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How Are Fractional NFTs Changing The NFT Space?

2022-05-05

Main Takeaways:

  • A Fractional NFT is a whole NFT divided into smaller pieces. 

  • Fractional NFTs are helping increase inclusion and participation in the NFT space. 

  • On top of making NFTs accessible to more people, Fractional NFTs have the ability to enhance market liquidity, provide better price valuations, and democratization

Want to invest in a popular NFT collection but feel it's too expensive? Fractional NFTs could be an alternative.

As some NFT collections rise in popularity, so do their floor prices, which is great for investors, collectors, and artists who got into the space early. But what about those trying to get into the market now? Most can’t afford to buy the more expensive NFTs, but they could certainly explore the possibilities offered by Fractionalized NFTs. The concept of fractionalization is similar to owning shares of a company. It opens up NFT ownership to multiple collectors, making them accessible to anyone instead of just NFT whales. 

In this article, we will explore what Fractionalized NFTs are, how they work, their benefits, and more!

What Are Fractional NFTs? 

A Fractional NFT is simply a whole NFT divided into smaller pieces, allowing different people to claim partial ownership of the same NFT. Think of it like a cake – where a whole cake can be sliced to serve multiple people. Given that an NFT is unique and cannot be duplicated, fractional NFTs push boundaries by making it possible to divide their ownership. 

How Does NFT Fractionalization Work?

The ERC-721 token standard is one of the most common standards used for creating NFTs on the Ethereum blockchain (along with the ERC-1155). While these two standards can generate unique non-fungible tokens, the ERC-20 standard, in contrast, is used to make altcoins and other fungible tokens. Fungible tokens are interchangeable, meaning that each unit has the same utility and intrinsic value. As such, you can deploy a smart contract to generate multiple ERC-20 tokens linked to an indivisible ERC-721 NFT. This way, anyone who holds any of the ERC-20 tokens generated can own a percentage of the linked NFT. 

Can Fractional NFTs Be Reversed?

It’s possible to reverse the fractionalization process and turn a Fractional NFT back into a whole NFT. Typically, the smart contract that fractionalizes an NFT has a buyout option that lets a Fractional NFT holder purchase all the fractions to unlock the original NFT. 

Typically, a Fractional NFT holder can initiate the buyout option by transferring a specific number of the corresponding ERC-20 tokens back to the smart contract. This will start a sort of buyback auction, which will run for a fixed timeframe. The other Fractional NFT holders then have some time to make a decision. If the buyout is successful, the fractions are automatically returned to the smart contract, and the buyer gets full ownership of the NFT. 

What Are The Benefits Of Fractional NFTs? 

Democratization

The increasingly high prices of some of the most popular NFTs are unaffordable for many, shutting out smaller investors or collectors from participating in the NFT space. Fractionalizing an expensive NFT lowers costs and makes it accessible to more people. 

Greater liquidity

With the rising popularity of NFTs, popular collections tend to increase greatly in price. This makes some NFTs accessible to only a few wealthy investors. With Fractional NFTs, you can divide the ownership of ERC-721 or ERC-1155 tokens into multiple ERC-20 tokens, making them more affordable. 

Price Discovery

It can be difficult to accurately determine the right price for a more expensive NFT with very limited or no transaction history. 

Fractionalizing the NFT makes it more affordable and allows more people to trade the asset, making it easier for buyers to find the NFT's actual value.

Increased visibility for creators 

With fractionalization, digital creators can get even greater exposure online because they are able to reach a wider audience in a more liquid market.

How Do Fractional NFT Holders Benefit?

The most significant benefit for Fractional NFT holders is that they get to own a percentage of a larger and more expensive whole NFT. Depending on the NFT and the platform where the Fractional NFT was purchased, the holder may get exclusive access to the NFT community and other benefits such as voting rights. 

Some Fractionalized NFT projects even support staking, letting holders lock up their Fractional NFT on a platform or protocol to receive staking rewards and other benefits.

What Are The Disadvantages of Fractional NFTs?

Fractionalized NFTs are as secure as the smart contracts they are built on, so it depends on the quality of the code. In some cases, however, a potential buyer or a part-owner of an NFT can trigger a buyout auction by sending the total amount of all fractionalized parts to the smart contract. 

If the other fraction holders outbid the person who triggered the auction, they can keep control of their share, but at a higher price. If the person successfully outbids the other fraction holders, their payment will be distributed to each owner according to the size of their holdings. While they still get paid for their share, this might cause you to sell your fraction even when you didn’t want to. 

Conclusion

Fractional NFTs may just be the next thing to watch out for as it continues to make the NFT world more accessible. So, if you've been eyeing a particular NFT collection but didn't want to commit because of the high price, Fractional NFTs are something you can explore. That being said, don't forget to DYOR before you invest in a digital asset.

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DISCLAIMER: NFTs are an emerging asset class that is still evolving. The information in this article should not be construed as investment or financial advice. Always do your own research before making any decision to buy, sell or trade NFTs.