in the crypto market.â€
12 of the 19 NFTs have betas significantly greater than one, the average being 1.1. The highest beta is two (TLM) and the lowest is 0.8 (FLOW). They also note that almost all best-performing NFTs on both the absolute and risk-adjusted basis have betas that remain below one.
Do NFTs add value to blockchains?
According to the author,
â€œThe NFT boom of 2021 demonstrates convincingly that blockchains are able to one, solve real-life problems, two, be deployed fast and three, create value both for the users and the underlying networks.â€
Existing blockchains are venturing into NFT technology to broaden their user base, and the value is clear. In August 2021, NFT sales volume on the OpenSea marketplace neared $4 billion, compared with only $8 million in January 2021Âa 50,000% surge.
The author then estimates how much value NFTs have added to existing blockchains upon integration. They find a couple of NFT events concerning the Solana blockchain are associated with an average unexpected 22% price increase ofÂ SOL, equivalent to a $3 billion market cap increase. Similarly, Efinity added around $1.5 billion to Polkadotâ€™s value, and Unifty boosted Avalancheâ€™s value by over $1 billion.
The NFT world is on a high. Even the editors at Collins Dictionary know it. But with the likes of Snoop DoggÂ sellingÂ unique memories, you wonder how much the speed of its rise relates to the hype. As I understand, the digital ID that proves ownership is only as valuable as what the next person is willing to pay for it. Given NFTs usually come without physical objects, it is hard to gauge intrinsic value. And so, a heightened level of speculation will certainly influence token prices, and NFT startups are cashing in.
Fundamentally, though, the technology seems excitingÂor gamers, especially. Hours of play may no longer be frowned upon by disapproving parents if players can sell their progress (e.g., skins, cards, etc.). In the art world, artists can sell their art directly and program royalties to receive in future sales. The paper also uses the example of derivatives whichÂ were they to be replaced by NFT counterpartsÂ would be a $580 trillion market. I spotted Yahoo! FinanceÂ listedÂ 10 upcoming NFTs to watch out for.