Mitigating Risks of NFT Investments: A Practical Guide

Daisie Team -

Contents

1. Get Acquainted with NFTs

2. Evaluate the NFT Market

3. Research NFT Artists and Creators

4. Analyze NFT Value

6. Prepare for NFT Investment

Navigating the exciting world of NFTs can be a thrilling adventure. But like any other investment, it comes with its share of challenges and risks. This blog serves as a practical guide to mitigate the risks of NFTs, helping you make informed decisions while exploring the fascinating universe of non-fungible tokens.

1. Get Acquainted with NFTs

Before diving into the sea of NFT investments, it's important to understand what NFTs are, the various types available, and how they function. Let's start our journey by understanding these concepts.

What are NFTs?

NFTs, or Non-Fungible Tokens, are unique digital assets that represent ownership of a specific item or piece of content, housed on a blockchain—the same technology that underpins cryptocurrencies like Bitcoin and Ethereum. Unlike cryptocurrencies, NFTs are unique: you can't exchange one for another like you could with, say, a dollar bill. This uniqueness is what creates value and, in turn, some of the risks of NFTs.

Types of NFTs

There are various types of NFTs, each with its own unique attributes and uses. Here are a few examples:

  1. Art: Digital art is the most popular type of NFT. Artists can tokenize their work, providing proof of ownership to buyers.
  2. Collectibles: Think of digital baseball cards or the virtual pets known as CryptoKitties. These digital collectibles can be bought, sold, and traded like physical items.
  3. Virtual Real Estate: Platforms like Decentraland allow users to buy, sell, and trade virtual properties.
  4. Music: Musicians can tokenize their songs, albums, or even concert tickets.

How Do NFTs Work?

At their core, NFTs are built on smart contracts—self-executing contracts with the terms of the agreement directly written into lines of code. When you buy an NFT, you gain the ownership rights to that unique piece of data on the blockchain. Your ownership is then recorded on the blockchain for everyone to see and verify, making forgery almost impossible. But this transparency also brings risks of NFTs, especially around privacy and valuation.

2. Evaluate the NFT Market

Next, let's examine the marketplace. Understanding the market trends, identifying leading platforms, and recognizing potential challenges are vital steps in managing the risks of NFTs.

As an emerging market, NFTs have shown explosive growth and significant volatility. For instance, the NFT market saw a massive surge in early 2021, with millions of dollars' worth of transactions taking place. However, this rapid growth has also led to increased volatility and a higher risk of price bubbles. Staying informed about these trends can help you navigate the risks of NFTs.

Leading NFT Platforms

There are several NFT platforms that are recognized for their reliability and user base. These include OpenSea, Rarible, and NBA Top Shot, among others. Each platform has its unique strengths and weaknesses. For instance, OpenSea offers a wide variety of NFTs, while NBA Top Shot specializes in sports collectibles. Understanding these differences can help you find the best platform for your investment needs.

NFT Market Challenges

Despite its potential, the NFT market is not without its challenges. Scalability issues, high transaction fees, and regulatory uncertainty are just a few of the obstacles facing the NFT market. Plus, as the market matures, it's likely that we'll see more sophisticated scams and frauds, adding to the risks of NFTs. These challenges highlight the importance of staying informed and vigilant in your investment journey.

3. Research NFT Artists and Creators

Now that you've got a grasp on the market, it's time to zoom in on the creators themselves. After all, an NFT's value is intrinsically linked to the artist or creator behind it. Let's dive in and explore this aspect of mitigating risks of NFTs.

Prominent NFT Artists

There are several high-profile artists in the NFT space that have achieved significant success. These include creators like Beeple, whose artwork sold for a whopping $69 million, and CryptoPunk, known for their iconic 10,000 pixelated characters. However, popularity doesn't always equate to a safe investment. Remember, the value of an NFT can fluctuate wildly, and even prominent artists aren't immune to this.

Emerging NFT Creators

On the flip side, investing in emerging NFT creators can present a high-risk, high-reward scenario. These artists may not have the same level of fame as the likes of Beeple, but they offer fresh, unique perspectives that could potentially revolutionize the NFT scene. Keeping an eye on these up-and-comers can be a smart strategy, but remember to do your homework before making any investment decisions.

NFT Creator Integrity

Finally, it's important to consider the integrity of the NFT creators you invest in. Are they known for their artistic skills, or are they simply jumping on the NFT bandwagon? Have there been any controversies or legal issues associated with them? Taking the time to investigate these factors can help you avoid potential pitfalls and reduce the risks of NFTs.

4. Analyze NFT Value

So, you've got your eyes set on an NFT, and the creator checks out. What next? It's time to roll up your sleeves and dive into the nitty-gritty — understanding the value of the NFT in question. Here's how you can navigate this crucial step in mitigating risks of NFTs.

Determining NFT Worth

The worth of an NFT isn't just about its current price tag. It's also about the perceived value of the NFT in the market. This can be influenced by a variety of factors, such as the artist's reputation, the uniqueness of the work, and the current trends in the NFT space. To determine the worth of an NFT, you'll need to conduct a thorough analysis of these factors. But remember, the value of an NFT is highly subjective and can change rapidly.

NFT Price Fluctuations

NFTs are notorious for their price volatility. One day, an NFT could be selling for thousands of dollars; the next, it could be worth just a fraction of that. This price volatility is one of the key risks of NFTs. To mitigate this risk, you should keep a close watch on market trends and be prepared to act quickly if necessary.

NFT Rarity and Uniqueness

One of the most appealing aspects of NFTs is their uniqueness. Each NFT is one-of-a-kind, and this rarity can significantly drive up its value. For instance, CryptoPunk #7804, one of the only 10,000 unique CryptoPunk characters, sold for a staggering $7.6 million due to its unique attributes. But remember: rarity alone doesn't guarantee value. It's crucial to consider other factors, like the overall demand for such NFTs and the reputation of the creator.

Legal matters might not be the most exciting part of investing in NFTs, but they're undeniably important. When you're dealing with digital assets like NFTs, it's essential to understand the rules of the game. This is a step you shouldn't skip if you want to dodge the risks of NFTs. Let's break it down.

NFT Ownership Rights

When you buy an NFT, you're buying a digital token that represents ownership of a unique item or piece of content. However, owning an NFT doesn't necessarily mean you own the copyright to the digital asset associated with it. For instance, if you buy an NFT of a digital artwork, you own that particular copy, but not the rights to reproduce or distribute the artwork. Be sure to understand what you're really getting before you make a purchase.

Intellectual Property and NFTs

Intellectual property rights are a complex issue in the world of NFTs. Just because an NFT is for sale doesn't mean the person selling it has the rights to do so. There have been cases of artists discovering their work being sold as NFTs without their permission. So, before you invest, ensure that the NFT creator has the legal right to sell the digital asset.

NFT and Taxation

Like any other investment, NFT transactions can have tax implications. In many jurisdictions, profits from selling NFTs are considered taxable income. It's important to check the tax regulations in your country to understand your obligations. Ignoring this aspect can lead to unexpected financial risks down the line. In the U.S., for instance, the Internal Revenue Service (IRS) treats NFTs as property, meaning capital gains tax applies.

6. Prepare for NFT Investment

Now that you're well-versed with the risks of NFTs and legal aspects, it's time to gear up and prepare for your maiden NFT investment journey. Let's explore some key steps that can help you navigate these waters with confidence.

Setting an Investment Budget

First things first, decide on a budget. Like any other form of investment, it's important not to let your emotions get the best of you. Set aside an amount you're comfortable with potentially losing because, let's face it, investments come with no guarantees. This way, you'll be able to participate in the NFT market without risking your financial stability.

Diversifying Your NFT Portfolio

Ever heard the saying, "Don't put all your eggs in one basket"? It applies to NFTs too. Diversifying your NFT portfolio can be an effective strategy to mitigate risks. Instead of spending your entire budget on one NFT, consider buying several from different categories. This could mean investing in a mix of digital art, virtual real estate, and collectibles. This way, if one NFT doesn't perform well, you may still have success with another.

Secure Your NFT Assets

Last but not least, security is paramount in the digital assets space. NFTs are typically stored in digital wallets. It's important to choose a reliable one, like MetaMask or Trust Wallet, and follow best practices for security. This includes not sharing your private keys with anyone, using secure internet connections, and regularly updating your wallet software. Remember, the digital world is full of hackers and scammers, so always stay vigilant to keep your precious NFTs safe.

If you want to dig deeper into the world of NFT investments and learn how to minimize risks, consider joining Tom Glendinning's workshop titled 'Sell Your Creations As NFTs'. This workshop will not only help you understand the dynamics of the NFT market but also guide you in safely and effectively selling your creative works as NFTs.