Words of wisdom from our business insurance experts.
Most of us know how big NFTs become in the past couple of years, with private equity dumping millions into the industry and a record breaking number of companies starting. The poster child, Bored Apes, received $450 million in 2022 and was valued at over $4 billion dollars (they started their business in 2021).
Even though NFT projects trace back to 2014, they have become a popular way for people to buy and sell digital art in the past couple of years. Some say they are the future, others beg to differ.
Non-fungible tokens, or NFTs, as everyone knows them, can represent any real-world object like art, gifs, music, voice clips, in-game items, etc. NFTs are sold and bought using crypto and have unique metadata tied to blockchain technology.
The market for NFTs and other digital art collectibles is close to reaching or even surpassing the traditional art market. Some numbers have shown that in 2021 alone, the marketplace for digital arts reached a $41 billion value. That number could have gone higher if other cryptocurrencies besides Ethereum were used.
Before we highlight how and what type of digital art insurance you should get, we need to expand more on how NFTs work and how they can be bought, stored, and later sold.
How do NFTs Work?
The fungibility of these digital art pieces is the keyword and prominent feature that makes NFTs special. If we talk about cryptocurrencies or dollar bills, for example, two people can exchange 1 bitcoin or 1 dollar amongst themselves, and no one wins or losses.
However, while NFTs can be exchanged, sold, and bought, every one of them has unique traits and has different values. There are two essential features of NFTs such as endurance and trackability.
NFTs Cannot Be Destroyed
Thanks to data stored on the blockchain, every digital art or token can’t be destroyed, replaced, or obliterated. Also, the buyers of the NFT can claim ownership at any time, and once the company that has made the digital art sells it, it is no longer theirs. This is the opposite of purchasing a song or music album on Spotify because you don’t own the song or album you buy; you only own the license to listen to the song or album.
NFTs Are Traceable
The other key feature is that any NFT can be traced back to the original owner through the stored data on the blockchain. This makes authenticating pieces much more accessible and fast without involving third parties. One of the perks of using NFTs is its traceability - a trait that can come in handy in the case of theft.
How to Buy and Sell NFTs?
Many things need to be done before you can start purchasing NFTs for your new collection.
Set Up a Digital Wallet
At the start, you will need to get a digital wallet, where you can store your cryptocurrency and the NFTs. Before you even buy crypto to fill up your digital wallet, you need to research which crypto the NFT marketplace provides or allows.
You can buy cryptocurrency on your debit/credit card on various platforms. Once you make the purchase, you can transfer the funds to your digital wallet. Keep in mind that there will be extra charges when you exchange, for example, USD for Ethereum.
Once your digital wallet is set, it is time to search marketplaces where NFTs are sold. Keep in mind that today, you will find thousands of sites selling digital art; however, some will be just created for scams, so research is key.
Research the NFT Marketplace
Some of the more legit and popular NFT sites include OpenSea.oi, Rarible and Foundation. You will need to do some research on the creators and collectors, and there are impersonators of popular creators on the site. Once you have made certain the creator is legit; it comes down to you - which ones you think are worth buying.
After the transaction is complete and you own an NFT, you can either store it and let it sit in your digital wallet or list it again for someone else to buy. The majority of NFT owners will re-list the digital art they have purchased; however, they will keep them for a certain amount of time to see if its value will go up. On the other hand, collectors are just in for the exclusive digital art items and will keep them because of their unique traits.
Risks in Buying NFTs
Even if NFTs have become popular worldwide, and even if the technology behind them is essentially groundbreaking, there are still risks involved with purchasing and selling NFTs.
Because there is a lot of money to be made with NFTs, people often forget some of the dangers that are part of the business.
One of the most obvious risks associated with buying or selling NFTs is the fact that the currency with which NFTs are bought and sold can go down at any time. For example, let’s say you bought an NFT worth 1 ETH a year ago. While that same NFT can be worth 1ETH, the worth of ETH could have dropped in the past year.
Market risk is also pretty possible because if the price of NFTs starts going down, more people will begin to lower the cost of the digital art they own so that they can get rid of it sooner. This creates an environment for NFTs to reach a lower value and won’t be as desirable.
Research is key when stepping into the NFT world. There are thousands, if not millions, of people that will copy and paste the works of famous creators and try to sell them. Before you consider buying an NFT, double-check the person who listed the NFT and if they created it.
Fake Social Media Groups
Many scammers will fake the NFT projects and the discussion groups. Scammers will use bots to fill accounts or create Discord groups to fool people into thinking the following is big. If bots are predominant in a group, we only have to look at the engagement of posts.
Since NFTs made a colossal boom, many celebrities and people with high social media followings have started to promote NFT projects. While some may be legit and have dedicated developers behind the projects, most are pump-and-dump scams - meaning that a celebrity or a social media influencer will create a hype around the project, and once their followers engage in making a purchase, they will instantly sell at an inflated price and drop the fee right after.
Because NFTs are still not fully regulated like stocks and bonds, nothing can happen to the creators or the people promoting the project, meaning there would be no repercussions for the scams.
Since NFTs have been wildly popularized, one main aspect of NFTs emerged - the necessity to insure digital art. When it comes to NFTs, NFT insurance or Digital Art insurance is paramount. There are many misunderstandings about NFTs today, and that’s the main reason people are not aware of the fact that these types of collectibles cannot be insured with standard insurance protocols.
Some basic policies cover damages to assets; however, because NFTs exist in the blockchain, they cannot be damaged or lost. Some have also suggested that an umbrella or proper art insurance can cover non-fungible tokens. However, under the appropriate art policies, value has to be determined by the established market, and we all know that the NFT market is new and very volatile.
Setting an exact value on an NFT is not possible because the price of one piece skyrockets or plummets in seconds. Acceptable art insurance also covers something that can be damaged, which doesn’t apply to NFTs.
Which One Is the Most Suitable?
The closest thing to insuring NFTs or developing a model for NFT insurance is the Cyber insurance policies, mainly because such insurance policies cover losses when digital networks fail or crash. Some marketplaces list and sell NFTs, and some even provide a space for the purchased items to be stored for safekeeping. If such a marketplace goes down or is compromised, NFTs can be stolen. The problem with Cyber Insurance policies lies in the fact that they will address the marketplace’s liabilities and not the losses that people with a marketplace account suffer. It is challenging to develop NFT insurance, DeFi Insurance, Web3 Insurance, and in some cases, Metaverse Insurance because we’re dealing with fairly new concepts.
Blueprints for NFT Insurance
Today, there are a few insurers offering insurance for businesses operating and building on the blockchain. Similar to a software company or computer engineer, the risks associated with an NFT primarily digital. People and property should be protected like any other business, but the technical exposure are the biggest challenge for most insurers today.
Fundamentally, for an insurance carrier to provide insurance to an industry they must understand the risk. Since the blockchain and NFT's are new, most insurers will wait until enough data is available. For example, a key data figure called Loss Ratio's is what all insurers look at when considering a new industry. How many losses were reported vs premium dollars written? Is the industry profitable? Or are they going to lose money providing insurance?
As the industry develops and more good players enter the space, more insurers will offer terms.
That said, our firm works with the key insurers current offering insurance. Here are some insurance policies, or specific aspects of them, that can be purchased for an NFT business:
- Cyber Liability and Data Breach: covers cyber attacks and protects data.
- Errors and Omissions (E&O): covers technical errors that affect third party partners, customers, etc.
- Directors and Officers (D&O): covers executives, officers, board members, and investors if they are personally sued.
- Workers Compensation: covers people working for the business if they are injured.
- Employment Practices Liability: protects the business if it's sued due to things like sexual harassment, discrimination, termination, and more.
- Commercial General Liability: covers your office or other physical location if a third party is injured or property is damaged.
Many people are still skeptical about NFTs and think there will be no need to incorporate insurance policies because the hype won’t last. We encourage all operators to work with a specialized advisor that can explain the value of an insurance policy and how it can protect their people, property, customers, and more.