What is an NFT?
If I owe you one hundred dollars, you gave me hundred dollars in one bill. But I don’t have to return you the same hundred dollars bill. I can, for example, give you ten times ten-dollar bills, and you are no worse off because they all hold the same value, meaning they are fungible.
Bitcoin is a fungible token, and Ethereum, all those cryptocurrencies, are fungible tokens. Because they can be interchanged and hold the same value. You don’t have to have the exact particular token because they are not unique.
Fungible, non-fungible, and you have physical and digital.
So in physical assets that are fungible, for example, gold dollars. Then fungible digital assets are like Bitcoin and Ethereum. Then non-fungible physical assets are like some artwork’s diamonds, for example, something that is unique. On the other hand, digital non-fungible things are like in-game assets.
So non-fungible assets cannot be substituted because they have unique attributes that make them different from others in the same asset class. Each non-fungible asset has qualities that act or subtract value.
These tokens refer to a certificate that is stored on a blockchain on a secure, distributed database. And this can be the case for digital as well as for physical assets. An NFT is a unique cryptographic code attached to some digital or physical assets.
You can imagine these NFTs more like a receipt you have for one asset because the medium, the files are not stored directly on the blockchain because blockchain is not meant for big files, and it wouldn’t be too costly.
So the real assets, the media files, are stored elsewhere. For example, IPFS is a site where you can permanently store media files. But the actual media files are not stored on the blockchain itself.
NFTs are tokens with URLs. Songs, images, texts, or something hosted on some web server elsewhere. You only have a certificate that you are the owner of that asset.
How NFTs Work
Now, we know what NFT is. We can talk about how NFT works; there are many ways how NFT can be built. However, for now, the vast majority of NFTs have been built using Ethereum standards, the ERC-721 in particular, and also the ERC-1155 standard. But first, let’s clarify.
What you see is ERC stands for Ethereum Request for Comment. The number tells us the number of that common. What are Ethereum standards? They are just a set of rules for creating and issuing these tokens.
So this standard is described in the code as a common set of rules or guidelines people should follow for developers creating their smart contracts or tokens to tenderize this process and make these tokens function correctly in the Ethereum ecosystem.
For example, cryptocurrencies, ERC-20 tokens, are like a group of identical tokens. If we take a closer look at Ether, Ethereum’s native cryptocurrency, gas is the fee needed for all the transaction processes.
So many decentralized applications or apps and services support ERC-20 standard tokens, making it easier for community members and businesses to adopt them and use them on a wide range of applications.
Before diving deeper into those token standards, we should take a step backwards and look at the ERC-20 standard for Ethereum-based cryptocurrency. Like Eth the Ether, ERC-20 is a standard for fungible tokens.
ERC-20 Standard created guidelines for all the functions that should be included in the smart contract ERC-20 standard functions in the Smart contract are functions that enable us to see how much we will balance. They dictate, and this applies, so you can send and receive and transfer those assets, and that’s it. Nothing more.
ERC-721 standard (NFTs standard)
You have a group of unique tokens with the ERC-721 NFT standard. Each token has unique specific characteristics that make them unique; therefore, they cannot be substituted for functions in the ERC-721. Smart contracts are the same as the functions of ERC-20 smart contracts, but they also contain additional functions that enable us to prove their ownership and metadata in them.
What is Metadata
Metadata is like if you take crypto kitties, you have the colours of the crypto kitties. You have some information about the actual asset. Metadata provides descriptive information for a specific token. The question here is how and where to store this data such that it can be accessed by applications that care about NFTs.
The first decision developers need to make is whether to represent the data on-chain or off-chain, meaning you make that metadata directly on the blockchain, or do you host it separately from the tokens?
The problem with the ERC-721 standard is that if you want to send thousands of tokens sold, you have to make a thousand transactions, on and each transaction only contains one. Therefore ERC-1155 standards were created.
This standard combines non-fungible and also fungible. So it combines a group of unique and also a group of identical tokens. You can create assets that are more like the ERC-20 standard and assets that are more like the ERC-721 standard.
An example of ERC-1155 is a token that you have for in-game cryptocurrencies, but in the same token, you have some in-game assets like skins or weapons. All of this is combined in one smart contract, which is created under the ERC-1155 guidelines.
As we know, every transaction on material costs and gas fees, and therefore it is highly impractical and expensive to create and sell and mean your NFTs on the Ethereum blockchain. Therefore, there exist NON-Ethereum Standards that power NON-Ethereum based on the marketplace.
We will discuss these Ethereum-based and Non-Ethereum-based standards and the marketplaces later on.