Anatomy of an NFT: A Guide to NFT Analysis
|— NFTs are unique digital assets that carry value – but can you tell the difference between fundamentals and hype?|
— The NFT space is driven by communities, and it’s famous for its FOMO, which can obscure our ability to really understand what’s in a token.
— NFTs are composed of multiple different key elements, all of which impact their utility.
— Here we explain the anatomy of an NFT so you can conduct your own fundamental NFT analysis – and prospective new additions.
If you think fundamental analysis is something that only applies to finance – think again. NFTs are an emerging asset, but they need to be assessed with traditional objectivity. Here, we explain the components of NFT analysis, and how to do this for yourself.
NFTs changed the parameters of the digital space in profound ways, by enabling parts of our digital environment to be meaningfully owned -just like real life. This created a limitless new economy, with NFT sales volume totaling $25 billion in 2021, skyrocketing from a mere $94.9 million the year before.
The stories that brought NFTS into the public consciousness tend to involve sensational tales of digital artists becoming millionaires, cartoon cats selling for obscene fortunes or unlikely projects that hit the big time for seemingly no reason- and all this hype can make it hard to assess the value of individuals NFTs objectively, without getting caught up in the FOMO and sensationalism.
To truly understand the NFT economy anf the individual tokens within it, we must look past the hype and assess token attributes instead.
Anatomy of an NFT
NFT’s aren’t just one “thing” but rather a cluster of different components that all have an impact on how and where they can be used. So in this article, we’re going to take nun-fungibles to pieces – identifying each component in turn and explaining its function and impact, so you can size up tokens with a clear head.
Are you ready for a crash course on NFT fundamental analysis?!
Let’s start from the baseline – the blockchain your NFT sits on.
The largest and most established ecosystem for NFTs is Ethereum. And it stands to reason: CryptoKitties, the project that fired the starting gun on NFTs, was launched on Ethereum, as well as the vast majority of big projects since then.
But it’s far from the only blockchain that can host non-fungibles. You can also buy NFTs on alternative chains such as Solana, Tezos, BSC, Polygon, among others.
Having come later to the game, these networks offer a less developed NFT ecosystem and a much smaller global marketplace, and that’s something that needs to be factored in as you assess your options. But there are also other considerations.
- Transaction Costs (Consensus Mechanisms At Play)
Transaction costs are a key tension in the crypto space, and thet are determined in part by your blockchain. The Ethereum blockchain may host a huge ecosystem – but it is notoriously slow and expensive, a knock-on effect of its proof-of-work consensus protocol.
Meanwhile, most alternative blockchains use proof-of-stake, and are therefore significantly cheaper (and faster), costing just a couple of cents per transaction.
- App Compatible Wallets
All these different blockchains bring their own requirements, such as different marketplaces and wallets.
For instance, MetaMask is the best option if you want to interact with Ethereum apps, but Phantom is the most popular choice for using applications on Solana. If you want to use Tezos blockchain, use Temple wallet, and Trust Wallet will be your best bet to interact with dApps on the BSC network.
These chains have further created their own specific applications and NFT marketplaces: the giant OpenSea is built predominantly on Ethereum, for example, while NFT marketplaces Solanart and SolSea, are native to the Solana blockchain, and Objkt caters to Tezos.
All this to say that, although the underlying blockchain may seem like one of the less exciting aspects of your NFT, it determines some important things – and should be borne in mind as you decide what an NFT is worth to you.
Internal Smart Contract
They say it’s what’s on the inside that counts and nowhere is this more true than with NFTs – each one is programmed with behaviours and parameters via its internal smart contract.
While blockchain is the foundation, it is the smart contracts that are doing all the work when your token interacts with platforms or other tokens, via terms written directly into the code.
Smart contracts control things like NFT royalties, rarity and whether the token is part of a collection – they also allow provenance to be embedded and track the transaction history of the token.
Impact on your NFT
These smart contracts ultimately determine just how you can use your NFT and how much of the resale value you’ll get. Not to mention, you can always check them for the provenance of the NFT if it’s a piece of art or fashion, and build a profile of the token by looking at its buy and selling history, all of which are documented by the smart contract.
Being able to read a smart contract is one of the most valuable weapons you have when you’re sizing up an NFT. So getting familiar with platforms like EtherScan, which allows you to read a smart contract, is a no-brainer for anyone exploring the space.
OK we’ve dealt with the inside of your NFT – now what about the bit you can see?
The metadata of an NFT is its digital content – the image, audio or video clip you bought the token for. In BAYC for example, the metadata is the unique Ape image of the token.
What’s interesting about NFT metadata is that it’s usually not stored on-chain with your ERC721 token. Blockchains are designed to handle transaction data, not manage large files like images, and storing them on-chain is both impractical and extremely expensive (check out our article for more on that). And while you can find some collections that are completely on-chain (On-Chain Monkey is the best example), these are pretty rare.
So just where is your NFT image?
Your NFT token itself contains something called a URI (Universal Resource Identifier) which is sort of like digital coordinates pointing to the location where your media file (your Ape, Punk or World of Women avatar for example) is actually stored. This is normally off-chain, on a server or via IPFS, both of which have some important implications for your token.
The Impact of Off-Chain Storage
Your ERC721 token might be on an immutable, decentralized blockchain – but if its metadata is stored off-chain, this part of the token won’t have blockchain-level security.
For instance, your image may be stored on a centralized server, which means you’re relying on a third party to maintain the file – this creates a centralized point of failure. If the server does not maintain your files, the URI within your NFT would simply be a dead link.
Systems such as IPFS offer a decentralized (and more secure) approach to data storage, increasing the security of your NFT image files. But the main point to remember is that the vast majority of NFT images are simply NOT as secure as the token itself, so when you’re sizing up a prospect, it’s worth checking where the image is in order to understand the vulnerabilities of your token.
NFT Commercial Rights
OK so we’ve covered the inside and the outside of an NFT – now let’s talk business.
Just because you own an NFT doesn’t mean that you have the right to use it commercially yourself; the original creator of the artwork is likely to be retaining some degree of intellectual property rights so that you can’t profit from their work.
Broadly speaking, we’re seeing three main categories of NFT commercial rights emerge in today’s ecosystem (all of which are determined by the creator of the artwork):
- Rights reserved to creators: this is a complete moratorium on using your NFT image (yes, even though the token is yours) to make a profit
- Rights reserved to token holders: each token holder has the right to use his or her own NFT image only, for commercial purposes.
- No rights reserved (CC0): anyone, even non-token holders, can use the project artwork for commercial purposes.
Why is this important for you as you assess an NFT? Because it determines the scope of what you can use that token for. NFT owners are increasingly creative with their tokens, even creating their own brands from their token artwork. But if the token you’re looking at has commercial rights reserved, that option is off the table for you.
Before you buy an NFT, check out its commercial rights. These are decided completely off-chain by the project or creator, and vary from one NFT to another. You can usually find the commercial rights for your own NFTs in the project’s terms and conditions page on its site.
The Private Key
So you’ve sized up your blockchain, checked out the smart contract conditions, double-checked where your image is being stored and how safe it is, and done some research on what level of commercial rights you’ll have over your token artwork. There’s just one last thing to deal with – and it may be the most important of the lot.
Your ownership of your NFT is defined by whether you hold its private key, so knowing how to protect and store it is essential.
When it comes to your private keys, your main vulnerabilities exist online. Hackers can target your connected device via malware deployed on bad links – for online wallets, this means “bye bye NFTs!”, as we’ve seen in too many instances already.
An Offline Key is the Only Key
An offline key is the only key you should be using, and this applies equally to NFTs. It calls for a security system that keeps your private keys completely offline and out of reach of hackers. This is the whole purpose of a Ledger Nano, which is to secure your crypto and NFT private keys in an environment that’s completely isolated from online threats.
Hardware wallets like Ledger Nano ensure that the private key for your NFT is offline at all times. And with the NFT Experience in Ledger Live constantly evolving, storing your private keys is both the most secure option, and the most fun and intuitive system for displaying and managing your collection.
Your Tokens Deserve a Closer Look
It’s hard to stay on top of all the exciting things happening in the NFT space, but the magic formula for knowing the truth about what you’re buying is knowing which elements to look at, and how to assess them. Now, you have the tools to do that for yourself.
You should now feel confident to look past the hype and see NFTs for their true value and potential – so go forth, explore and cast a discerning eye over everything you buy! You have a super power, start using it.
Protect Your NFTs
If you know – you know. Keep those keys offline!! If you only do one thing, it should be this.