All you need to know about using NFTs as loan collateral — A basic overview

The real world collateral scenario is imperative for understanding NFTs as loan collateral. Most art loans in the real world consist of revolving credit lines secured by art works. Many techniques are used to address the art world’s perennial concerns. From authentication to changes in market value, a first-priority security interest in the artwork is the danger of theft or loss.

Consequently, borrowers under these credit facilities often have prominent identities and are generally wealthy. Therefore, default risk has been historically low for these credit facilities. Institutional lenders will need to adapt and develop various real-world credit assessment methods before they feel comfortable making NFT-secured loans. Taking that perspective into account, let’s look at using NFTs as loan collateral. But how important are NFT debt makers? Let’s address that first.

Why do we need NFT debt markets?

In recent years, non-fungible tokens have risen in price across many different collections, catapulting them back into the public’s awareness. NFT sales have increased from $0.3 billion to $2.5 billion August 2021. The market size of NFT collectibles, old and new, has increased by nearly a factor of ten. A 12-year-old boy in London created pixelated whale artwork and sold it for hundreds of thousands of dollars.

Technological advancement continues apace. More and more of our lives are being shaped by our digital world. As a result, the metaverse, a concept reserved for science fiction, is starting to become a reality. Investors and futurists define the metaverse differently, but the underlying concept remains the same. Metaverses refer to highly connected lives. As virtual reality develops, the internet becomes more accessible worldwide, and blockchain is widely adopted, the metaverse is sure to take a new shape soon. In light of this, NFT projects are already heading toward this goal.

However, in the NFT ecosystem, debt markets are a major missing component. There is a need to provide a platform where people can get loans and leases from their NFTs. Most NFT users don’t use the assets in their wallets except when playing specific games or interacting on specific platforms. The cards sit around in a wallet when they’re not in use, just collecting dust. In an ideal world, a marketplace in which users could use their assets as loan collateral or lease their assets to other users could be an incredible opportunity.

NFT Collateralized Loans: How Would They Work?

You will need to find someone who will accept your NFT in exchange for money, just like you would when using physical artifacts as collateral, such as paintings. You have two choices here. Defi lending service or a CeFi service. It may be best to find a CeFi provider since NFTs are unique and distinct. It might be more helpful for another human to evaluate them vs. a computerized system that might not understand their value beyond certain parameters.

Even though NFTs are automatically generated, they cannot be evaluated by a standalone program. The Hashmasks project is an excellent example of this. A collection of over 70 artists, Hashmasks, is a living digital art collectible. The work comprises 16,384 digital portraits. Each NFT is created by a code. But some NFTs display unique properties that the program cannot predict. Those elements are designed exclusively for human appreciation. A program cannot comprehend its value or worth.

In such cases, NFT can seek a human-based lending platform through CeFi. Beauty and value are subjective when it comes to art. In contrast to cryptocurrencies, their worth is not deterministic. But what is the basis for this valuation?

NFT valuation for Loans

NFT valuation changes constantly. That’s because NFTs have different prices, and people are inclined to pay different amounts for the same thing. It is a complicated issue. To arrive at a reasonable price, both the lender and borrower would need to have a dialogue. It may take some time to find a lender who understands the piece’s worth, which follows some trial and error. Finding the real value may require some digging.

NFTs can increase in value, which is a factor to consider. As the market matures and expands, an NFT developed by an early adopter may skyrocket in price. If the value increases during the loan term, what should you do? Talk to your lender about it beforehand, as some lenders may ask for a higher repayment amount. If NFT valuation is calculated using an algorithm, such as the NEAR protocol, then it is vital to lay out the terms in advance. You need a fair price estimation that helps to identify the actual NFTs asset values. Price Estimation from bitsCrunch could be your best go-to solution. Digital Assets (NFTs) are estimated using artificial intelligence (AI) to enable users to embrace and price their assets in real-time.

Collateralized Loan Market for NFTs: A Solution to NFT Valuation

To determine the fair value of NFTs, a collateralized loan marketplace would be extremely effective. Users could post NFTs as collateral, and credit providers could bid on the amount they are willing to lend. Further, the marketplace could also allow users to choose between DAI and ETH as payment. Let’s help you understand with an example.

For instance, if CryptoKitties is seeking loan offers in this market, an offer will be designed based on the general market for CryptoKitties, the last selling price (20 ETH or USD 5,500), its comparative value, and its specific characteristics. After this verification and research, lenders might be interested in lending 5 ETH over three months. Nonetheless, market experts may be aware of this fact and offer 10 ETH for a 3-month loan, depending on the worth of CryptoKitties. Comparing multiple offers and valuations makes the decision fairer.

Having said that, consider the following points before using NFTs as loan collateral.

Final verdict — Collateralizing, No different than Physical Artwork

As long as humans have been making art, sculptures, paintings, books, and other art forms have served as collateral. It is no different with NFTs, now. Although it is more technologically advanced, the operation is similar to pawnbrokers. In the coming years, more lenders will accept NFTs as collateral as the NFT market grows. For those who work with a crypto lending service such as CeFi, it may make sense to inquire about using a NFT as loan collateral.

The introduction of DeFi applications in the NFT space will result in a massive increase in market activity and usability. By using NFT loans and leasing marketplaces, users can receive passive income, and in addition, and value their assets more accurately. Currently, NFTs are in the Friendster era, but we can move closer to the MySpace era by modifying existing crypto market for use in NFTs. We will finally enter the Facebook era once NFTs have millions of users, highly liquid and robust markets, and seamless user experiences. While that needs some time and trust, it doesn’t seem far either. To advance the NFT ecosystem, we need to continue building and adopting traditional crypto ecosystem use-cases.

For that, you might need a lighthouse to sail right. Just like bitsCrunch, the guardians of the NFT ecosystem. With a cross-functional team of experts backed by the leading names in the industry, we provide AI-enabled security services that protect the ecosystem’s integrity. Our products can flag forgeries, give a fair price estimation of NFTs, and catch spoofing transactions. Get in touch with us and solve your NFT hiccups.

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