Non-fungible tokens (NFTs) have become one of the largest use cases of blockchains. From funding artists to buying digital land, there are vast applications for the sector. However, NFT markets have historically had some problems with their inherent market structure. Since each NFT is unique, many marketplaces have been designed such that only one account may own a givenNFT at any one time. As a result, the price of an NFT is discovered via auction, and since auctions can be infrequent, price discovery is inherently difficult. Furthermore, some NFTs have high prices which make them inaccessible to individuals trading small amounts of money in crypto.

Waterfall solves these problems by creating a financial derivative on top of NFTs in a novel way that has deterministic prices. This allows for both easier price discovery and more access to retail traders.

How does Waterfall work?

Waterfall is an NFT marketplace where NFTs are split into “chips,” ERC 1155 tokens that represent some prediction on an NFT’s future valuation, and the number of such chips is first selected by the NFT’s seller. The protocol requires that every chip is listed at all times, so anyone can buy a chip by matching the price to submit a future price prediction. Then, the price of the NFT is the sum of all chips’ listings – someone can acquire the entire NFT at the price at any time.

Chip traders predict the price of a listed NFT when purchasing chips to aid in price discovery. Since every chip must be listed at all times, they specify a predict price (prediction of the future value by some date), and an expiration date (date the prediction lasts until) when purchasing. The protocol will then immediately relist the purchased chips at the predict price until the expiration date.

If a chip has not sold by its expiration date, a Dutch auction is started where the price decreases linearly until someone buys the chip, over a length of time given by the NFT’s seller.

Notice that for this mechanism to be valid, the prices of both the chips and the NFT must be at some price buyers are willing to match. But someone might predict unreasonably high prices for their chips, which essentially freezes the chips until the expiration date. Therefore, a percentage fee is imposed when listing chips to discourage unreasonably high prices.

Closing Thoughts

Waterfall recently raised a $4 million seed round led by Electric Capital and Pantera. The protocol has also completed its private testnet release to select users and will be opening up to more users in 2023. We’re proud to partner with the Waterfall team as they create new NFT financialization mechanisms to decrease the barrier to entry for NFT ownership and drive the digital industry forward.

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