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20 April 22
Reading time: 7 minutes
It seems you can’t go on social media or read a blog (like this one!) without hearing about NFTs. But take a closer look: what are you really buying?
Non-fungible tokens. That means they’re unique and can’t be replicated, and that’s what gives them their perceived value. Well, that and the celebrity hype. They’re digital items like sports collectibles, art, land or even trees that users buy and sell online.
Most people believe that when they buy NFTs they are securing their own special treasure, but in reality, when you dig a bit deeper it could just be the map. Essentially a link to the so-called treasure!
What?! How do we know we’ve got the only map?
Like the real-world economy, NFTs mean we can now buy and sell, borrow and lend, and rent or own real or digital stuff. They can represent physical stuff like art, gold or a watch, or documents like tickets, certificates or contracts.
But note that word ‘represent’. NFTs are often not the thing itself – they are often just a link to it. This is why while we may be under the impression that we’ve got a treasure, it’s more like we’re left holding a map.
Much has been touted about the technology underlying the NFT system: the blockchain. Blockchains are a special type of database: shared public ledgers that record data and transactions transparently. They keep a record of who owns what.
But the actual asset the NFT represents – whether it’s a digital or real piece of art or property – is often not stored on the blockchain. It’s typically too big, and it would be far too expensive to be actually on the chain. This means it’s hosted somewhere else (often a centralised server).
Which is why when you buy an NFT, you may really only be getting the link to the item.
Overall, the virtual economy is a high-risk, largely unregulated space. You may not be buying what you think you are, and if you’re buying, be prepared to bid against bots.
Risks include ‘wash trading’, which is pumping up the NFT price and then dumping it, feeding misleading information to the market by buying and selling, and collusion.
The fact that many people believe they are buying the treasure, yet are only getting the map, can lead to either:
This is called ‘rug pulling’ (as in it getting pulled from under you). What’s to stop someone from creating NFTs, collecting the money, and simply walking away with it?
Not a whole lot.
This is the sort of thing that used to happen with shares too, which is why the sharemarket is highly regulated these days, and we have much more confidence in the way it’s run. The virtual economy, unfortunately, is not.
How much would you pay for 10,000 bored apes and 10,000 hip rabbits? Together these digital creations, or NFTs, have traded volumes of NZ$1.9 billion, according to OpenSea, the largest marketplace for NFTs.
Would you pay $24,000 for a link to a digital photo of a rabbit? How about $437,000 for an ape? People do.
Many things get called an ‘investment’, especially when people justify their spending choices.
Some hope to get rich by creating or buying an NFT and watching it rocket in value. Of course, for this to happen, there needs to be enough other people to see the value and buy in at a higher price later on.
And they don’t always. To give an idea, nonfungible.com reports that the losses from reselling NFTs last year were up 33%, losses totalling $667 million. Evidently someone’s losing money.
But at the same time, profits from reselling NFTs were up 45% last year to $5.4 billion. Auckland-based Fluf, the maker of those digital rabbits, for example, made $200 million in their first six months.
Which is probably one reason why NFTs are all the rage – people are making money on NFTs. But at the same time, more are losing as well.
An asset worth owning is not just anything you can sell; investing in assets needs to grow our money for the future.
With NFTs, it can be tough to tell if any of it is an asset that will grow in value. Predicting the future value of NFTs is extremely difficult. If you buy a digital avatar today, will it be worth more tomorrow?
The virtual economy is being flooded by NFTs in the hope that they will sell, but many potential assets end up being liabilities – they drain your pocket (like most things we buy and consume each day). There may be a whole lot more to spend money on, but it may all just be a way for our money to become someone else’s.
If you’re taking a punt on NFTs in the hope that someone else will pay more for them in the future, you’re really not investing – you’re speculating, which is more like guessing, gaming or gambling.
So you want to only put in money you are prepared to play and lose.
Getting your money out of your virtual asset, like any asset, depends on other people being ready to buy. So even if what you own has rocketed in value, it may be difficult to find a buyer to offload it.
Even the most well-known NFTs in the world may not be easily sold or turned back into cash (which is what liquidity is about). It’s not a given, for example, that the Beeple NFT that sold for $69 million last year could be sold to another person for anything near the same amount today. You may own an NFT, but you may not be able to sell it at a price you want, let alone for anything. This effectively locks up your wealth.
Most NFTs are bought using cryptocurrency. Another thing that can happen is the value of your NFT may increase, but the value of the cryptocurrency can tank at the same time. It’s a lot to wrap your head around.
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