Economics 101

Not all NFTs are created equal... and many will eventually disappear

by Jack Baruth
6 May 2022 8 min read
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Have you ever paid a few million dollars for something that simply… vanished? As Tom Selleck said in those famous AT&T ads… “You will!” At the very least, you might — if you’re one of the many casual investors taking a newly serious interest in NFTs. The astounding sale prices and post-sale profits racked up by many NFTs in the past year have convinced a lot of normally cautious people to toss a few bucks into the market, the same way that the Ferrari Bubble attracted money from outside the collector-car hobby.

Of course, the nice thing about the Ferrari Bubble was that even if you lost your shirt on a Ferrari, you still had a Ferrari. When the NFT market settles, a lot of people might find themselves holding completely valueless assets — if, indeed, they are holding them at all. Through no fault of your own, and entirely due to simple carelessness on the part of people you will never meet or know, your NFT could literally disappear in a heartbeat, never to return. Here’s how and why that might happen.


Disclaimer: I personally don’t believe that normies should be investing in NFTs. What’s a “normie”? In this case, a normie is someone who doesn’t understand the mathematical fundamentals that underpin cryptocurrency and the sociopolitical phenomena that drive the creation and maintenance of blockchain technologies. If the phrase “Merkle-Hellman backpack” doesn’t immediately resonate with you, I don’t think you’re a good candidate to play with this stuff. That being said, plenty of fortunes have been made by people who didn’t know what they were doing, so your mileage may vary.


Our friend Rick Carey wrote a nice NFT explainer a few months ago after Ford’s big Bronco NFT sale, but if your interest in the field is more than merely academic you should understand a few critical aspects of how the tech works. Chances are that you’ve heard about “blockchain,” right? What is it?

Blockchain, as simply as possible

If you’re successful enough to be interested in collector cars, you probably know what a ledger is. You also know that a ledger is usually maintained by one person/business/bank. Having multiple ledgers for the same enterprise usually means you’re either a criminal or an idiot. But that single ledger is subject to contamination or corruption: your employee sneaks in at night with Liquid Paper and hides the payouts made to his brother, or a hacker convinces your computer to transfer funds out to the Caymans. 

A blockchain, by contrast, is a distributed ledger. It’s held on thousands of computers around the world. The ledger consists of blocks of transactions. New blocks are added every so often. If you want your transaction to be in the next block, you submit it to a pool. Eventually, your transaction and others will be turned into a block and added to the chain. At that point, it’s part of the permanent record. Any attempts to “rewrite” an old block, like your rogue employee would do with Liquid Paper, will break the math of making a new block and set off alarm bells all over the world. 

The people who make blocks do so either by doing some complicated math, which takes time, or by putting up a “stake” of cryptocurrency as a proof of good intentions. Unless you want to spend the rest of your life using phrases like “NP-complete” and “coinb1extranonce1extranonce2, and coinb2,” we can leave it at that. 

An NFT is an entry on a ledger

Digital currency is “fungible,” meaning that one Bitcoin is no different from another Bitcoin. A non-fungible token, or NFT, is an entry in the above-mentioned digital ledger that has a unique identifier. The Hyundai G90 that my brother wanted to buy a while back has a VIN of KMTF54PH6NU094935; there’s only one Hyundai out there with that VIN. It’s non-fungible. 

For most of the past twenty years, the blockchain has been used just to record the transfer of cryptocurrency from one person to another, but now it’s possible to put in a note that says “Mark Baruth owns this G90 with VIN KMTF54PH6NU094935” in the blockchain. That ledger entry will have its own “VIN” of sorts. It’s unique. You couldn’t then put in a note that says “Jack Baruth owns this G90 with VIN of KMTF54PH6NU094935.” The blockchain would reject it. Instead, Mark would have to initiate a transfer of the VIN to me, I would accept, we would pay a fee to the “miners” who operate the blockchain, and then the entry would say “Jack Baruth owns this G90 with VIN of KMTF54PH6NU094935.” Just as importantly, the previous history of that G90 would always be available by reading the blockchain. It’s a permanent and incorruptible record of who owned that asset and when.

In theory, anyway.

But that’s a discussion for another time. Let’s assume for now that the blockhain you have your ledger entry in will be permanent and incorruptible. Even though that’s a bad assumption. Because most people are making it. 

Since the State Of Ohio doesn’t recognize car sales on the blockchain, or anything else on the blockchain for that matter (at least not yet), most transactions on the various blockchains out there are for digital assets that barely exist anyway. Low-resolution cartoons of apes. Screenshots of Tweets. Pictures of Ford Broncos. The real assets that are tracked via blockchain are usually low-rent and ephemeral enough that they won’t get too many attorneys involved. Concert tickets. I’ve personally met too many small claims court referees to have any faith in their ability to understand an NFT transaction for a real world item.

“Your Honor, there’s an invisible digital ledger, mostly operated on a Chinese server farm, that says I own this baseball card!”

“I’m sure you think that’s the case. Judgment for the other guy.”

In any event, today’s multimillion-dollar NFT sales are pretty much limited to digital art/collectibles. Here’s “Bored Ape #835,” originally purchased for $350,000 then accidentally sold for $115 about a month ago:

Keep in mind this is the picture of Bored Ape #835, not the NFT of Bored Ape #835. Anybody can copy and paste the picture, but the record of ownership is on the Ethereum blockchain. So this picture “belongs” to someone who paid $350k (or $115) to have that entry made on the ledger. 

This is where things get dangerous. A lot — and I mean A LOT — of people think that there’s a copy of the picture on that digital ledger. So that no matter what happens, even if everybody in the world simultaneously decided to delete their JPEG picture of Bored Ape #835, there would still be a permanent and incorruptible version of the picture on the blockchain.

That would be cool! And I can imagine a lot of cases in which having a permanent and incorruptible version of a picture on the blockchain would be worth real money to someone. You could store a legal document on the blockchain and then never bother to keep a copy. You could access it anywhere in the world at any time. That would be awesome.

But that’s not how it works.

Storing data on the blockchain is expensive. As of this writing, it would cost you about nine million dollars in cash to store a one megabyte image on the blockchain. That’s not an investment. It’s like making a one-time payment to rent a parking spot. You never get the money back. Even the low-resolution Apes would cost close to a million bucks, each. So the ledger doesn’t have the actual picture of the ape on it. Instead, it has a link to a distributed file system that holds the original Ape pictures.

Where Are The Assets, Exactly?

In theory, each NFT entry on the blockchain ledger should have information as to where the original digital asset is located, the same way the property deed register of your home county has addresses and location descriptions (“From an iron pin at the corner of…”) for each parcel of property. One of the best places to store the original asset is via a distributed file system. If you ever used Napster or LimeWire around the turn of the century, you know how those work. Each individual image (or song) has a unique identifier code, and it’s stored with that code on computers around the world.  When you open up your software and inquire as to the image or song, the nearest computer to you will provide it to you. Then your computer will begin sharing it to other people who request it. 

The pros of this approach are easy to see. The image is widely spread, widely shared, and tied to a unique identifier so it can’t be changed. The cons of this approach? Ask everybody involved with Napster, or The Pirate Bay, or any other file-sharing service. If you had a song shared on Napster, it’s long gone, because everyone involved with Napster got frightened and/or prosecuted out of using the service. There is no guarantee that your Bored Ape will still be available in twenty years. Or two years. Or tomorrow. 

If that sounds bad, wait until you hear the most common alternative: just putting a URL in the blockchain. Like this:

https://hagerty-media-prod.imgix.net/2022/01/Mazda-RX7-GTU-13.jpg

Between you and me, I think that RX-7 image will be available for years to come. But I wouldn’t bet a million bucks on it — and most of the sites that host NFT images are, shall we say, less venerable than Hagerty’s media site. There are a hundred reasons why an image might disappear, from “nobody realized it was valuable, so they cleared it to make space on the server” to “someone forgot to pay the $15 fee to renew the domain name.” That latter scenario has happened to Foursquare, the Dallas Cowboys, and Microsoft themselves! Don’t think it couldn’t happen to SweetNFTHosting.com.uk.biz or wherever you have that “digital asset” you just paid hundreds of thousands of dollars for. 

So what’s the best choice?

Okay. You’ve read all of the above and you understand that most of the NFT business is a gold-plated castle built on shifting sand, but you still want one, the same way that your neighbor said they really wanted a vintage RX-7 even though they have no idea what an “apex seal” is or how to install one. (Don’t worry; they’ll get the hang of it after the third new “keg.”)  What’s the safest way to buy an NFT? I’d suggest that you:

1. Buy the biggest and best. The Bored Ape NFTs are part of a very well-financed and famous effort. A lot of wealthy people own them. It would be difficult or even dangerous for the Bored Ape people to disappear overnight. Doesn’t mean it won’t happen, of course — but if you’re going to buy an NFT for real money, buy it from an organization with considerable history and/or available recourse should the deal turn sour. 

2. Be smart about the original asset location. Buying a NFT based on an Internet URL is exceptionally risky. The least risky is probably an image hosted on IPFS, like the Apes. But there’s risk nonetheless.

3. Make sure you have a copy of the digital asset yourself. This one’s obvious, right? It won’t protect you from losing the “address” of the asset, but at least you won’t have to ask some 12-year-old on the Internet for a copy of the picture you paid half a million bucks for. 

4. Treat this like any other ultra-high-risk investment. You’re not buying a Picasso here, no matter what the current reputation of “Beeple” is. This is a lot more like buying into a Cuban casino during the mid-Fifties. Hey, maybe that Castro guy is going to give up! Seriously, though: you’re playing with fire here, and the fire is expensive. This is not a (Treasury) Series I. It’s not even a (Shelby) Series 1. 

I hope this has been at least mildly helpful to those of you considering a dive into the NFT pool. If it hasn’t diminished your enthusiasm in the slightest, then best of luck to you — and feel free to contact your humble author about buying an NFT of this very article! Wouldn’t it be hilarious if you made millions of dollars that way?

Hagerty
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Comments

  • Jim R says:

    This is one of the best NFT explainers I have yet read, perhaps because it included some car language.
    Future anthropologists and novelists are going to have so much great material to mine as they analyze the sad NFT craze of the “Cash Crazy ‘20s”. Whether it’s tulip bulbs or dot com stock, FOMO will always be more powerful than common sense for the common folk.
    In the past few days crypto coins have tanked in value, because the pyramid finally grew too large, and there were no more bagholders to firm up the foundation. Those on top will make off with millions, and the thousands on the bottom will be left holding digital vapour.
    The shift from Crypto Bro Investor to Minimum Wage Joe Drowning in Debt is going to be ugly to watch.
    Apparently the suicides have already begun…

  • RONALD D SIEBER says:

    It seems like every decade that I’ve lived through has its own crazy fad in which a lot of foolish people with more money than sense chase after something that ultimately bites them. The earliest one that I can remember (I’m this old) is the “questing beast” from King Arthur’s time.
    I think that NFTs are the questing beast of our current decade.

  • Johnathan Sievers says:

    Outstanding article on a complex subject. Thanks Jack.

  • Ramsey Potts says:

    Look at The Jack go! Entertaining, pontificating, educating, and saving us all from dipping into our race car budget… because race cars a brilliant investment… right? 😉 Great stuff, JB!

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