The Tokenization of Assets is Disrupting the Financial Industry. Are You Ready?
Originally posted by The Wyoming Legislature on Oct, 2018.
From art to buildings, the way we invest in assets could be about to fundamentally change with the arrival of tokenization. The act of tokenizing assets threatens to disrupt many industries, in particular the financial industry, and those who are not prepared risk being left behind.
What is tokenization?
The tokenization of assets refers to the process of issuing a blockchain token (specifically, a security token) that digitally represents a real tradable asset—in many ways similar to the traditional process of securitization, with a modern twist. These security tokens are created through a type of initial coin offering (ICO) sometimes referred to as a security token offering (STO) to distinguish it from other types of ICOs, which can produce different tokens such as equity, utility, or payment tokens. An STO can be used to create a digital representation—a security token—of an asset, meaning that a security token could represent a share in a company, ownership of a piece of real estate, or participation in an investment fund. These security tokens can then be traded on a secondary market.
A new “token economy” offers the potential for a more efficient and fair financial world by greatly reducing the friction involved in the creation, buying, and selling of securities. We see four key advantages that tokenization provides for both investors and sellers:
Greater liquidity By tokenizing assets—especially private securities or typically illiquid assets such as fine art—these tokens can be then be traded on a secondary market of the issuer’s choice. This access to a broader base of traders increases the liquidity, benefiting investors who consequently have more freedom and sellers because the tokens benefit from the “liquidity premium,” thereby capturing greater value from the underlying asset.
Faster and cheaper transactions Because the transaction of tokens is completed with smart contracts (software algorithms integrated into a blockchain with trigger actions based on pre-defined parameters), certain parts of the exchange process are automated. This automation can reduce the administrative burden involved in buying and selling, with fewer intermediaries needed, leading to not only faster deal execution, but also lower transaction fees.
More transparency A security token is capable of having the token-holder’s rights and legal responsibilities embedded directly onto the token, along with an immutable record of ownership. These characteristics promise to add transparency to transactions, allowing you to know with whom you are dealing, what your and their rights are, and who has previously owned this token.
More accessible Importantly, tokenization could open up investment in assets to a much wider audience thanks to reduced minimum investment amounts and periods. Tokens are highly divisible, meaning investors can purchase tokens that represent incredibly small percentages of the underlying assets. If each order is cheaper and easier to process, it will open the way for a significant reduction of minimum investment amounts. Moreover, the higher liquidity of security tokens could also reduce minimum investment periods since investors can exchange their tokens on the secondary markets, which are theoretically global and 24/7 (subject to regulatory limits).