Cryptocurrencies, crowdfunding, DeFi projects, tokenization, and fractional investing have given retail investors numerous new alternative investment channels.
However, as with anything innovative, safety is a concern.
A startup called Masterworks is one example of a company that has launched an innovative platform that is changing the way people access investments in physical fine art. However, unlike cryptocurrency or DeFi opportunities, this innovative company operates in a highly regulated industry, making it an exception.
Here are the laws that help to make Masterworks a safe investment, boosting the company's growth.
Identity Verification and Fraud Monitoring
One of the biggest knocks against modern alternative investment avenues is the lack of identity verification. For instance, DeFi platforms thrive on the lack of identity controls, something of an ethos in that industry.
While this lack of identification information aids some ethical goals, it leaves investors without a safety net when things go wrong. The frequency of rug pulls and other fraudulent schemes in the DeFi space attests to this.
Malicious actors steal tokens, run them through an anonymizing token mixer, and leave victims with no recourse. Unlike such shady schemes, Masterworks operates in the highly regulated fintech industry that is itself beholden to an even more regulated traditional financial industry.
KYC, or “know your customer” laws, ensure Masterworks verifies the identities of every customer on its platform. These checks prevent criminals from laundering money through art, an action that usually forces regulators to shut down investment avenues. In addition, Masterworks also screens users for their presence in the Office of Foreign Assets Control (OFAC) list, making sure known criminals do not establish a presence amongst honest investors.
These checks prevent adverse regulatory action against Masterworks, safeguard investor funds, and ensure fraudulent actors stay away from the platform.
SEC Protections
Every company that offers securitized investments is subject to the SEC's rules. In addition, people working in such companies are subject to FINRA licensing rules. What do these abbreviations mean for investors?
For starters, the SEC tightly regulates every offering from Masterworks. The team at Masterworks securitizes all of the paintings that the company acquires, offering investors shares in them. These offerings fall under the SEC's Regulation A+ rule, which permits security issuers to solicit investment funds from the public under strict guidelines.
Some of these guidelines include the language issuers use when marketing opportunities and the presence of qualified personnel within the company to make such statements. For instance,
Masterworks uses the expertise of art experts and data to evaluate the investment potential of its offerings.
In addition, FINRA regulates the people involved in the sale and trade of securities, and Masterworks' salespeople must possess a Series 7 license. This license ensures brokers and salespeople understand their responsibilities toward a client and fulfill their fiduciary duties.
For instance, the Series 7 licensing requirements prevent brokers from making statements about securities without adequate evidence. In short, they cannot promise you extraordinary performance without adequate data or evidence.
This is why Masterworks' commitment to data is critical. It gives its marketing and salespeople the grounding to make educated statements about potential performance to investors. It also helps the company stay within regulatory bounds, ensuring investors are always protected.
UDAAP and Red Flag Rules
UDAAP or “Unfair, Deceptive, or Abusive Acts or Practices”, is a critical consumer financial protection law. As its name suggests, UDAAP prevents fintechs from abusing consumer trust through manipulation or outright lying.
In Masterworks' case, UDAAP prevents the company from manipulating investors into purchasing any offering that might harm them. It's what forces Masterworks to disclose all information related to the investment opportunities it offers, giving consumers the information they need to make an educated purchase.
UDAAP was born in the wake of the 2007-2008 economic crisis and is meant to boost consumer confidence in the financial sector. Masterworks is a beneficiary of this rule, since it forces the company to always place its investors' best interests first. While this doesn't mean every painting the platform offers will generate a guaranteed return, it does ensure investors are not misled by false promises or irregular data.
Speaking of consumer protection, every fintech is responsible for monitoring red flag indicators. These indicators are a list of activities that authorities consider a red flag. They cover everything from misleading promises made to investors to money laundering violations.
These red flags cover both internal and external processes. For instance, a prospective client hiding the ultimate beneficial owner of an investment is a red flag concerning external activity. The presence of misleading sales material is an internal one.
With these red flag monitors in place, people can rest assured that Masterworks' team is securing investor funds and always working for their benefit.
Regulation Powers Trust
Masterworks has opened new avenues for ordinary investors, and trust lies at the heart of the company's growth. However, trust hasn't emerged from just lucrative returns. As a fintech, regulation has helped Masterworks build trust amongst its investors, leading to a safe environment where ordinary investors can build wealth.
