Fintech's disruption of traditional finance has been ongoing for years now. Despite all the progress made towards digitization, cashless payments, paperless processes and tokenization, the biggest transformation in finance is still yet to come. But fueled by news headlines about Binance's foray into selling tokenized stocks, and by the ongoing appetite for non-fungible tokens, the concept of tokenization is becoming more prominent.
It's fair to say that the US Securities and Exchange Commission still has some way to go in terms of laying down the legal frameworks necessary for a financial ecosystem that can nurture tokenization. But on the international stage, there are other countries making strides.
For example, Switzerland has long been renowned for its forward-thinking approach to digital assets, leading to the area south of Zurich becoming known as the country's "Crypto Valley" due to its status as a blockchain hub.
This year, the Alpine nation will become the first to implement the necessary regulatory infrastructure to enable the secondary trading of digital securities. It's already implemented the first phase of its so-called "Blockchain Act," allowing companies to issue digital tokens representing physical assets. Sygnum Bank, one of the first Swiss banks to gain accredited status as a digital asset issuer, was also among the first to issue tokenized assets representing an investment in premium wines.
Asia is also providing fertile ground for asset tokenization. Singapore's biggest bank, DBS Holdings, recently announced it would allow private banking clients to invest in cryptocurrencies. The move came after the bank launched its own platform in December 2020, providing institutional and accredited investors a full ecosystem for tokenization, trading, and custody of digital assets.
To understand the extent to which tokenized assets could take over the traditional markets, we need to think bigger than tokenizing assets like stocks, which are traded with relative ease.
In fact, the market infrastructure around commonly traded assets like stocks, forex or commodities is so well-developed that there's little room for making significant gains. For that reason, many traders turn to crypto and DeFi in the first instance, as the volatility offers far more opportunities.
Tokenization is at its most interesting when we consider the illiquid markets for many real-world or exotic assets that just aren't accessible to the long tail of smaller retail investors, often due to their price. Real estate is one obvious example, but there are many. Consider the markets for big-ticket assets like fine art, fine wine, racehorses, or soccer clubs.
Oscar Yeung is the co-founder of Convergence, a new DeFi platform that allows for asset tokenization and trading via liquidity pools. He believes that we're only at the start of the tokenization journey, telling iHodl:
"In the past, when we talked about tokenization, people mostly referred to STO. However, with DeFi, tokenization can be done in a much more creative and flexible way and make up for the shortcomings of the traditional STO model. NFT is an excellent example. It's a kind of tokenization, after all."
Then there's the chance to invest in early-stage or pre-IPO companies, where everyday investors are often locked out due to minimum investor requirements. In the digital world, imagine having had a chance to purchase a slice of Beeple's $69 million NFT artworks sold through Christie's.
A key word here is "share" – because tokenization can make any asset fractional, offering sellers the chance to break any asset into smaller fragments, where a token represents the buyer's share. In this way, anyone can sell any asset in tokenized fractions, opening up the world's markets for all assets to a long tail of small buyers and sellers.
Along with the increased liquidity from opening up to a large base of investors who would otherwise be locked out from the markets, there are plenty of other benefits. The underlying blockchain smart contracts could have all ownership rights and obligations programmed into the code. So if there are voting rights or ownership certificates, these can be handled on the blockchain directly without the need for paperwork or administration.
Trades can happen instantly, and with anyone in the world, in markets that operate 24/7. While these may seem like trivial efficiencies, their combined effect offers a massive liquidity boost.
Bridging CeFi and DeFi
Oscar Yeung of Convergence also believes that tokenization offers broader opportunities. He states:
"We expect to see more institutions take advantage of DeFi's innovations. Tokenization in DeFi could be the bridge that further connects the crypto space and the traditional finance world."
CeFi is built around the real world and the assets contained within, whereas to date, DeFi has existed almost as an experiment that attempts to replicate the traditional markets but in an automated way around digital assets. Tokenization is the bridge that will connect these two worlds and ensure that the value of real-world assets can be captured and realized in the digital realm.
When combined with many of the other innovations that have emerged from capital markets over the last few decades, such as quant trading, it becomes apparent that there's a vast amount of global value that has yet to be captured. However, the technology and infrastructure are now in place for the next big innovation in finance to play out.