Well, you can neither own a Bored Ape nor Mona Lisa with a McDonald's wage. But you can own a fraction of a Bored Ape.
Well, you cannot own a Bored Ape with a McDonald's wage. Just like that, you can't own the Mona Lisa either. But you can own a fraction of a Bored Ape.
Fractional NFTs. Don't say you never heard of them. No? Nothing?
Alright, that's what you have CoinMarketCap Academy for after all. Here is everything you need to know about fractional NFTs and how they work.
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What Is a Fractional NFT?
Fractional NFTs (F-NFTs) are, you probably guessed it, shares of a single NFT.
You split up the original NFT (remember: non-fungible means it is not equal to any other token) into several fungible tokens (ERC-20 tokens) that represent a claim on the original NFT. It is basically the digital equivalent of receiving an IOU that says "you own X % of this Bored Ape/Crypto Punk."
With NFTs, the fractionalization process happens with the help of smart contracts. You can later exchange the fractional tokens (the digital IOUs) for cash on a marketplace.
Can an NFT be Divisible?
Well, no. And yes. It's complicated.
So, technically an NFT is non-divisible since it is non-fungible. Just like you cannot divide the Mona Lisa into two (though technically...), you cannot divide a Bored Ape NFT into two. Only that you can, but that is where fractionalized NFTs come in.
In essence, the non-fungible token cannot be split into smaller pieces, but fractionalized NFTs are a workaround where you get the fungible token as a claim on a share of the original NFT.
There was also a proposal for a token standard, called ERC-864, for the Ethereum blockchain, which would have made divisible non-fungible tokens possible. However, it seems it never went anywhere. So fractionalized NFTs are the only way to divide NFT assets, so far.
Making NFT Ownership More Accessible
So now you might be wondering:
New asset class this, digital store of value that. The simple version is that many people believe in the future of NFTs, and their value is increasing.
And they are not wrong, collections like Punks and Bored Ape Yacht Club have multi-million dollar market capitalizations and have minted many millionaire NFT holders. Heck, even Solana collections have pumped to respectable valuations. Sure would be nice to have a piece of that, wouldn't it?
Well, you can neither own a Bored Ape nor Mona Lisa with a McDonald's wage. But you can own a fraction of a Bored Ape. The same is not true for Mona Lisa.
See where this is going?
Fractionalized NFTs make ownership of the most valuable assets possible, even for us plebs. Sorry, smaller investors that is!
Decentralization baby! It may not be much, but it is an honest investment and a real difference compared to real-world collectibles.
Whether the NFT is "split" into 100 or 10,000, or many smaller fractions, is irrelevant. You can still own a fraction of it, just like you'd own a fraction of a blockchain company via their ERC-20 tokens.
Fractionalized Assets
Pull up an article about "Fractionalized NFTs" from the internet and you will read something like "Fractionalization presents a credible solution to..."
Yes, fractionalization can increase liquidity and make NFTs super-democratic and all that. But think about where you can have fractional ownerships in the real world:
- That apartment complex where you buy a flat. That's fractional ownership of an asset.
- That Gameboy you used to share with your older brother. Fractionalization again, kind of. (Zoomers won't understand)
- The simplest example of them all: company stock. A company is non-fungible and cannot be divided or swapped. But you can fractionalize it with stocks.
So fractionalization is nothing new. Blockchain assets are just new lipstick on an old pig and enable ownership of a new asset class.
F-NFTs vs Traditional NFTs?
By now, the difference between F-NFTs and how NFTs work should be clear as day. But let's repeat it for those in the back.
F-NFTs are a percentage ownership (a fraction) of a complete NFT. An NFT is one whole and cannot be divided. An F-NFT is a fraction of the whole.
Fractionalization can be reversed too. The smart contract has a buyout option, allowing the investor to trade his fractions of the original NFT as they please. If an F-NFT holder transfers their stake back to the smart contract, it triggers a buyback auction, which will run for a fixed period of time. The other holders can make a decision during that period, and if the buyout goes through, the fractions are automatically returned to the smart contract, and the buyer gains full ownership of the NFT.
Examples of Fractional NFTs
There are two commonly quoted examples of F-NFTs:
1. The musician Grimes auctioned her piece Newborn 1 & 3 on Otis, a fractional NFT marketplace, in July 2021, with the reserve price starting at $10 per share.
2. The NFT of the Doge meme sold for $4 million in June 2021. PleasrDAO, which bought the Doge NFT, fractionalized it into 17 billion pieces and, in true Dogecoin spirit, allowed anyone to own a piece of the original Doge meme.
No need to spend hundreds of ETH on expensive NFTs if you can just buy a piece of them.
Where Can I Buy a Fractional NFT? Popular F-NFT Marketplaces
Alright, so where can you, as a mere pleb that wants to own some digital art, hop on the fractionalization bandwagon? There are a couple of options besides OpenSea:
Unicly
Unicly is a protocol to combine, trade and fractionalize NFTs. Any type of ERC-standard Ethereum NFT can be fractionalized there.
Fractional.art
Fractional.art also allows you to buy, sell, mint and fractionalize your non-fungible tokens. Works also with ERC-standard Ethereum NFTs.
KuCoin
Good ol' trusted centralized exchange KuCoin holds regular sales of fractionalized NFTs from reputable collections like Mutant Apes.
Otis
Otis is another NFT investment ecosystem platform allowing you to fractionalize NFTs. It has been acquired by the cryptocurrency investing platform, Public.com.
How Do Fractional NFT Owners Benefit?
All well and good, you say, but what is in it for me?
Good question. With a pretty obvious answer.
Money.
The entire point of owning NFT avatars is being digital and unique. However, only a few chosen NFT collections ever make it to the NFT hall of fame, where they are considered "blue chips" and genuine investment opportunities.
Fractionalization allows you to buy a piece of the "hall of famers."
Because when the market tanks, the most valuable NFTs lose less value than the trash ones . And when it pumps, your fractional shares still go up.
Besides individual benefits, there are some other upsides to the whole process:
Democratization
Again — only one person can own a real-world painting (for now), but many people can own a fractionalized digital art piece. Say about NFTs what you want, but they do make investing more democratic.
Increased Liquidity
The more units of a good exist, and the higher the demand for it, the more liquid it is. For example:
- Mona Lisa: High demand since many people would like to buy it. Only one unit exists. The market is highly illiquid (in reality, there is no market).
- Dollars: High demand since many people want dollars. Many units exist. Highly liquid market, easy to trade dollars.
- Whole NFTs: Variable demand, depending on the NFT in question. Only one unit exists. Illiquid market, hard to trade.
- Fractional NFTs: Variable demand, depending on the NFT in question. Many units exist. More liquid market, easier to trade.
Price Discovery
Picking up on the previous example, you can see how fractionalization allows price discovery. We will drop dollars for this point:
- Mona Lisa: Price discovery is impossible since the owner will never sell.
- Whole NFTs: Price discovery is possible but more difficult and depends on the market depth and how many comparable NFTs are on the market. Few NFTs listed make price discovery harder.
- Fractional NFTs: Price discovery is easy since more units are traded and more people can participate at a lower price point.
Risks and Security Concerns Associated With Fractional NFTs
So that's it, case closed, we all start buying F-NFTs and pre-order the Lambos?
Not so fast.
For one, NFTs could be, and according to SEC commissioner Hester Peirce, are securities. As a refresher, security is:
- An investment of money;
- In a common enterprise;
- With the expectation of profit;
- To be derived from the efforts of others.
Given that projects in the NFT space often develop new products to increase awareness and effective demand for their NFTs, there's an argument to be made that they are securities. After all, that is what staking popular NFTs is for: making more money. If one day the big bad SEC regulators come around, you don't want to stand in their way.
Next, there's the issue of the whole market still being the wild west and open to anyone and everyone. Many influencer have discovered NFTs as a viable vehicle to turn an extra buck, so why not use fractionalization to make "investing" in their junk even more attainable?
Finally, there's something called reconstitution and it can be a real pain in the backside for NFTs.
Say, you fractionalize your Crypto Punk among 10 friends. After a year, you change your mind and want your entire Punk back because you decided a house is a better investment than a JPEG. However, two of your "friends" are obstinate lil' s***s and refuse to sell to you no matter what. Now what?
Unlike a company, an NFT only makes sense if you, well, own the entire thing. If you don't, it's always going to be an investment you will likely sell at some point on secondary markets. Ironically, fractionalization can thus also harm an NFT's liquidity. That is why some protocols work with buyout clauses, though those seem to be a work in progress.
What Industries Do Fractional NFTs Fit In?
Is there any way all the blockchain black magic can be used for something beyond speculating on fractions of digital JPEGs with DeFi protocols?
In theory, there very much are use cases:
Fractional NFTs in Art
Digital art is an obvious one, and there is nothing that really stands in the way of fractionalizing a real-world art piece. The only question is whether the highly conservative market would adopt such an innovation, and if it would solve more problems than it creates. In principle, all the benefits listed above, like increased liquidity and democratization, would apply to real-world art as well.
Fractional NFTs in Real Estate
A somewhat more realistic use case would be property transactions that can be solved with fractionalization. There's a case to be made that investors sometimes may want to purchase or sell only a part of a full piece of real estate, be that for liquidity or other reasons. Moreover, the real estate market is also fairly illiquid and paper-heavy — and would likely be more open to innovation that increases its liquidity. Fractionalization through tokens may be a solution for that.
Fractional NFTs in the Metaverse
Now if you think digital land is trash, no amount of fractionalization will convince you of the contrary. But if you think it's the next big thing — and plenty of people do — then fractionalization may add fuel to the speculation fire that will be pieces of digital real estate.
Fractional NFTs in Gaming
Crypto games are still working on figuring out a good pricing mechanism for their NFTs and in-game tokens. But given the amount of money pouring into the sector and interest from players, sooner or later they will succeed at that. And then owning a fractional piece of an ultra-rare monster may look like a much smarter investment than it does now.
Are Fractional NFTs a Good Investment?
Look, it's really easy. Here's all you need to know about investing in NFTs:
If you believe that NFTs work, there are plenty of reasons to believe in partial ownership as well. If you think ownership of an NFT is a fad and a bubble, well, a fraction of an NFT will not change your mind.
The bottom line is that tokenization isn't going anywhere and neither are NFTs. The next liquidity wave (whenever it comes) will likely not fuel the same assets that worked last time. But the underlying technology, that is ERC-721 tokens, will still be a part of whatever is hot in the next bull run. So invest in those digital assets at your own risk, but keep them in the back of your mind for when the next big NFT speculation frenzy hits.
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