Security tokens: everything you need to know before deciding to buy
Buying a security token can be extremely profitable. But sometimes there are risks you would like to avoid. The question of the utility of the token purchased is often at the heart of the problem. Beyond the purely speculative aspect, many investors realized that they had bought a token with no utility, which was useless and represented nothing – no more valuable than Monopoly tickets. Thus, you should know how to avoid risks before making a security token investment.
What is a Security Token Offering (STO)?
A Security Token Offering describes the issuance of digital securities based on blockchain technology. By owning the digital security in the form of a token, the investor receives an entitlement to interest and a performance-based dividend. Voting rights are only given in a few cases. The security token offering (STO) gives investors the opportunity to purchase security tokens. Companies use this instrument for funding by converting shares or rights into digital tokens and offering them for sale.
STOs are regulated financial products. They can be legally purchased when accompanied by a securities prospectus, a securities information sheet, or an exemption rule to the prospectus requirement.
Security token offerings are primarily suitable as an investment opportunity for buyers who want to make a profitable investment. After all, as the holder of a Security Token, you are entitled to a share of the profits that a company makes, for example.
What disadvantages does a security token investment offer?
Trading of tokens is not yet possible on exchanges in every country. A trade follows with other investors on bulletin boards or with known people from one’s own circle as a peer-to-peer transaction.
What risks can you face when investing in a security token?
- Fraud: there are many fraudulent STOs. Those who succumb to them usually lose the entire investment;
- Cyber-attacks and security: both the investor and the issuer can fall victim to hackers. The blockchain structure and/or the smart contract created by the issuer may also contain loopholes. For example, there have already been cases where a programming flaw in a smart contract has been used to extract funds;
- The project is not realized: uncertainties abound, as do the factors that influence many start-up-type initiatives: the initial quality of the idea, its feasibility, the team’s capabilities, the management of the budget, etc. For the investor, there is still the risk of ending up with security tokens that provide access to a poor or incomplete (or even unusable) service or investment tokens that are greatly diminished in value.
- Volatility and liquidity: the value of a coin or token that can be resold can fluctuate drastically, and there is a risk of not finding a buyer.
Consequently, it is advisable to do your own research on what STO exactly is and what you should pay attention to before investing. By finding answers to the following questions, you will be fully armed for this important decision.
What are the advantages of security token investment?
- Liquid asset class becomes more liquid and investable for the masses;
- No barriers to entry; anyone 18+ and with capital can invest;
- Fast transferability of the digital token via the blockchain;
- Very low costs when transferring from the token when buying or selling;
- The token can be stored independently in a wallet, so there’s no dependency on service providers;
- The STO issuance can be tracked transparently on the blockchain, as can every transaction of the token and its anonymous ownership;
- The issuer receives interest and usually a dividend;
- The token can be broken down to a fraction, in the case of Ethereum up to eight decimal places, so that extremely small ownership rights are possible;
- Carrying out the custody yourself can be a challenge for technology-averse people; here, you have to resort to a service provider (which is usually offered at the STO and is integrated on the STO platform);
- The token usually does not give a person voting rights in the company;
- The tax-relevant trades must, of course, also be taxed in the case of digital securities; interest with the final withholding tax and potential token value increases below the one-year holding period with the personal income tax rate.
The most significant factor is for sure to check the platform for making investments. Pay attention to its security, fees, reviews of other investors, and features. When choosing a good platform with features that will supply secure and transparent investment and protect you from the risks mentioned above, you will enjoy all the advantages of security tokens.
Does the business model make sense?
Here it is called DYOR. Do your own research. The promised interest and dividends must never come from other paying investors but a business model with substance.
What exactly substance means is very individual, depending on the business. Numerous STOs tokenize part of a property, a solar park, a wind turbine, or even the entire startup. This means that there is a tangible equivalent value behind the company, which can also be realistically calculated.
As in the international ICO sector, the fact that a token only grants an advantage in the product, but does not promise interest and/or dividends, is excluded. Nevertheless, it is possible that, in addition to an interest payment, a benefit is also granted, such as the prototype of the product (often seen in crowdfunding) or a free/discounted overnight stay in the property.
The market for security token platforms behaves like the crowd investing market of a few years ago. Everyone is trying to get a good starting position, and in the end, there will be vendor consolidations. While some service providers offer IT services for such platforms, there is currently a lack of serious platforms that provide a wide range of investable STOs.
Following the advice on researching security token benefits and risks, you will have all the answers to make a safe and transparent investment.
The right decision would be to buy security tokens on INX. Currently, it is one of the leading platforms. Others will follow; the market is highly dynamic.