Disclaimer: This is not financial advice, and I am not a financial advisor. This is for educational purposes only and all readers should do their own research and due diligence.
Writing this article because I had a difficult time wrapping my head around the difference and structure of NFTs in liquidity pools that offer liquidity tokens compared to individual NFTs that are fractionalized into tokens. To be completely honest for a few days after initially hearing the buzz words I didn’t even know there was a difference between the two. I had heard chatter about the pools in the Discord and about fractionalizing on crypto Twitter (CT) and thought to myself “o yeah tokenized art, nft pools, defi +nfts, yay to the moon yay” not truly understanding the complex finance underneath the hood. I’ll attempt to give an overview from a user point of view of the difference between the platforms out there. NFTX and NFT20 are platforms that facilitate pooling of floor NFTs in a collection enabling Defi capabilities and fractional.art is a platform that implements fractionalization of single NFTs for Defi capabilities. The difference here is subtle but important to note for those looking to finetune their strategy or learn something new altogether.
(If you are looking for step-by-step guides on how to use the platforms mentioned above check out the links and resources to the “docs” sections of the platforms themselves linked at the bottom of this article!)
Defi Liquidity Pools for !floor NFTs:
NFTX and NFT20 are the two platforms that I first heard about that allow for pooling of NFT assets from similar collections and then issuing tokens against the pool, the NFTs inside the pool being used as collateral.
The first use case for these platforms that I came to understand was from Discord !floor bots and that is that you could purchase NFTs from various platforms by acquiring “_tokens” from Uniswap and then swapping the tokens for a similar NFT from the pool. You can also trade similarly priced “floor NFTs” acquired elsewhere for another NFT in the pool. If a user goes about acquiring tokens and they pay the floor price plus a 5% premium or whatever premium percentage the platforms are seeking, they can redeem an NFT or their choosing from the pool. Otherwise, it appears to be randomly selected from the pool which is the case for NFTX.
Purchasing aside, how would one use these platforms in other ways? Because of the tokenizing structure, these platforms allow an investor to gain exposure to all the various traits that are captured within the pool of a collection. It opens the door to a user who wants to invest in the NFT collection but cannot afford to purchase the NFT entirely. A token holder can benefit from the upward movement of the underlying value of the “floor NFT” without owning the NFT itself.
Collectors can also gain yield on their NFTs by depositing the desired NFT into the website’s smart contract and minting “_tokens” and then provide liquidity to capture the trading fees on this liquidity pair (details one-by-one steps in each platforms Docs linked below). However, now that we are dealing with liquidity pool pairs, we need to keep in mind that impermanent loss (https://coinmarketcap.com/alexandria/glossary/impermanent-loss) is a very real risk here for investors.
*This method appears to be limited to NFTs that are priced near the floor of the collection.
Fractional Tokenizing of a single NFT:
Fractionalizing an NFT is taking one NFT and offering tokenized ownership for that one specific NFT. Unlike the pooled NFTs, here your investment is tied to a single NFT, and the traits that come along with it determining its rarity, compared to the rest of the collection. Here selecting an NFT to invest in for specific traits is considered since one NFT does not have exposure across an entire pool but just to that one NFT itself. There is an opportunity here now to partake in the ownership of an NFT of higher rarity and not a floor NFT. The previously mentioned protocols of NFT pooling discourage rare and high-valued NFTs from a collection and prefer the floor versions, while fractionalization of one NFT allows for the owner to get liquidity for a rarer NFT, the NFT being the collateral similarly, with others now being allowed to partake in the movement of the value of the asset.
Again, we want to note that impermanent loss is a potential risk. Whenever we are issuing a token against an asset and using it as collateral, with the liquidity pair being _token/eth the risk for impermanent loss (https://coinmarketcap.com/alexandria/glossary/impermanent-loss) exists. Also, to address purchasing an NFT, the fractional.art platform is not addressed by floor bots in Discord servers because the NFTs here are not floor NFTs, In regard to purchasing from fractional.art’s site his snippet on security and buyout from fractional.art’s docs states:
Lastly, regarding purchasing an NFT on fractional.art, there are auctions for the pieces that are tokenized, and these auctions happen when a person bids above the reserve price:
Always keep in mind that these are financial structures, and one should do their own research and due diligence before entering a liquidity-providing position or any position on the tokens of said NFT. These cool protocols open a wide array of utility and options to earn passive income to NFT collectors, content creators, and investors/traders! For in-depth detailed guides on how to use the platforms, I would check out the docs’ links in the resources below!
Important Links and Resources:
https://docs.fractional.art/fractional/
https://coinmarketcap.com/alexandria/glossary/impermanent-loss
