Fractional NFTs (F-NFT): What They Are And How They Work

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While traditional NFTs have been popular for some time, fractional NFTs (F-NFTs) are now emerging as a new way to invest in NFTs. 

In this blog, we will explore what F-NFTs are, how they work, and their pros and cons. By the end of it, you’ll learn everything you need to know to decide if you should be interested in this new NFT investment approach.

What Are Fractional NFTs?

Fractional NFTs are a way to divide ownership of an NFT into smaller, more affordable units. By breaking an NFT into smaller units, you can buy a fraction of the NFT and still gain exposure to the asset without having to purchase the entire NFT.

How F-NFTs Differ From Traditional NFTs?

The main difference between traditional NFTs and F-NFTs is that fractional NFTs can be owned by multiple people. The concept is similar to real estate investment trusts (REITs) that enable investors to own a fraction of a high-value property.

NFTs are generally created on the Ethereum Blockchain using the ERC-721 or ERC-1155 token standard. On the other hand, ERC-20 token standard are used to create fungible tokens that are interchangeable.

To create F-NFTs, smart contracts are used to generate ERC-20 tokens linked to an ERC-721 standard NFT. The number of ERC-20 tokens held by an owner is directly related to their ownership percentage in the NFT.

The Role Of Smart Contracts In Fractional NFTs

Smart contracts are self-executing contracts that facilitate transactions between parties. In the case of F-NFTs, smart contracts enable NFT fractionalization by dividing the ERC-721 non-fungible asset into smaller fungible units (ERC-20 tokens). 

These smart contracts can also be used to manage ownership rights and distribute profits to investors based on their fractional NFT ownership.

This reduces the need for intermediaries. It also ensures transparency and security by recording transactions on a blockchain. 

Use Cases Of Fractional NFTs

Fractional NFTs have various use cases for collectors, investors, and artists including:

Diversification Of Investment

Fractional NFTs provide investors with a way to diversify their investment portfolios. By purchasing fractions of different NFTs, you can spread the risk across multiple assets and gain exposure to a wider range of markets.

Ability To Own High-Value Assets

F-NFTs enable fractional ownership of high-value assets, such as rare artwork, luxury goods, or expensive collectibles. You can enjoy the assets without having to pay a hefty sum to own them.

NFT Collectibles And Memorabilia

NFTs have been used for collectible items and memorabilia, such as sports memorabilia, movie props, or historical artefacts. Fans and collectors can own a piece of history or their favourite sports team without having to purchase the entire item.

Monetization For Artist And Content Creators

F-NFTs make it easier for artists and content creators to sell their digital content, such as music, videos, or artwork in the form of NFTs. This enables creators to monetize their content by selling fractions of their NFTs to multiple investors.

Real Estate

Fractional NFT has also found its way into real estate, enabling investors to purchase fractions of high-value, real-world properties. This can provide investors with access to real estate markets that were previously inaccessible due to high entry barriers.

Benefits Of Fractional NFTs

• More Investment Opportunities: F-NFTs provide investors with access to a wider range of markets and investment opportunities, enabling them to diversify their portfolios.
• Determining The Right Price: It is hard to find out the actual price of an NFT without any transaction history. More people can trade fractional NFTs due to their lower price, which makes it easier to estimate the NFT’s real value.
• Reduced Risk: Fractional ownership of an NFT reduces the risk associated with owning the entire asset. If the value of the NFT decreases, the impact on the investor's portfolio will be smaller.
• Improved Liquidity: Fractionalizing NFTs makes them more affordable. This can increase liquidity by making it easier for investors to buy and sell fractions of the NFT.

Challenges Of Fractional NFTs 

Like any other thing in the world, F-NFTs do not come without their own challenges. Here are the two most significant risks to consider while owning a fractional NFT.

Reconstitution

When a fractional NFT is created, the NFT is divided into smaller pieces, and each piece is owned by a different investor. 

If one investor wants to sell their entire ownership stake in the NFT, the NFT fractions need to be reconstituted back into a single NFT so that it can be sold as a whole. This is due to the fact that the fractions alone may not be able to solve the NFT’s intended purpose. 

The only way is to buy back the fractions from their owners which can become an issue if the fractional owners do not agree to sell the NFT.

Buyout Auctions

Many F-NFTs have smart contracts that can be triggered by one of the fraction holders or a potential buyer to reconstitute NFTs via buyout auctions. While this is a possible solution to reconstitution, the downside is you can lose your fraction of the NFT even when you don’t want to sell it.

For example, Let's say there's a rare piece of digital artwork that is represented by a fractional NFT, with 5 different investors owning 20% of the NFT each. One of the investors wants to sell their entire ownership stake in the NFT and transfers the needed ERC-20 tokens into the smart contract. 

So, the smart contract triggers the buyout auction as the F-NFTs need to be reconstituted back into a single NFT.

To keep the fractions, the other four fractional owners need to outbid the potential buyer. This means you have to pay a higher price to keep the same fraction of the NFT.

In case, the buyer wins, all the fractions are automatically reconstituted into a single ownership of the buyer. The other owners are paid a certain percentage of the sale price depending on their holding size.

Conclusion

Fractional NFTs are an innovative way to invest in non-fungible tokens, making traditional NFTs more affordable for investors. Investors can gain exposure to high-value assets and diversify their portfolios across a wider range of markets. On the other hand, creators can monetize their NFTs better as F-NFT opens the door to more buyers.

FAQs

1. What is a fractional NFT?

A fractional NFT represents a portion of a traditional ERC-721 NFT, enabling multiple investors to own and trade small pieces of a single NFT.

2. How do fractional NFTs work?

Fractional NFTs work by using smart contracts to divide a single non-fungible token (NFT) into smaller fungible parts in the form of ERC-20 tokens, allowing multiple investors to purchase and trade fractional ownership stakes in the asset.

3. What’s the Difference Between F-NFTs and Traditional NFTs?

The main difference between F-NFTs and traditional NFTs is that F-NFTs are the fractional parts of a single non-fungible token, whereas traditional NFTs represent a single, indivisible asset (ERC-721 token standard).

4. Why Are Fractional NFTs Necessary?

Fractional NFTs enable more people to invest in NFTs by making these assets more accessible and liquid. F-NFTs also allow investors to diversify their portfolios, by investing in multiple high-value NFTs with smaller amounts of capital.

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