Figuring Out: NFT and DeFi

Posted on Dec 25, 2020

What is NFT?

NFT or “Non-Fungible Token” is a token that exists on a distributed ledger/blockchain and these cryptoassets have unique identification codes and metadata that set them apart from each other. The ownership opf NFT is recorded in the blockchain and can be transferred from one owner to another, thus NFTs can be sold or traded. One can buy NFTs using cryptocurrencies such as Bitcoin, Ethereum, Litecoin, etc. Because NFTs are uniquely identifiable thus they are different from other cryptocurrencies which are fungible. It is also used in identity management in the form of digital passports or ID cards.

NFTs commonly uses ERC20, ERC-721 standard, and ERC-1155 standards. NFTs have a uint256 variable called tokenId. So, for all NFTs, the pair of smart contract addresses and tokenId must be globally unique.

Characteristics of NFT:

  • Can be sold or traded: It is a unit of data stored on public ledger called blockchain that can be sold or traded. It can be traded or sold on digital markets.
  • Not mutually interchangeable: NFTs are not mutually interchangeable unlike other cryptocurrencies like Ethereum, and Bitcoin, and thus are not fungible.
  • Transparency: NFTs get stored on the blockchain that is decentralized and immutable thus buyers can trust and verify the authenticity of a specific NFT.
  • Ownership: The original creator of NFT retains the private key of the account and they are free to transfer that NFT to any account.
  • Interoperability: NFTs can be traded, sold, or exchanged across various DLTs. How Do NFTs Differ From Cryptocurrencies?

How NFTs are different from cryptocurrencies ?

All the cryptocurrencies are fungible, and thus can be traded with each other. For example, the value of one unit of Bitcoin will always be equal to any other single unit of Bitcoin. On the other hand, NFTs can’t be equated in the same way. The value of any individual NFT doesn’t correlate to any other NFT. Each NFT has a unique identity (value) of its own. Because of this property, a lot of modern artists are opting for NFTs to sell their digital arts without worrying about data piracy.

  • Jack Dorsey’s first Tweet : $3 million
  • Beeple’s “Everydays: The First 5000 Days” : $69 million
  • LeBron James dunking against the Houston Rockets : $387,000
  • Nyan Cat GIF : $852,300

Where one can buy or sell NFTs ? Binance OpenSea Rarible

Major Concerns with NFTs:

  • Highly volatile: Most of the time the buyer and seller both don’t know the asset they are trading. This can lead to very unrealistic asking and bidding offers. Jack Dorsey’s first-ever tweet $3 million NFT, received a top bid of just $6,800 in 2022.

  • No passive income: NFTs do not offer their owners any income potential, compared to dividend-paying stocks, interest-bearing bonds, and rent-generating real estate.

  • Pirated NFTs: In recent years, piracy within the NFT ecosystem has been a rising issue. There have been instances when people sold replica NFTs without any ownership rights.

  • Lack of regulation: Most governments in the world still don’t recognize NFTs as an asset. There isn’t any security board for regulating the NFT markets to protect the users from unfair practices

  • Dangerous to the environment: As in the case of any blockchain technology, NFTs require a significant amount of computing energy to create and update blockchain records.

What is DeFi?

Defi stands for Decentralized Finance. It is an umbrella term for financial services such as lending or borrowing money, trading, and investing which work on the distributed ledger/blockchains. It is the digital version of banks and other financial services that leverage blockchain technology. For example, just how online e-commerce sites eliminates all the third parties intermediaries/merchant and directly sells goods to the customer. Similarly, DeFi provides an alternative conventional banking system and in return takes a small service charge. In addition, the services are available 24×7, anyone from anywhere can transact with each other without applying to a central agency or disclosing their identity.

Characteristics of DeFi:

  • Permissionless: DeFi follows an open, permissionless access model where any individual could access DeFi solutions through an internet connection and a crypto wallet.

  • Transparent: Every transaction has to be broadcasted to every other user on the network thus ensuring the availability of information about network activity to any user.

  • Programmable: The majority of DeFi solutions are based on the Ethereum blockchain, thus an opportunity for accessing smart contracts could help in automatic execution and programmability in DeFi and at the same time while opening up new avenues for creating new financial instruments and digital assets.

  • Immutable: With the assurance of safe and secure data transmission using the decentralized architecture of blockchain, DeFi could offer the assurance of the integrity of all the transactions.

Applications of DeFi:

  • Payment solutions: DeFi tokens such as LUNA, AVAX, UNI, XTZ, are now being accepted as payment methods on various online marketplaces allowing users to exchange products and services globally.

  • P2P borrowing and lending: DeFi ecosystems like Compound and PoolTogether have allowed individuals to borrow and lend out digital assets without the involvement of a third party or medium.

  • Gaming and eSports: DeFi allows game developers to implement modern incentive and reward models on the basis of DeFi coins, which let users buy skins and tools using real-world currency.

  • Stablecoins: Stablecoins are cryptocurrencies that are pegged to a stable asset or basket of assets, such as fiat, and gold to tackle the volatility of cryptocurrencies. Some common examples are USDT, DAI, TrueUSD, etc.

Major Concerns with DeFi

  • Unreliable: As these services are relatively new it is impossible to predict which one of these tokens might crash tomorrow or give a 100x return. For example, Terra Luna which was once market cap of 40 billion USD lost 99.99% of its valuation in less than a week. Something similar also happened with SushiSwap in the last year.

  • Scalability: As it is based on the P2P model, transactions are expensive and take much longer when compared to traditional systems. Ethereum network processes about 13 transactions per second, while centralized systems can process thousands of transactions in the same duration.

  • High transactional rates: In most cases, DeFi transactions occur on the Ethereum blockchain, and each of these transactions requires some ETH. Due to a recent hike in crypto mining costs, the costs of transactions have gone up significantly.

  • Security: Cyberattacks on DeFi are increasing day by day. According to a recent study by Chainalysis, DeFi accounted for more than 70 percent of the crypto thefts that occurred in 2021.

DeFi tokens ranked by market capitialization:

  • Tera (LUNA) : $29 billion
  • Avalance (AVAX) : $20 billion
  • Wrapped Bitcoin (WBTC) : $11 billion
  • Chainlink (LINK) : $10 billion
  • Uniswap (UNI) : $9 billion
  • Dai (DAI) : $9 billion
  • Tezos (XYZ) : $3 billion