Investing in Digital Assets: Golden Opportunity or High-Risk Strategy?

What are digital assets?

The best way of explaining digital assets is to compare them to traditional assets. Specifically, financial assets are defined as:

• Deposits, stocks, bonds, notes, currencies, and other instruments that possess value and give rise to claims, liabilities, or equity investment. Financial assets include bank loans, direct investments, and official private holdings of debt and equity securities and other instruments.

We can extract from this definition two key qualities.

First, the asset must be specific and quantifiable in nature, such as a particular stock, bond or physical currency. These assets must not be duplicatable, meaning that you can’t own the exact same asset as someone else, and you must have the sole right to use that asset.

Second, the asset must possess value in a way that interacts with traditional financial frameworks, such as being able to buy and sell the asset, inclusion on an individual or organizational balance sheet as an asset or liability and recognition of the asset as a vehicle for equity investment due to appreciation (or depreciation) over time.

Transferring this logic to digital assets, we can see why investors may be interested in holding digital assets as a part of their portfolios.

Digital assets are defined as anything created or stored digitally that can be uniquely identifiable in a way that conveys value.

For example, imagine you purchase a digital concert ticket to attend the next live performance of your favorite band. In this case, you could argue that your ticket is a type of digital asset since it is unique (corresponding to a specific physical seat on the date of the concert) and conveys value equal to the cost of purchasing a ticket for the concert.

In practice, the introduction of tokenization on a blockchain (where a particular digital asset can be “minted” or otherwise made unique and identifiable through cryptographic technology) has provided investors with an avenue to create and store value in relation to a particular digital asset, such as a “coin” (cryptocurrency) or a work of art (NFTs).

This allows for interactions between these digital assets and traditional financial frameworks, meaning you can buy and sell them for profit or long-term gains much like you can buy stocks or gold.

Put another way, because blockchain technology empowers individuals to purchase and hold uniquely identifiable digital assets, investors can now diversify their portfolios by purchasing cryptocurrency and other assets in the same way that investors have historically diversified with more physical assets such as precious metals or physical real estate.

What kinds of digital assets can I invest in?

There are three relevant categories of digital assets that investors should consider:

• Cryptocurrency — Cryptocurrency is a digital currency that is secured by the blockchain, meaning it is both uniquely ownable and theoretically impossible to counterfeit. The largest downside of cryptocurrency as an investment is the lack of regulation and stability, which leads to extreme volatility in each coin’s value.
• Non-fungible tokens (NFTs) — NFTs effectively center on providing you with the ability to buy and sell the rights to particular “non-fungible” digital assets. Much like how you can own a logo or physical piece of art, NFTs act as a record-keeping system for tracking who owns the sole legal rights to a particular asset. As a by-product of this exclusive right of ownership, many individuals buy, sell and trade NFTs in hopes of earning a profit on their investment.
• Virtual real estate, art and other items — Any uniquely identifiable online asset that holds value can be bought or sold as a digital asset. For many tech companies, this has translated into minting various digital assets ranging from virtual real estate to virtual racing horses. Investors on the cutting edge of recent advances in technology are increasingly making speculative investments in such assets as a means of replicating the immense early success seen in other digital assets such as Bitcoin or NFTs.

Where can I purchase digital assets?

In most cases, you can purchase digital assets through some form of online broker. For example, major players in the financial industry such as Fidelity are starting to dip their toes into acting as broker-dealers for cryptocurrency exchanges.

Note, however, that you should be especially careful when purchasing digital assets, as the industry can be subject to mismanagement and fraud.

For this reason, you should always work with an experienced financial professional with a deep knowledge of the industry before investing significant money into digital assets such as cryptocurrency to ensure the safety of your funds.

Pros and cons of investing in digital assets

Digital asset investing is a high-risk, leading-edge strategy, meaning you should be equally prepared for your money to gain or lose significant value.

Always make sure you’re only investing funds that you’re prepared to lose, and never treat digital assets as a significant portion of your investment portfolio (especially if you’re an institutional investor with a lower tolerance for risk).

Instead, the best way of thinking of digital assets is as a means of diversifying your portfolio.

Advantages of digital assets

• Diversification and growth — The largest benefit of investing in digital assets is diversification. Much like how you might purchase bonds to offset the effects of a financial downturn, investing in digital assets will often provide excellent returns in periods of strong financial returns, accelerating your portfolio’s growth when compared to other asset classes such as stock or real estate.
• Exists outside conventional frameworks — Assets such as cryptocurrency offer an efficient method for connecting asset owners directly as a means of executing transactions, meaning less overhead through low transfer fees and a greater sense of authority and control over your transactions.

Disadvantages of digital assets

• Extreme risk and volatility — As much as there is a benefit of significant growth, there is also a correspondingly elevated risk for losing your investment. Due to the extreme volatility in the space, you should generally only invest as much as you deem appropriate for your risk tolerance.
• Risk of disruption and regulation — Digital assets are still a relatively new technology, meaning there is a high risk of disruption as governments roll out rules and regulations to better control the space.
• Lack of traditional security and insurance — Unlike traditional investments that are protected by various security and insurance services, digital assets are generally excluded from such protections, meaning there is usually little you can do should something go wrong (such as a business declaring bankruptcy or an NFT being stolen).

Should you make digital assets a part of your investing strategy?

As with all investment decisions, whether you should invest funds into digital assets comes down to two questions:

Do you reasonably believe that the asset you’re investing in has a significant potential for return with an acceptable level of risk to make the investment worthwhile?

Do you reasonably believe that your investment into the digital asset is a better investment strategy (in returns, risk, diversification etc.) than other options available, such as investing in more traditional vehicles such as stocks, bonds, real estate, etc.?

If your answer to both questions is “yes,” then you might want to consider speaking with your financial advisor about the role that digital assets can play in your portfolio.

To learn more about the different solutions Associated Bank has available for helping you invest in digital assets, reach out to us over the phone or visit us online to find a wealth management team near you.