Do white birds fly to the right or black birds fly to the left? Or is this just a chess board? The image of MC Escher was shared by Pedro Ribeiro Simões on License: Creative Commons

There is a new token standard on Ethereum: ERC-404. We explain what this new standard is all about, what potential and risks it presents and how it has been received on the market so far.

Anyone who stops will fall back. This is hardly true anywhere more than in the crypto market, and most of all in the Web3 area, where one innovation follows the next and everyone copies the other in real time.

There are actually two token standards on Ethereum that have proven successful: ERC-20 for fungible and ERC-721 for non-fungible tokens (NFTs). Actually, these two standards cover almost all use cases excellently, and there is actually no need for a new token standard.

However, one or two things could be improved about ERC-721 tokens. For example, liquidity: While ERC-20 tokens enjoy a massive deepening of liquidity through decentralized exchanges such as Uniswap, so that even small tokens can be traded smoothly, ERC-721 tokens can only be traded via auctions, although it quickly becomes apparent that the supposed value cannot be realized due to lack of liquidity.

There has also long been a desire to fractionalize NFTs. If a CryptoPunk or a Bored Ape is worth hundreds of thousands of dollars, it would be nice if you could invest in a portion of it, like one percent or one per thousand. Although there are protocols that fractionalize ERC721 tokens – for example into a million ERC20 tokens – none of them have been able to gain traction.

Happy Hour mit ERC-404

ERC-404 now promises to solve both problems by merging the two standards in a smart contract. An NFT token created with ERC-404 consists of a fungible and non-fungible part at the same time, i.e. a token and an NFT. If you transfer one, you also transfer the other.

An example: If you buy a fungible token on Uniswap, you not only get it, but also an NFT. When selling the NFT through an auction, the buyer also receives a fungible token. It’s happy hour!

However, the process is not entirely symmetrical: If you buy a whole (fungible) token through a decentralized exchange, the NFT underlying it is burned and you receive a freshly minted one. However, if the NFT is traded, it remains intact.

Since fractions of fungible tokens can also be traded on decentralized exchanges, NFTs are natively divisible according to the ERC-404 standard. However, the fungible tokens do not represent a share in a specific NFT, but only in the series. Only if you buy a whole token will you also receive the NFT.

Not yet a standard, but an experiment

ERC-404 is not yet a general standard, but rather just an experimental proposal that the creators of the Pandora token developed and implemented for their token. It does not yet exist as an EIP, i.e. as an Ethereum Improvement Proposal, and has therefore not yet been checked and approved by the Ethereum developers.

ERC-404 obviously has disadvantages. First of all, the asymmetry of the token is confusing. When you buy a fraction of a fungible token, you are purchasing a share of the average value of the NFTs; On the other hand, if you buy a whole token, you also get an NFT. This means that the price you receive for the fungible and non-fungible tokens is unlikely to be the same, even though essentially the same transaction occurs.

Furthermore, ERC-404 could allow you to “farm” NFTs by trading the tokens until you get rare NFTs. This could be particularly lucrative on rollups, where transaction costs are negligible. Is this a new business model – or a DoS attack?

The market is happy to accept it

Nonetheless, ERC-404 seems to have touched a nerve. The creators of ERC-404, the publishers of the Pandora token, launched the first dual token in early February. There are 10,000 Pandora tokens that run on the ERC-20 standard. They are associated with just as many replicant NFTs. When one buys or sells an entire Pandora token on Uniswap, the associated replican NFTs are burned and mined.

The Pandora token was well received. It only runs on Uniswap, but has achieved a trading volume there of around $200 million so far. The Pandora/ETH trading pair was the seventh most traded pair with a trading volume of $135 million over the past seven days. With a value of $17,500 per token, Pandora currently has a market capitalization of almost $180 million – not bad for an experimental standard and an NFT that is primarily intended to showcase this standard.

Fees are skyrocketing and an alternative presents itself

In the crypto world, once something works, it is inevitably followed by a flood of successors. This is also the case with Pandora’s ERC-404 token: Anime-404 wants to tokenize 5,000 animes via the new standard, EGGX-404 introduces the standard for the GameFi ecosystem, Gas-404 creates a proof-of-gas token and and and – There is already a barely manageable flood of ERC-404 projects that are live or in the starting blocks.

Because an ERC-404 transaction is about three times as expensive as a normal NFT transaction – it requires three times as much gas – the little hype was unpleasant for other users: gas prices exploded in the first weeks of February, and with them the average transaction costs. At 71 Gwei on February 9th, gas prices were still a long way from the extreme highs of 2021 and 2022, but reached their highest level since May 2023. In some cases, simple transactions already cost 18 euros, while more complex smart contracts were hardly affordable anymore.

In order to avoid such gas excesses, another development team has presented an alternative variant: DN-404. It does the same as ERC-20, but is said to use around 20 percent less gas by not combining fungible and non-fungible tokens in a single smart contract like ERC-404, but by connecting the two smart contracts with each other.


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