Fractionalisation of NFTs — The Next Big Thing in NFTs explained
The demand for NFTs is not slowing down. It is clear that non-fungible tokens have formed their own financial asset class. And people are beyond excited to explore this new sector in decentralized finance. True ownership, price appreciation, and one-of-one kind art- are few factors that make NFTs desirable.
The fundamentals of non-fungible tokens remain the same, but we cannot keep up with the market demand, resulting in major problems within the industry. While the rise of new collections and world-class artists in this new digital world is unquestionably impressive, there still seem to be few missing pieces.
Liquidity is a major concern. Price discovery is not accurate. Too expensive for small investors to participate. All of them are stunting the growth of secondary markets for NFTs. So what is the solution? How can we solve all three problems?
The answer is quite simple- Fractionalize NFTs.
Democratization or financialization of NFTs begins with distributing ownership of the same asset. Fractional ownership could solve all of the present constraints in the digital art world. In this article, we will deep dive into Fractionalized-NFTs and understand how it creates deep liquidity, gives better price valuations, and, most importantly- helps with widespread adoption.
What is Fractional NFT
As the name suggests, fractional NFTs are created by splitting the ERC-721 token into the smart contract. When an NFT is locked in a vault or smart contract, the owner shall issue a maximum number of ERC-20 tokens. Now the holders of these tokens will receive fractional ownership of that NFT. If the price of the NFT goes up, then the tokens will also appreciate, giving each holder decent returns.
The best part about the fractionalization process is that- NFTs can be anything. Ownership can be distributed for any NFT. It can be a real-world painting like the Mona Lisa or the generative-profile pictures like Crypto Punks. In both cases, fractional art reduces the cost of valuations for individual buyers and incentivizes a pool of fractional owners with tokens.
Fractionalization of NFTs unlocks more liquidity
Fractionalized NFT brings more liquidity to the secondary market because more investors will be willing to own a fractional part of a blue-chip NFT. They don’t need to invest hundreds and thousands of dollars in owning an NFT and make some gains. It is much easier to sell a fraction of the total supply than the supply itself, so fractional art addresses market liquidity issues and takes care of user accessibility.
Another interesting use case that could be a game-changer is collateralized NFT loans. If lenders are willing to accept NFTs as collateral, they can largely facilitate increasing liquidity. It can be a direct p2p marketplace or a pool-type mechanism. In a pool lending system, the borrower can sell fractions of his NFT for other cryptocurrencies like ETH or USDC. This will unlock billions in liquidity and help numerous investors get NFTs at a fair pair.
Price Discovery and Capital Efficiency of Fractionalized NFTs
Fractionalization of NFTs adds more utility value because it makes price discovery a lot more systematic. When you fractionalize NFTs, you are not simply giving away ownership in the form of tokens. You are also creating a community that can determine many future possibilities of the NFT they are holding in a vault.
Sales and auctions are traditional ways of determining the price. With ERC-20 fractionalization, a community can put up offers for a particular NFT and depend upon the number of bids and previous sales history, and the price discovery will be more accurate. As tokens can be traded openly, the price estimates will not be affected by other counterparts.
On the subject of capital efficiency, the fractionalization mechanism gives the owner the most value they can get from their NFT. The price valuation cannot change even when the crypto market is on a downward trajectory. It is a fixed price for fractional art, making it more flexible for any owner to achieve capital efficiency.
As the markets mature, we will also see NFT owners diversify their portfolios using digital artworks. They can take out a loan for a fair market price and invest in other real-world assets. Once they pay back the loan amount, they can regain ownership of their NFT. If their NFTs can be used in such a way, then capital efficiency can be achieved for all kinds of digital art.
Future of Fractionalized NFTs
The next major step in the NFT segment is fractionalized art. It solves the liquidity issue and handles widespread adoptions. With more popularity, the prices will go up, and the number of unique owners will go down. And that is not a good sign. So to enable small investors and give them options across the market, we need to fractionalize NFTs. It will help creators, as F-NFTs can efficiently create a new market and a loyal community.
The price discovery is definitely going to be better with more collections adopting Oracle-based pricing. It will not only help with valuations but also discover new value. With more use-cases like collateral loans, we will see NFTs being used in the real world. And when that happens, every major business will start to create an NFT strategy to generate cash flows. In essence, the future of fractions is looking bright, and it is going to play a huge role in mass NFT adoption.
Born and brought up in India, Karthikeya Gutta is a crypto journalist and freelance contributor for ItsBlockchain. He covers various aspects of the industry with in-depth analysis and research. His passion towards blockchain and crypto ecosystem is mainly because he believes it can really change the world and help millions of people.
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