Risks and Returns of NFTs, Is an NFT a Good Investment?


As NFTs gain popularity, it's worth considering the risks and challenges that come with them.

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What are NFTs and how do they work?


NFTs, or nonfungible tokens, are digital assets that can represent anything from art to music to videos. NFTs can be used to buy and sell digital artwork, but they can also be used to represent physical assets. An NFT essentially proves the authenticity of the digital (or real-world) asset it represents.


What is the significance of demonstrating originality? Because anything in the digital world can be copied and there is no limit to the number of times it can be done. However, as with anything in the metaphysical world, there is only one original—even for digital assets.


"Starry Night" by Vincent van Gogh, for example, has probably gone through millions of iterations by now. The famous artwork can be found on mugs, art prints, magazines, digital art, and other items. Even so, there is only one original painting in the entire world. It's the one van Gogh painted in France in 1889, and it's currently on display at New York's Museum of Modern Art.


Despite its many copies and the billions more that will most likely be made in the future, van Gogh's original artwork will always be the most valuable. Similarly, NFTs add value to assets by demonstrating their uniqueness in a sea of copies.


This article will go over how to invest in NFTs as well as the various risks and rewa rds.


How are NFTs purchased and sold?


NFTs are frequently purchased and sold online, often with cryptocurrency, and they are generally programmed with the same underlying software as many cryptos. Despite their long history, NFTs are becoming increasingly popular as a means of acquiring and trading artworks. According to Reuters, NFT sales will surpass $25 billion by 2021 and show no signs of slowing down anytime soon.


People who are unfamiliar with NFTs may wonder what the big deal is, especially for digital artworks that can be viewed, screenshotted, and downloaded online. "EVERYDAYS: The First 5000 Days" by Beeple, for example, was sold at Christie's for $69.3 million but is also available online for free.


Collectors value the very proof of owning the original items in addition to purchasing NFT art as an investment. In layman's terms, the digital "bragging rights" provided by NFTs' built-in authentication are extremely valuable, particularly among collectors.


NFTs are not only used for artwork. Gamers and collectors can now become the permanent owners of in-game objects and other unique assets, as well as profit from them.


In virtual worlds such as The Sandbox and Decentraland, players can also create and profit from structures such as casinos and theme parks. They can also sell digital items acquired during gameplay, such as avatars, costumes, and in-game currency, on the secondary market.


How to invest in NFTs


You may be wondering how to invest in NFTs now that you have a better understanding of what they are. Purchasing NFTs is not as simple as purchasing Ether (ETH), the native cryptocurrency of the Ethereum blockchain. Furthermore, NFTs are not available on cryptocurrency exchanges, so you'll have to look elsewhere.


Here is a step-by-step guide to obtaining these digital tokens:

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Another thing to keep in mind when buying NFTs is the gas fees. If you've never done business in Ether before, you should be aware that there is an additional gas fee, which is the money paid to complete the transaction. If gas prices are high, you may want to hold off on purchasing NFTs because some buyers have ended up paying more in gas fees than they did for the NFT.


If you don't want to buy NFTs yourself, you can invest in them through a venture capital fund that invests in NFTs and crypto infrastructure. However, in order to go the VC route, you must first be an accredited investor.


If you do not have accreditation, there are other options to consider, such as purchasing an NFT-focused exchange-traded fund, such as the Defiance Digital Revolution ETF, which invests in NFT stocks, blockchain, and cryptocurrency.


Read our guide on how to buy and sell nonfungible tokens for more information.


What are the advantages of NFTs?


Authenticity


The benefits of non-fungible tokens are dependent on their uniqueness. Because each token is unique, it is impossible to create a counterfeit NFT, as previously stated. Because NFTs are created on the blockchain, they each have a unique record.


This provides buyers with peace of mind because they know they're getting the genuine article and not a forgery. NFT creators can decide to issue a limited number of NFTs, making supply scarce and thus increasing the value of the NFTs.


Ownership


The primary benefit of nonfungible tokens is proof of ownership. Because NFTs are stored on a blockchain, they can be used to track ownership through a single account. They are also indivisible, so they cannot be divided among different owners. Simultaneously, the ownership advantage of NFTs ensures that buyers never have to worry about counterfeit NFTs.


Critics argue that anyone can simply photograph NFTs and sell or give them away. While it is possible to have an image of an NFT, this does not imply ownership of the original asset. For example, simply downloading a photograph of a Monet from the internet does not entitle you to ownership of the work.


Content ownership


One of the most significant advantages of NFTs is that they provide content creators with complete ownership of their creations. Traditional publishing models frequently cause problems for content creators by monopolizing profits and earning potential.


For example, digital artists who publish their content on these platforms earn money from advertisements displayed to the artists' fans. This money, however, does not all go to the artist. Instead, a portion of it is directed to the platform. Occasionally, the platform receives a larger portion, if not all, of the profit.


NFTs can assist content creators in avoiding the need to transfer content ownership to platforms where their content is published. Content ownership is directly integrated into the content itself via NFTs. When creators sell their work, the profits go directly to them. If a new owner sells the NFT, royalties may be paid to the owner if smart contracts were set up for this purpose.


Transferability


NFTs can also be easily transferred. NFTs are simple to trade on certain markets that offer a variety of trading options. This makes it extremely simple for buyers and sellers to move NFTs without fear of losing or having them stolen.


In-game items, for example, may be issued as NFTs by game developers and stored in players' digital wallets. The game goods can then be used outside of the game or sold for a profit. Because smart contracts are the foundation of NFTs, they facilitate ownership transfers. When certain conditions, as specified in smart contracts, are met, ownership transfers can be completed between buyer and seller.


What are the risks of NFTs?


The risks associated with NFTs are discussed in the sections that follow.


Smart contract risks


In certain scenarios, hackers can attack a DeFi network and steal large amounts of cryptocurrency by exploiting flaws in smart contracts. A recent Poly Network hack is an example, in which $600 million in NFTs were stolen. The main reason for the hack was that the smart contract security was lax, allowing attackers to gain access.


The large-scale attack on a prominent DeFi network, such as Poly Network, demonstrates that smart contracts can expose networks to attacks if the code contains flaws.


Evaluation challenges


Evaluation is one of the most difficult challenges in the NFT market. There is still a lot of uncertainty surrounding NFT price determination because there are no standards in place. While the price of NFTs is largely determined by factors such as uniqueness, creativity, and scarcity, prices tend to fluctuate significantly.


Price volatility persists because it is difficult to pinpoint the factors that influence NFT prices. As a result, NFT evaluation remains a significant challenge.


Legal challenges


There are currently no legal definitions of NFT in any country. This is due to the fact that there is still no international organization in charge of enforcing NFT regulations globally.


The need for a regulatory body is becoming more apparent as the interest in NFTs grows. NFT applications have also evolved significantly. In such a case, a regulatory framework with well-defined rules and regulations is required.


Cyber threats 


As the NFT market has grown in popularity, so have the number of cyber attacks on it. In some cases, online replicas of entire NFT stores are set up to entice unsuspecting buyers.


Fake NFT stores impersonate real ones by mimicking their content, logos, and branding. The only difference is that they are selling NFTs, which are technically non-existent in the real world and on the internet.


Malicious actors may also impersonate well-known NFT artists and sell their works as the work of the well-known NFT artist. Due to issues such as fake NFT giveaways, copyright theft, fake stores, and NFT artist impersonation, online fraud remains a risk in the NFT market.


Intellectual property rights


When buyers are confident that they are purchasing from a legitimate source, NFT ownership is advantageous. Purchasing NFTs from less reputable markets and buyers, on the other hand, puts buyers at risk of purchasing replicas masquerading as originals. Buyers must therefore exercise caution and conduct due diligence in determining whether the seller owns the NFT they are purchasing.


When a buyer buys a replica of an NFT, they only get the right to use the NFT, not the intellectual property rights to it. This is still a weakness in NFT trading because decentralized blockchain technology has no intellectual property rights (copyright, trademark, moral rights, etc.).


Challenge of considering NFTs as securities


According to the Securities and Exchange Commission, the majority of the market's NFTs are currently traded as securities. As a result, many buyers are considering purchasing NFTs as securities.


Buyers who consider NFTs as securities face risk because not all NFTs are securities. Technically, in order for NFTs to be eligible as securities, they must first pass the Howey test for securities.


The classification of an NFT as a security is determined by the facts of the case. It is not a security if an NFT represents ownership of an artwork, game collectible, or similar item. An NFT, on the other hand, can be considered an investment contract if it is promoted as a speculative investment with the potential to increase in value over time.


Are NFTs a good investment?


This is an open question because the value of NFTs is highly dependent on the specific use case. NFTs can be used to represent ownership of an artwork or a game collectible, which are both good investment cases. Aside from that, it's difficult to make a broad statement about whether or not NFTs are good investments.


The regulatory uncertainty surrounding NFTs is a significant impediment to mass adoption. Because there is no regulation, buyers and sellers have no rules to follow when conducting transactions, making it difficult to assess and mitigate risks when buying or selling NFTs.


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