NFT Funds Are Coming: What Investors Need To Know

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With the NFT market projected to explode by $147 billion and play a key role in the metaverse, you might be wondering, “How can I profit from the exploding NFT market without knowing which NFT to buy?”

Well, the answer may have just arrived in the form of NFT funds. Like ETFs, NFT funds are curated “baskets” of NFTs chosen by expert collectors for their profit potential.

In theory, these funds would help hedge the risk and volatility associated with investing in NFTs, easing traditional and institutional capital into the market. But in practice, they raise significant regulatory and oversight questions.

So what are NFT funds? How do they work? How have similar funds — like those for physical art — performed in the past? And what might the SEC have to say about all this?

Let’s investigate NFT funds!

The Short Version

  • NFT funds are like mutual funds for NFTs: actively-managed portfolios with curated holdings designed for profitability.
  • Conceptually, NFT funds like Curated or The Non Fungible Fund will help hedge the NFT market’s risk and volatility, attracting traditional investors to a less stable market.
  • However, NFT funds may also attract regulatory scrutiny or, worse – continue to operate with little accountability in a market that’s already rife with fraud.

What Are NFT Funds?

NFT funds are collections of NFTs and NFT-related projects that you can invest in rather than investing in a single NFT.

Like mutual funds, NFT funds are actively-managed and share their holdings and selection criteria with investors. Unlike mutual funds, however, NFT funds do not need SEC approval and are totally unregulated.

In any case, early NFT funds seem to have four goals:

  1. Give institutions and conservative investors a more traditional and familiar way to invest in a decidedly non-traditional asset
  2. Give investors a way to profit from the expected growth of the NFT market without having to accrue expert knowledge/handpick their own holdings
  3. Hedge the high risk and volatility of an NFT investment through diversity
  4. Give art/NFT collectors a way to partially own an entire gallery versus a single piece

Read more >>> How to Explain NFTs in Under 30 Seconds

How Do NFT Funds Work?

While some NFT fund managers are going the “decentralized” route — and I can only speculate how that will work — others are going the more traditional route and emulating a physical art fund.

Art funds are pretty simple. For a modest management fee (1 to 2 percent), a team of experts curate a “portfolio” of fine art pieces. Investors buy portfolio shares, and when a piece is sold, the fund managers pass along some of the profits to investors.

Historically, art funds have performed surprisingly well. The Artemundi Global Fund generated a net return of 85.36 percent during the five years it was active from 2010 to 2015. The Sotheby’s Mei Moses Index, which tracks the art market's value, has kept pace with the S&P 500 since 1950.

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What Do Some of the First NFT Funds Look Like?

Will digital art funds keep a similar pace? Let’s explore some early examples before delivering a verdict.

Wave Financial’s 70/30 NFT fund

Toronto-based Wave Financial is one of the first financial services companies in the world to design and market its own NFT fund.

The Non Fungible Fund contains the following asset allocation:

  • 70% Digital Art and Collectibles — Traditional NFTs as we know them
  • 30% Platforms & Protocols — NFT-related projects like blockchain developments, infrastructure, etc.

So how does a more traditional wealth management firm know which NFTs to buy? According to its website: “Through actively participating in the NFT community and multi-platform social media engagement, the Fund Managers strive to learn about exclusive drops before their release.”

The fund managers focus on “rarity,” “uniqueness,” and “scarcity” as value drivers and have hinted at developing machine learning to formulate pricing and valuation models.

The 6529 NFT Fund

Back in October 2021, anonymous NFT collector Punk6529 announced their intent to design an NFT fund with a rather interesting secondary purpose:

True to their name, Punk6529 wants to “jiu-jitsu” attempts by institutional capital to “swamp” the NFT space.

“Organized capital is going to come into the space, and it is going to come in size. And it will swamp the early native-NFT individuals.” They wrote on Twitter.

“Since this is going to happen, might as well be jujitsu-ed to serve decentralization objectives.”

The 6529 NFT Fund will have “obsessed” NFT collectors hunting down high-potential NFTs. The fund itself may never sell and will live in a decentralized space.

You can see the fund’s 264 current holdings on OpenSea. And although it’s reportedly raised $75 million, it’s unclear how you and I can invest at this time.

But if you’re looking for a “pure” NFT fund that adheres most closely to the principles of decentralization, 6529 might be your best bet.

Curated

In early 2022, entrepreneurs Andrew Jiang and Todd Goldberg launched Curated, an NFT fund dedicating at least half its portfolio to “blue-chip” NFTs.

Source: Curated Gallery

The “blue-chips” are the NFTs you’ve probably heard of CryptoPunks, Bored Apes, and more. Like Apple and Alphabet, these NFTs are expected to hold their value long-term or, at least, better than other NFTs.

Curated has already attracted $30 million of mostly VC capital, with big-ticket crypto investors like Marc Andreessen and Arianna Simpson buying in.

It’s also one of the only funds you can currently buy into, provided you’re accredited and have $350,000 USD or USDC to invest.

Will NFT Funds Make NFT Investing Any Less Risky/Volatile?

In theory, yes.

Diversity and active management are time-tested hedges against risk and volatility. Some would argue that passive management is better for riding waves of market volatility, but the point stands: a fund is traditionally a safer investment than an individual asset.

In practice, however, I have some concerns about the lack of regulatory protections for NFT fund investors.

Read more >>> Actively Managed vs. Passively Managed Funds

NFT Funds Raise Big Regulatory Questions

ETFs and mutual funds are SEC-regulated equity securities. If an ETF manager decides to misappropriate investor funds for a wedding ring, the SEC will step in to protect the investors and get their money back.

But NFTs are not regulated as securities by the SEC. That’s because the sale of an NFT doesn’t qualify as an “investment contract.”

According to the Howey Test, investment contracts require:

  1. An investment of money
  2. A common enterprise (i.e. shared goals between investors and those selling the asset), and
  3. Reasonable expectation of profits derived from the efforts of others

Individual NFT sales fail condition three because most NFT sellers are just artists selling art.

NFT funds, on the other hand, will have a hard time convincing regulators that they’re not selling securities, especially when they tout machine learning to “formulate pricing and valuations.”

That means that anyone considering investing in an NFT fund is facing two possible realities:

If the SEC does intervene, NFT funds could be fined, shuttered, or at the very least, lose value.

If the SEC doesn’t intervene, NFT funds will have zero accountability, and there will be nothing stopping them from contributing to the tens of billions worth of fraud already plaguing the digital asset space.

Read more >>> How to Spot a Crypto Scam

Should You Invest in an NFT Fund?

Once the regulatory uncertainties are cleared up — and more options become available to non-accredited investors — maybe.

I think the ideal NFT fund investor is someone who:

  • Has a high risk tolerance for mega-risk, speculative investing
  • Believes there will be a healthy secondary market for “blue-chip” NFTs
  • Doesn’t know which individual NFTs to buy or can’t afford them

If that’s you, you might consider buying a few shares in an NFT fund once they become more widely available (and safe).

If that’s not you, you’re much better off sticking with ETFs and index funds and enjoying the NFT show from a distance.

The Bottom Line

On paper, NFT funds are precisely what the market needs to attract new investors and institutional capital. By having a team of experts curate a list of diverse holdings, NFT funds can hedge risk and volatility while giving traditional investors a more familiar method of investing in unfamiliar territory.

But at the same time, it seems almost inevitable that NFT funds will run afoul of the SEC for selling unregulated equity securities. That, or they’ll remain primarily unaccountable to their investors in a market already exploding with fraud.

It sounds crazy, but adding individual NFTs to your portfolio might actually be the “safer” option for the time being. In any case, you'll have to do your own due diligence to determine which — if any — NFTs or NFT funds are worth adding to your portfolio.

Further reading:

 

Chris Butsch

Chris helps young people prosper - both mentally and financially. In addition to publishing personal finance advice for Investor Junkie and Money Under 30, Chris speaks on the topics of positive psychology and leadership through CAMPUSPEAK and sits on the advisory board of the Blockchain Chamber of Commerce.

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