Financial risks involved with DAOs

In the previous section we touched on the huge scale of DAO funding, where all that the money comes from, and some of the important considerations around good financial management in a DAO. DAOs are however still a relatively new phenomenon just like crypto more generally. And like any new thing DAOs are not immune to scams, grifters and people with nefarious intent.

One early example of a financial scam involving a DAO was the “The DAO” incident in 2016. The DAO was the first real DAO – a decentralised investment fund that operated on the Ethereum blockchain. It raised over $150 million in a token sale, but a vulnerability in the smart contract code was exploited, resulting in the loss of a significant portion of the funds. This incident led to a hard fork of the Ethereum blockchain to recover the stolen funds.

The financial risks

Here are some considerations for staying (financially) safe in a DAO and avoiding scams and ripoffs:

Volatility

Money values of Cryptocurrencies and tokens can be highly volatile, meaning their value can fluctuate significantly over short periods of time. This means the value of your investment in a DAO could go up or down dramatically, making it difficult to predict the return on your investment.

Lack of regulation

DAOs operate in a largely unregulated environment (usually by design!) which means that there may be little recourse if something goes wrong.

Security risks

Cryptocurrencies and tokens are vulnerable to hacking and other forms of cyber attacks, which could result in the loss of your investment.

Fraud

There have been instances of fraud in the cryptocurrency and token markets, with some projects turning out to be scams. It is important to carefully research any DAO before investing in it to ensure that it is legitimate.

Lack of liquidity

Liquidity in financial markets, and by extension the market for tokens, means how readily you can buy or sell your tokens. In conventional financial markets things like cash and certain government bonds are very liquid – meaning that it is easy to buy or sell them when you need to. Some DAO tokens may have limited liquidity (this may also be by design) meaning it may be difficult to sell your tokens or cryptocurrency if you want to exit your investment.

Complexity

The technology behind DAOs can be complex and may not be well understood by many investors. This could make it difficult for investors to fully understand the risks and potential returns of their investment, which also goes to liquidity – fewer investors that understand and are therefore willing to buy and sell your tokens means less liquidity.