Key Insights for this month in Digital Assets: Asset Tokenization
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Real World Assets Tokenization
Blockchain has enabled numerous advantages through its characteristics such as decentralization, transparency, distributed structure, and immutability. While most of the focus has been towards using these advantages towards building an open economy propelled by sectors such as DeFi and NFT, the underlying technology can also be used to improve efficiencies within the traditional capital markets. Asset tokenization is one of the notable use cases of this nascent technology in the traditional capital markets, albeit with regulatory oversight.
What is Asset Tokenization?
Asset tokenization is the issuance on blockchain of digital tokens backed by private real assets, enabling fractional ownership of such assets. Blockchain provides proof of ownership and transactions, and regulatory controls can also be introduced either on or off the chain. This product is particularly appealing in creating liquidity for illiquid assets such as real estate, infrastructure projects, pre-IPO stocks, revenue streams, etc. Please note that tokenizing an existing public stock such as Tesla or Apple is not considered as part of this discussion.
Let’s look at an example – Suppose you have a property worth $100,000. Asset tokenization can convert this into (say) 100,000 tokens – with each token representing 0.0001% of the property. Now if the owner wants to raise some money without selling the entire property, they can do it by selling some of these tokens, and those tokens can be traded on relevant exchanges. While the example is simplistic considering that there will be documents to be drafted and structures to be set up, the economics will be similar to how they are outlined above.
Tokenized assets will almost certainly fall under the regulatory purview and these tokens will be guided by the securities laws of the region. Hence tokenized assets are also called security tokens. Due to the regulatory “burden”, these tokens have not evolved as quickly as cryptocurrencies, utility tokens, or governance tokens. However, the long-term potential for security tokens is immense considering that every asset in the global securities markets (stocks, bonds, commodities, real estate, PE, etc) can all be tokenized and therefore the TAM (Total Available Market) is $550+ Trillion.
What real world assets can be tokenized?
Theoretically, any real world asset can be tokenized. The concept can be used to create fractional ownership in traditional assets like equity, venture capital funds, bonds, commodities, and real estate properties and also in exotic assets like sports teams, music, artwork, etc.
It is however worth noting that just because an asset can be tokenized does not automatically imply that it should be tokenized. It was prematurely deemed that the ICO frenzy would naturally flow into an STO (Security Token Offerings) frenzy, however, the ICO pioneers soon realized that the regulatory arbitrage available to them in the unregulated utility token space did not extend to the security tokens. As an extension, it is therefore futile to anticipate that one can trade regulated assets in a tokenized format against a cryptocurrency such as Bitcoin. Such experiments just show a lack of understanding of how traditional markets work and how regulations will play a major role in tokenizing real world assets.
The decision on tokenizing real world assets should be based on asking the following questions, none of which has to do anything about the underlying blockchain technology:
- Does the asset owner have to abide by any securities laws to tokenize that asset?
- In using public blockchains does the asset owner violate any regulatory or data laws of the country where the asset was originated?
- The biggest impediment to the adoption of any type of financial instrument is liquidity. Does the asset being tokenized have a path to liquidity for the asset and will that liquidity be better than what is provided today in traditional markets?
What are the benefits of tokenizing real world assets?
The introduction of blockchain technology to capital markets should not be approached from a decentralization or censorship-resistance perspective, as these are not topics that are appealing to regulators. Instead, the approach should be towards improving the efficiencies of the ecosystem that has been around for many decades and is fairly robust.
The benefits of asset tokenization are as follows:
- Fractional ownership: Tokenising any asset creates fungible tokens that can provide fractional ownership of the asset to the token holders. This brings liquidity to illiquid assets such as real estate, infrastructure projects, etc.
- Clearance and Settlement: When tokens are issued and traded, they are directly and immediately settled on-chain on the blockchain. This removes the requirement for the entire clearance and settlement layer in traditional markets that maintain off-chain ledgers and settle accounts on T+0, T+1, etc durations.
- Disintermediation: Securities markets include a lot of intermediaries such as brokers, transfer agents, clearing firms, custodians, etc. When tokenizing an asset the only entity you need to trust is the issuer. However, some of the intermediaries may yet play important roles towards bringing more adoption to tokenized assets (such as brokers, who can also act as distributors).
- Transparency: Every investor, their positions, and the transfer of tokens can all be viewed on the blockchain in real-time by the regulators. In addition, certain regulatory standards can also be incorporated into the token standards.
Any examples of tokenized real world assets?
- Binance tokenized traditional stocks like Apple, Coinbase, Microsoft, Microstrategy, and Tesla and is seeing a monthly trading volume of US$ 9.2mn.
- Red Swan, a New York based real estate company, tokenized properties worth US$ 2.2bn in 2020.
- Bank of Thailand launched government saving bonds worth US$ 1.6bn in 2020.
We at Woodstock strongly believe tokenization will change the financial landscape by allowing an asset to be easily broken down into smaller units that represent ownership, encouraging the democratization of investment in previously illiquid assets, and increasing accessibility and transparency, under regulatory oversight.
While we are intensely looking out for projects that are redefining finance through DeFi we still believe that the underlying technology can play a pivotal role in improving the traditional capital markets. One of our portfolio companies, Propine, is doing exactly this and working closely with the Monetary Authority of Singapore toward establishing an asset tokenization platform for the region.
Ethereum Upgrade – EIP 1559
Change is inevitable.
In a centralized organization, project upgrades are driven by a select few individuals, often with a lack of transparency and without discussions with a majority of stakeholders. However, for decentralized protocols like Ethereum, the power to bring change to the blockchain lies in the hands of the community.
Ethereum Improvement Proposals or EIPs are a great tool to grow and improve the protocol in a decentralized manner. The EIP 1559 is one of the most heavily contested EIPs ever introduced. It will replace the auction system of the gas price with a new transaction price mechanism based on gas rates. The upgrade will go live with block 12,965,000, which will tentatively be mined on 4th August 2021.
The blockchain community is abuzz with excitement about this major upgrade. Read more about EIP 1559 in this blog post that was penned down by the research team at Woodstock.
De-Mystifying DeFi Yields
Traditional finance (tradFi) chases returns on capital. Decentralized finance (deFi) is no different. However, there is a massive difference in the magnitude of returns between tradFi and deFi. As of 26th July 2021, the 30-day average lending rate of $ADA on Bitfinex is 50.06%, and for $AMPL on Aave is 38.16%.
These yields can be difficult to digest for users outside the ecosystem and that unease with these figures makes sense, considering that in the current economic regime banks’ savings rates are <0.5% on US$.
Are there hidden risks? Are protocols just printing money? Is this…a scam? We at Woodstock demystify deFi yields in this article.
Woodstock In News
- We sponsored the Asia Innovation Summit and actively participated in the conference:
- Pranav, Founding Partner, shared his insights about the state of web3.0 startup investments in India
- Prashanth, Head of Institutional Investment, led the panel about moving from traditional banking to web3.0
- Ishita, Research Lead, participated in a discussion on demystifying NFTs
- We also hosted a virtual exhibition stall throughout the summit and engaged with some brilliant participants.
- We spoke with CNBC about investments in Indian crypto startups
- We were on the jury for the demo day organized by Blockchained India
- Read our thoughts about NFTs gaining traction in this article by Mint
- Our portfolio company Biconomy recently announced the completion of their next financing round; we are excited to continue our journey with them and participated with a follow-on investment in the current round.
Despite the recent correction in the digital assets market, fresh capital continued to flow into the blockchain ecosystem, with stalwarts like Sequoia, Softbank, and Andreessen Horowitz investing across the board. Different think tanks and regulators like the World Bank, and the US congress published reports and introduced bills to bring regulatory clarity to digital tokens. Binance is also welcoming regulatory clarity and is working to become a globally compliant exchange. It has doubled its compliance team. The CEO, CZ is even willing to step down to get the regulatory front in order.
-The World Bank, IMF, and BIS pushed the G20 for Central Bank Digital Currency (CBDC) to improve cross-border payments.
–Sequoia, Lightspeed Ventures, Softbank, VanEck among others participated in FTX’s US$ 900mn Series B round. The crypto derivatives exchange is now valued at US$ 18bn.
–Circle the issuer of USDC stablecoin is set to go public at a US$ 4.5bn valuation.
–Twitter distributed NFTs to 140 lucky users, nodding to its initial 140 character limit. As of 30th June ‘21, there have been over 29,000,000 tweets about NFTs
-Andreessen Horowitz, Ashton Kutcher, Michael Ovitz (CAA cofounder) among others participated in OpenSea’s US$ 100mn fundraising round. The marketplace for NFTs is now valued at US$ 1.5bn.
–Facebook CEO outlined his vision for the company’s metaverse. Advertising will still play a role, but Facebook will focus on the sale of virtual goods, said Zuckerberg.
– NFT Sales (30-Day) went up by 430% to US $318.9 mn in the month of July’ 21
DLT Space: Regulation
-Framework to regulate stablecoins introduced in the US congress. Furthermore, a new US bill looks to raise US$ 30bn through taxes on digital assets.
-Binance winds down derivatives offering in Germany, Italy, and Netherlands. Malaysian regulators ordered the exchange to disable its website and mobile apps in the country.
*Updated on 31st July’ 21
Key Market Assets/Indices
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