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October 26, 2022

Challenges and Risks Associated With Non-Fungible Tokens (NFT)

NFTs are unique digital asset on the blockchain, representing ownership of art, collectibles, and more. Discover more about NFT risks and...

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Table of Contents

Introduction

Non-fungible tokens, or NFTs, are distinct digital assets, vastly different from usual cryptocurrencies. NFTs represent unique assets, and therefore, they can not be exchanged for each other. This is why trading NFTs can be more of a challenge than usual crypto.

Similar to how traditional currencies may be exchanged for one another, cryptocurrencies can also be traded. With NFTs, the usual crypto paradigm is altered. However, because each token is distinct and unreplicable, making it impossible for two non-fungible tokens to be equal.

Applications for non-fungible tokens exist in a variety of fields, including music, domain names, visual arts, and real estate. Even if NFTs appear to have a bright future, it is still reasonable to consider any potential hazards. Let’s take a look into risks and challenges of NFTs in this post!

What are NFTs?

Cryptographic assets known as non-fungible tokens (NFTs) exist on a blockchain and can be identified from one another by unique characteristics and metadata. In contrast to cryptocurrencies, they cannot be purchased or exchanged for similar quantities. NFTs can be used to represent various physical assets such as artwork, precious metals, and real estate. With NFTs, even these tangible assets can be “tokenized”, increasing trading efficiency while reducing the danger of fraud.

In fact, NFTs can be used to represent a wide range of concepts, such as individual identities and property rights.

NFT Risk and Challenges

As a fairly new class of digital assets yet, non-fungible tokens (NFTs) raise the possibility of extreme challenges and risks inside the crypto ecosystem. Some of these risks and challenges of NFTs would be:

Legal and Regulatory Challenges

NFT has no recognized legal definition anywhere in the world. Different nations are forging forward with various classification schemes for NFT. This necessitates the creation of an international NFT organization to establish rules and legalize NFTs globally. The NFT market has seen a significant increase in recent years, which is all the more reason to establish a regulatory agency.

Finding the right terminology for NFT is still a problem for the laws that are now in place. As the market expands steadily, it is getting more challenging to establish a firm foundation for NFT compliance. The advancement of NFT technology has made it abundantly evident how crucial it is to take into account the related legal and regulatory challenges. The laws and regulations ought to be flexible enough to change as NFTs develop and find new applications.

Evaluation Challenges

The difficulty in estimating the NFT’s pricing is the market’s biggest obstacle. The innovation, uniqueness, and scarcity of the buyers and owners, the availability of distribution channels, and the valuation of any NFT will all be factors in determining the price of NFT. Because there is no set pricing for any certain type of NFT, there are significant price swings. The variables that could affect the price of NFT are unknown. As a result, price variations continue unabated, making it challenging to evaluate NFT.

Intellectual Property Rights

With NFTs, it’s crucial to make sure the seller is the real owner in order to successfully purchase an NFT. There have been cases of people fabricating fake NFTs or taking photos of real NFTs beforehand. Therefore, just the right to use an NFT is included when you buy one; all other intellectual property rights are not. The specifications for NFT ownership are made evident in the smart contract’s underlying metadata.

Cyber Security and Fraud Risks

There are significant cybersecurity and fraud threats as a result of the development of the digital world and the astounding increase in the popularity of NFTs. There are many instances where imitations of the original NFT stores have been posted online. The original logo and merchandise make these stores appear real. Because they might sell NFTs that aren’t even present in the digital world, these fraudulent NFT retailers pose a huge risk.

Another danger is when someone sells fraudulent NFTs while posing as a well-known NFT artist. Due to copyright theft, false airdrops, fake NFT freebies, and imitation of well-known NFTs, there is a very high danger of online fraud.

Smart Contract Risks and NFT Maintenance

The NFT market is currently dominated by the risk of smart contracts and NFT upkeep. Hackers can target a decentralized finance network in a number of different ways and steal a significant sum of cryptocurrency.

Consideration of NFT’s as Securities

Securities regulators have the authority to classify any digital asset, including non-fungible tokens (NFTs) as a “security.” But this raises the question of whether or not a potential buyer would be subject to securities laws just by purchasing and selling NFTs. The continual education NFTs are presently providing to the legal and fintech industries. Digital assets can now be linked to and integrated into new virtual worlds thanks to the industry-wide expansion into the metaverse, increasing the likelihood that they will eventually be used for commerce and might fall under these security rules.

AML and CFT Challenges

Banks and other financial institutions are having serious AML (Anti-Money Laundering) compliance problems as a result of inadequate mitigating methods. The IMF is particularly worried about the potential effects of money laundering and terrorism financing on the economies of its members. These comprise threats to the safety and soundness of financial institutions and financial systems, a rise in the volatility of global capital flows, and a reduction in foreign direct investment. Money launderers and terrorist financiers move their money to or via countries with weak or ineffective legal and institutional frameworks by taking advantage of gaps in national AML/CFT systems and other national disparities. This is a worldwide problem that applies to the global NFT sector as well.

Conclusion

It is best to comprehend all the risks and challenges of NFTs before you go investing into non-fungible tokens. By removing the dangers, this will even make it simpler for you to acquire and sell NFTs on the market. The overview of each risk and challenge and their effects can aid in identifying potential solutions.

For the creation and trading of NFTs, it is crucial to have a unified regulatory framework, focused standards, and secure platforms. It’s to be noted, however, that NFTs and cryptos in general continue to be a far economic system than the present centralized methods we have, despite the risk and challenges of NFTs.