Editors Note: This article comes fromChain News ChainNewsEditors Note: This article comes from
Chain News ChainNews
(ID: chainnewscom), author: Stephen McKeon, professor of finance at the University of Oregon, co-founder of SkywardIO and @C2fund, compiled by Zhan Juan, published with permission.
Last summer, I wrote an article on the tokenization of traditional assets. In the article, I posited that all kinds of assets will be transferred to the blockchain to record ownership, represented in the form of tokens, thereby changing the way society holds and transfers investments. Way. After that, a lot happened. In short, my vision is becoming a reality, and the infrastructure to support security tokens is currently being built.
In this article, I focus on tokens in the traditional asset market space and explain why security tokens have a dominant position in recording and exchanging ownership claims. The properties I lay out below form the basis of this article that security tokens will be widely used across many different asset classes in the coming years.
partial ownership
real-time online market
partial ownership
fast settlement
reduce direct costs
Increased Liquidity and Market Depth
Compliance Automation
Expanding the Design Space of Securities Contracts
The first four are pretty straightforward, and Ive written about liquidity and compliance automation issues elsewhere, so Ill only briefly review these six topics. I will mention that some of these features are possible with relational databases, however, they are not there yet. why not? I provided some initial thoughts in the interoperability section. Finally, I will touch on the possibility of innovation in security design, which will be the most interesting part of the whole article.
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real-time online market
Do real-time online transactions need a blockchain? Of course its not required, but its part of the package. The blockchain ecosystem is a technology stack, “24/7” is the self-evident standard for cryptocurrency trading, and time will tell if a similar strategy will be adopted for security token trading.
partial ownership
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partial ownership
Fractional ownership is not unique to blockchain, in fact, it is not even new in this century. Shared ownership dates back to the Roman Republic, and more recently, the Dutch East India Company. Some asset classes, such as commercial real estate and fine art, are still characterized by high unit costs.
Often a retail investor cannot command the resources needed to buy a building in Manhattan. Investors are left with two options: [1] abandon the ambitious goal of including Manhattan commercial real estate in their portfolios, or [2] achieve partial ownership through an intermediate channel, such as buying a real estate investment trust (REIT), which usually Bundle and sell other mansions of different qualities and characteristics.
At scale, this also opens up new investment strategies. Long-short strategies have been used in the stock market for many years, and these strategies can be extended to any asset class that can divide ownership. Imagine if you could be long Brooklyn and short Manhattan, you could create a NY market neutral portfolio of real assets. To implement these strategies, you either need a security token credit market, or you need to short through a combination of derivatives.
As fractional ownership transaction activity increases, price discovery mechanisms will be enhanced, and market activity will become more efficient for assets that were previously infrequently traded due to higher unit costs.
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fast settlement
Exchanges such as Nasdaq and NYSE can execute trades very quickly, but transferring assets takes time. The SEC has recently shortened the settlement cycle, and most brokerage proprietary trading cycles are T+2. The 2 is the number of days, meaning ownership will not change hands for two days after the trade is executed. However, it may take longer to complete the transfer of interests of limited partners and limited liability companies.
In a 2014 article on securities settlement, Richard Brown illustrated the complexities of settling public equity transactions with the following diagram:
The settlement cycle of a Bitcoin or Ethereum transaction is not a few days, but a few minutes, but there are more participants in securities transactions-more than most investors understand, and there are some quite complicated issues, Such as short selling and buying on margin. Blockchain has the potential to improve the speed of settlement of securities, but this is more complicated than cryptocurrencies. The degree to which processes can be automated through interoperable smart contracts will determine how quickly settlement can be accelerated.
cut costs
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cut costs
The high cost of advisory services around securities offerings is not going to change anytime soon. However, several parts of the distribution process will eventually be automated, which will reduce costs in the long run.
When all ownership claims are tokenized, the ownership structure table will be verified in real time through code. All contractual points such as liquidation preferences, ratchet clauses, and mandatory tagging rights will also be written into the security token program, so that managers can easily perform scenario analysis to calculate returns under different assumptions .
Direct cost reduction is not the most interesting benefit of security tokens, but if it can cut off a lot of management costs, this in itself is enough to drive some companies to try equity to tokens, cloud storage company Anexio is currently doing so .
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Liquidity and Market Depth
Most private assets are relatively illiquid, meaning ownership interests are expensive to trade. For private assets, such as limited partner LP interests in venture capital or private equity funds, exits before fund liquidation are often heavily discounted and often require general partner GP approval.
Josh Stein, CEO of securities tokenization startup Harbor, puts the benefits of tokenization succinctly: “Locking up capital, not locking up investors.” Tokenized funds allow fund managers to invest in Illiquid assets without worrying about redemption, while fund investors can obtain liquidity in the secondary market.
Increases in market depth and investor liquidity for ownership interests are expected to be accompanied by increases in value. This is what economists call a liquidity premium. With the exception of VCs, all types of private securities are generally extremely illiquid. Security tokens promise a similar increase in liquidity in asset classes like real estate and early-stage equity.
The divisible nature of the high unit cost makes these assets accessible in a wider market, but market depth will also increase in a number of other ways:
2. Algorithmic market makers like Bancor appear to have some market depth.
3. Security tokens can ease market segmentation and make it easier for buyers in one country to acquire assets in another country. As I discuss in the next section, security tokens can automate numerous compliance features, potentially smoothing out some regulatory friction and facilitating global market integration.
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Compliance Automation
I touched on this topic back in February when Harbor was born, so Ill just briefly summarize it here. Disclosure: I am a consultant to Harbor Corporation.
Tokenization of securities is often done to ease trade frictions, and one of the most complex frictions is compliance. This is complicated for at least two reasons:
1. Various rules can change in multiple dimensions such as asset type, investor type, buyer jurisdiction, seller jurisdiction, and brokerage jurisdiction. Each dimension has numerous regulatory portfolios and multiple regulators governing transactions.
2. Regulatory compliance is typically documented through a series of separate books, each structured by the entity facilitating the issuance and/or secondary market transactions. Ownership and compliance can only be legally verified if a reconciliation of all these books is completed. In this environment, maintaining compliance adds delays and costs to transactions, fragments markets, and reduces liquidity.
Compliance can also be automated when securities are tokenized, meaning regulated transactions are no longer confined to a closed platform. Security tokens can be traded anywhere, including decentralized exchanges. Building compliance into token procedures can help market participants navigate the extremely onerous task of selling securities across borders.
Security tokens will make compliance management extremely smooth, so it is likely that regulators will take the lead in requiring securities companies to tokenize in the end. I heard it from Anthony Pompliano. This is not as far-fetched as it may seem on the surface, and the SEC has precedent for mandating technology. Back in 1996, the SEC required companies to file electronic financial statements through EDGAR, and then they adopted XML technology. Recall that in 1996, the public was just beginning to use the Internet, so the SEC was ahead of the curve in this regard. In 1996, there were only 36 million Internet users, accounting for 0.9% of the worlds population. That’s not too far off from the adoption rate of blockchain today. At the time of writing, there are over 20 million accounts on the Coinbase platform alone.
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Asset Interoperability
Interoperability is one of the most important concepts in technology. The Internet is essentially a bunch of protocols that enable many different types of software to exchange and utilize information, such as TCP/IP, SMTP, FTP, SSH, HTTP. Thats why I can write emails in Outlook, send emails from my .edu email to a friends .com email, and read emails in Google Chrome.
The arc of technological evolution shifts toward interoperability, which is driven by standards. Standards, by definition, must be widely agreed upon to be effective, making it more challenging for centralized solutions to drive market adoption of standards. Blockchain has given us protocol standards that everyone can build on, and because of that, its the right technology for us to redesign financial plumbing today. Its certainly unlikely to be the right technique forever. Blockchains may evolve to become more scalable, less resource intensive, and more interoperable, or they may be superseded by new technologies with these characteristics. Regardless of what we call it, the important thing is that the consensus system still exists, providing rational economic actors with a decentralized means of verifying the truth. The real innovation here is that the actors are economically motivated to perform this function without central coordination.
Let’s take a moment to answer the question every blockchain skeptic likes to ask: “Do we need a blockchain to do this? Can’t this be done with a database?” The answer is yes, and some of them can. This is done through a centralized database, but it begs the question: So why hasnt it been done by now? The answer is that current centralized solutions for electronic value transfer lack compatibility, they dont interact with each other. I cant transfer money from PayPal to Venmo, or send cryptocurrency from E*Trade to RealtyShares. There is no interoperability between these layers.
The ERC-20 token standard promotes interoperability in the Ethereum protocol, allowing any standard-compliant token to be held in a wallet, making distribution easier.
Metaphorically, lets say I own some ERC-20 tokens that represent ownership of an apartment complex. Every month, the tenant will pay the rent to the building supervisor, and the supervisor will convert it into an ERC-20 stable currency, and distribute the token to all the landlords of the building in a corresponding proportion. No matter which ERC-20 wallet the landlord uses, it can hold ownership and distribute tokens at the same time.
The idea of standardized ownership claims is not new, and thats why your brokerage firm can hold shares in many different companies. Whats innovative about this is that I can use ERC-20 as a standard example of how it allows me to hold security tokens that represent many different types of assets in the same wallet. This is not to say that ERC-20 is the only solution, or that Ethereum is the only protocol with these properties. Scalability remains a major concern. If cross-chain interoperability becomes a reality, we will most likely move beyond ERC-20. Many teams are currently working on this problem.
Everything can be tokenized based on the desire that everything will be interoperable in the future. If the ecosystem of global assets grows to be more interoperable, it means we can have ownership of commercial buildings, early stage equity, corporate bonds, treasury bills, single-family homes, and decentralized networks all on the same platform. This means that these assets can be priced cross-referenced against deeds and interact in an automated fashion. It may also mean that various assets are brought together through a single interface, expanding global liquidity. Perhaps, it even means we wont need to raise as much cash as working capital. The greatest benefit of tokenization relies primarily on the ability of computer systems and software to exchange and utilize information, in a word: interoperability.
If we achieve full interoperability of assets, the ability to seamlessly transfer value across diversified portfolios will have implications for how we manage short-term liquidity needs.
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Expanded design space
A recent article by Lou Kerner reminded me of an old story about TV, which Professor Stevens of NYU summed it up like this:
Many of the early shows, like Amos n Andy 1951 or the Jack Benny Show 1950-65, were borrowed from its more established big brother: the radio network. Most of the new shows were news, sitcoms, The format of variety shows and TV dramas is also borrowed from radio.”
Technology is often developed to improve upon what we already know and understand. Unbeknownst to people at the dawn of television, video content would evolve from visual renditions of programs broadcast by a few major radio networks to millions of user-generated videos on YouTube.
The current phase of security tokens is akin to a radio adaptation on television. Were just starting to touch the expanding design space for securities, and its not yet known how it will continue to evolve from where it is today. For those involved in securities design, this can be a huge creative space.
Security tokens allow us to build contractual properties that were previously impossible to enforce. It brings us closer to the economic conception of full contract theory.
This is by no means an exhaustive list, but I want to offer some ideas to illustrate the point:
Reference to the characteristics of ownership duration may be useful in shaping corporate governance, alleviating problems of managerial myopia. One example that Eric Ries, author of The Lean Startup, and others are touting is voting for life. To explain it simply: the longer you hold a stock, the more votes you get. It’s the equivalent of the founders creating a stock with 10x the voting power when the product launches, but it’s a blunt tool.
access permission
This is an interesting example of a contract feature that can be easily programmed into a token. Cash flow rights, i.e. dividends, can also be varied according to ownership characteristics to create incentives for specific ownership structures. There is a lot to dissect and think about in these models, but the point is that programmable securities will bring innovation to corporate governance.
access permission
The value of access rights is not appreciated enough. For example, many of Sequoias venture funds are difficult to subscribe to, even for some institutional investors. Sequoia has been very successful, and there is evidence that the performance of the VC asset class is durable, possibly related to network effects. This shows that subscribing to Sequoias follow-up funds is a valuable asset. If you are already an investor in Sequoia Capital, you can usually get a part of the pre-emption rights of subsequent funds, but this is not necessarily a contractual obligation, but based on the relationship. This means it is not directly monetized.
If a tokenized ownership claim to a Sequoia fund is confirmed, with holders having subscription rights in subsequent funds, the token could trade at a higher net asset value given the value of its access rights NAV. Lets take the cross-fund data a step further. Suppose there is a fund that currently has low demand, such as Sequoia India, which includes in the contract a clause for future allocation in the new flagship fund. Once the fund is tokenized, in order to release value, subscription rights that were previously obtained based on relationships will be converted to subscription rights based on ownership.
There are many kinds of access rights. In addition to obtaining allocations of financial assets, security tokens can also confer physical access to real estate, or allow access to exclusive event venues. Minority shareholders in the restaurant will get priority seating, or can ask the chef to make dishes that are not on the menu. It can give people early access to a piece of research, or access to advanced features in new software. Access rights will combine the product market with the capital market, merging the concept of owner and user, and this integration will not only appear in the decentralized network, but also in the real world. For example, you can get a discount on holding a specific set of assets whose issuers have entered into a corporate partnership. All in all, access is valuable and will be monetized when security tokens are built.
split value
With the gem of Jim Barksdale, ex-Netscape CEO, at the fore, I can give fewer examples of bundling, such as attaching usage rights to ownership, without acknowledging the design space around unbundling.
Consider all the sources of value that can be split in securities. Voting rights can be split and sold to activists. Dividend rights can be split like treasury bonds. Companies can segregate specific revenue streams and fund them independently. Complex revenue sharing and payment waterfall agreements are made simpler in this environment. There are still many ideas to be explored about this line of thought.
cross asset reference
There is a lot of room for cross-collateralization outside of home equity loans. All kinds of factors that we never imagined will guarantee the loan, causing credit to expand in many dimensions.
in conclusion
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in conclusion
