Move over, cryptocurrency: the newest weird digital investment has entered the scene. Non-fungible tokens, called NFTs, are being bought and sold for millions.
An NFT is a digital file, often art, a meme, or even a video, which you can buy the rights to. Your ownership of this file is recorded in blockchain—the same technology that secures cryptocurrency. Some people say it’s like buying a painting, or maybe a special autographed copy of a painting, since the owner still retains the original. Others say it’s just another collectible craze—like the Beanie Baby bubble.
The Beanie Baby Bubble
For a brief moment in the early 90s, Beanie Baby collectors drove the price of certain “retired” plush toys through the roof. A stuffed animal that had sold for $5 might resell for $2,000, purely because certain models were scarce.
A few people made their fortunes on buying and reselling the toys. But before long, the excitement started to fade. Some people were left with houses full of Beanie Babies and no buyers in sight.
Similar bubbles can happen with any product. There have been bubbles on tulips, alpaca breeding stock, and of course housing. For a while, perceived scarcity leads to an impression of value. Then investors, seeing the price increase rapidly, go all-in on the item, driving the price up further.
After a while, though, everyone who is going to invest in the item already has, and the price stops increasing. Investors move on to something new, and the price bottoms out. If you aren’t among the very first to notice the change in the wind, you’ll lose everything.
How Is an NFT Like a Beanie Baby?
Imagine it’s the height of the Beanie Baby craze. You don’t have to have toy store contacts or mob McDonalds to get the latest beanie. Instead, you can just go online and buy an e-receipt for the Beanie Baby. It’s now “yours,” but they’ll never mail it to you. You can save storage space in your house and just collect receipts in the cloud.
The ease of obtaining NFTs, though, means you aren’t special. Many people are doing the exact same thing as you. That’s why the prices of some NFTs go up so fast. They can also drop quickly, if enough of the interested investors move on to something new.
As with cryptocurrency, you will often hear people plug NFTs on social media as a sure thing, boasting about how much money they’re making. But it’s important to remember this general rule: people who really have an inside tip that’s sure to make someone a fortune won’t give it to the entire internet for free. They’re trying to increase investor interest in a product they have, in order to drive up the price before they sell.
Are They a Sound Investment?
Any investment has two kinds of value: intrinsic value, and the value added by investor interest. Things with intrinsic value include houses, gasoline, shares of a profitable business—anything that is good to have, and not merely good to hold briefly and sell.
A Beanie Baby has a fairly low intrinsic value. It’s good to have, but could be replaced with a knockoff product. Still, if you can’t find a buyer, you can always just play with it.
That’s not the case with NFTs. They may have some slight sentimental value, but hardly anyone is buying them to keep them. They’re hoping to sell or trade them and get rich. This means that few of them are exiting the market as people choose to keep them instead of selling. And there is no buffer to slow the price decline if NFTs lose investor confidence.
Likewise, it’s hard to predict what the price of NFTs will do, since it isn’t pinned to any real-world events. We can predict that gas will stay valuable as long as people need to get around in gas-powered cars, and that real estate will increase in value in areas where a lot of people want to live. But since NFT prices are only affected by how many people want them, no one can tell you what will happen with them next. It could be you buy one today and the price skyrockets tomorrow. But the opposite is just as likely to happen.
The Takeaway
The same general wisdom applies here as with any high-risk investment. Always keep the majority of your money in low-risk investments like mutual funds, bonds, or exchange-traded funds. But, if you like the excitement, you can put small amounts of your money in wild investments that may or may not pay off. NFTs fit into this category.
Just talk to your financial advisor about what percentage of your portfolio you should use on high-risk investments. They can also point you to high-yield investments that are slightly more predictable, if you’re interested in growing your portfolio quickly and you don’t mind some risk. If you don’t have an advisor, we can connect you with the perfect one with a quick phone call.
