The $69 million sale at auction of a collage by the creator known as Beeple has drawn a rush of attention to digital artwork and nonfungible tokens, or NFTs. But the possibilities for NFTs go far beyond extravagant auction prices. Some smaller, less mainstream projects are experimenting with gamified art and decentralized finance, or DeFi. The resulting technology will have a long-lasting impact, potentially even for traditional financial products like real estate investment trusts.
The DeFi movement aims to create financial tools that minimize, or altogether remove, the need for intermediaries. Where DeFi, art, and gaming intersect, you can get a glimpse of the future. A game called Aavegotchi is at the vanguard.
In Aavegotchi, you purchase portals that allow you to summon pixel-art ghost NFTs with unique characteristics and personalities. You can style your ghost with hats and skateboards bought and sold on NFT marketplaces. Your ghost can battle other ghosts and even fulfill its civic duties by voting.
To appreciate this game, it helps to know about Aave, a decentralized lending protocol for digital assets. When you lend assets on Aave, you get back what are essentially receipts referred to as “aTokens.” Deposit ether cryptocurrency into Aave and the protocol gives you “aETH” tokens. To get your ether back, you must return your aETH tokens. To keep your aToken, you must keep your digital asset in Aave.
To summon a ghost using your portal, you must “inject” it with a minimum amount of “spirit force” in the form of aTokens. Withdraw them and your ghost will die. The result is that to summon ghosts, you must first lend digital assets to Aave. Players are incentivized to provide liquidity to Aave in order to keep their ghost alive.
This spirit force is also a gaming innovation. Have you ever wondered why in-game items such as digital swords or skins that change a character’s appearance have value? Players can and do pay money for them because they create extra enjoyment. But do these items have any value beyond user enjoyment? The gaming innovation in Aavegotchi is that the in-game ghost character has real value injected into it. You can burn the ghost NFT you bought from someone else to retrieve the aTokens, and use them to retrieve assets from Aave.
If all of this sounds too complicated and strange to work in practice, think again. Last month, a release of 10,000 Aavegotchi NFTs sold out in less than a minute, according to the company.
The injection of the aToken into the NFT is made possible because of a new technical standard on the Ethereum blockchain. To oversimplify, aTokens are of a fungible token type, while ghost NFTs are of a nonfungible token type; one is common and interchangeable like dollar bills, while the other is unique and rare, like art. This new technical standard allows you to manage multiple token types at the same time so that one is linked to the other by code. When you sell or transfer your ghost NFT, the aToken travels with it. That joint transfer is guaranteed and verifiable on the blockchain.
These techniques for transferring and verifying assets serve as a signpost pointing at the future of digital financial products.
Consider a traditional REIT, made up of individual mortgages wrapped in a legal structure describing the rules of ownership. An enormous amount of paperwork is required to make the right batch of mortgages link to and travel with the legal wrapper.
There is a simpler way to achieve this result using the same mechanics as Aavegotchi. Replace the ghost with a legal wrapper and the spirit forces with individual mortgages and you have the REIT, but with several advantages. In Aavegotchi, because the ghost NFT and spirit force aTokens are bound by code, there is no dispute as to which assets are bound to the NFT. If a REIT was created with code, a transfer of the equity token will verifiably guarantee that the underlying mortgages are transferred simultaneously. The ease in obtaining certainty will reduce human error and decrease the legal and operational costs during issuance.
Added efficiency isn’t the only way this technology can be useful. It also creates the basis for innovation with natively digital assets that have no analog corollary. One example of this is land within metaverses, such as Decentraland, a virtual world owned by its users. Each parcel of land is unique and can be purchased on marketplaces. You can build on your parcel of Decentraland turf. You can also view those parcels as uncorrelated assets outside traditional metrics like the S&P 500 index.
With blockchain innovation, one can easily and cheaply package a product that provides exposure to a diverse basket of assets. What if you want to buy or sell an old-school REIT and a parcel of virtual land to the same counterparty at the same time? You can use the technology to efficiently create a product with a completely different risk profile for those who are seeking returns uncorrelated to traditional metrics.
To be sure, not all NFTs are financial products. You may just want to build on virtual land or battle ghosts. The technological innovation within these art and games lay the groundwork for endless financial, artistic, and gaming innovation applications. What can they really do? Go play and find out for yourself.
Joyce Lai is a member of New York Angels, an angel investing group, and a blockchain attorney at ConsenSys Mesh. These opinions are her own.
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