Arguably the most well-known collection of non-fungible tokens (NFTs) to hit the market are the Bored Ape Yacht Club (BAYC) NFTs. These pictures of monkeys in different garb with varying facial expressions took the internet by storm and attracted celebrities such as Snoop Dogg, Justin Bieber, Jimmy Fallon, and Kevin Hart.
Prices for these NFTs quickly soared. Six of them have sold for more than $2 million, and in October 2021 one BAYC sold for an eye-watering $3 million.
But what might not be so well known is that there is actually a company behind the BAYC NFTs. Yuga Labs started getting to work on BAYC in February 2021 before launching the collection in April that same year. As its fame and notoriety skyrocketed, the company took it a step further and now owns the rights to other popular NFT collections like CryptoPunks and Meebits.
Yuga Labs didn't stop there. This year it launched its own crypto token, ApeCoin (APE 2.16%), and also unveiled a metaverse platform, Otherside, where investors could purchase virtual real estate with their new ApeCoin.
In a short time, Yuga Labs has cemented itself as the industry standard for Web3 development and metaverse technologies -- so much so that it's even drawn comparisons to being the Disney (DIS -0.89%) of Web3.
Trouble ahead
Now, however, this NFT star might be running into a few obstacles. Earlier this month, the Securities and Exchange Commission (SEC) announced that it would be investigating Yuga Labs due to concerns that the BAYC NFTs and ApeCoin might be unregistered securities. On the heels of the news, ApeCoin fell 10% and there could be more pain for investors in Yuga Lab assets.
While the investigation itself doesn't equal guilt, if the assets are deemed to be securities, potential consequences could include fines, restitution, and possibly even incarceration.
To determine if an asset is considered a security, the SEC uses something known as the Howey Test. Named after a Supreme Court case in the 1940s, the Howey Test defines a security as "an investment of money in a common enterprise with the expectation of profit to be derived from the efforts of others."
Let's unpack that. The key pieces here are the "expectation of profit" and the "efforts of others." ApeCoin was created by the efforts of others, specifically developers who probably spent hours writing and analyzing code.
Once it was released, investors likely bought ApeCoin hoping it would produce a profit. The same goes for BAYC NFTs. People purchased these due to the potential value they would produce. Can you see where this might be headed?
Why investors should stay informed
Whether cryptocurrencies and NFTs are securities is part of a growing dilemma that is slowly making its way to the forefront of the SEC's agenda. Although no official legislation has been passed yet, it's seeming more likely that the SEC will rope cryptocurrencies and blockchain companies like Yuga Labs into their jurisdiction.
This episode offers a valuable example for investors concerned about what the future might hold for other blockchain-based assets. Investigations like this one are becoming more common, and they should serve as a reminder that crypto investors need to remain diligent in their evaluation of assets before adding them to their portfolio.
Classification of crypto assets as securities wouldn't mean the end of cryptocurrencies, but it would surely change the landscape a great deal. In a future where the SEC becomes the cryptocurrency watchdog, it would likely require blockchain companies and developers to register as securities and provide supplemental information to increase transparency, in much the same way that publicly traded companies do now.
If this is what the future holds, it could mean the end of the pump-and-dump cryptocurrencies, in which developers hype a new coin or blockchain, get rich and leave investors holding the bag. Every investor should keep this in mind before purchasing a cryptocurrency, to ensure that their portfolio has what it takes to make it through looming regulation.
