For the past twenty years, the financial industry has been “digital.” Companies with the strongest computers, financial softwares, and technologies have succeeded. One could argue that we are fully digitized. But, the past twenty years was just the beginning. We are on the verge of another digital revolution: tokenization. In this blog post, we will define tokenization and how it is disrupting companies and the general industry at an exponential rate.
With blockchain technology and the adoption of decentralized ledgers, clarity and transparency are two factors that this new technological revolution is based around. Now, we can build a system based on assets rather than institutions. People can trade assets directly and cut out the middleman. Imagine a public, decentralized ledger that everyone has access to; everyone can see who traded what, and how an asset got to where it is. And imagine if there was 100% agreement. This would revolutionize banking, financial brokerages, and many more financial institutions.
What is tokenization and some of its benefits?
Put simply, the tokenization of assets refers to the process of issuing a digital blockchain token to digitally represent a real tradeable asset. A token is created to represent this; the tokens are created through an Initial Coin Offering (ICO) and can represent utility, equity, or payment tokens. In essence, a tokenized security is a redeemable digital coin that directly stakes claim to a physical asset, such as Gold, a stake in a company, ETF, etc.
A token economy is democratic and financially fair. Information is publicly available on the ledger, which allows for maximal transparency. The friction involved in the creation, exchange and distribution of securities is greatly reduced. Another significant benefit is greater liquidity: by tokenizing securities, especially illiquid assets (such as expensive artwork), the asset can be digitally traded on a secondary trading market. The access to a broader base of traders increases the liquidity because investors and buyers have more freedom.
Tokenization also allows those who are less well-versed in financial markets to become investors and have a stake in this new economy. Unlike a physical asset, tokens are highly divisible, meaning that an investor can own a partial percentage of an underlying asset. As of now, there is little government regulation and control over the tokenized market, and you can trade these securities 24/7. This will result in the financial industry becoming cheaper, more accessible, subject to less regulation; this could potentially unlock billions of dollars worth of illiquid assets, thus drastically increasing volume.
What are the disadvantages and potential issues of tokenization?
The most significant issue regards taxes. There is no international tax law or tax regulation with regards to tokenized securities or cryptocurrencies, so governments will not just accept losing potential taxes. Because this aspect of decentralized digital technologies is undefined, many experts predict that intense government regulation will hurt the prospects of the token economy.
A second issue regards security. Although the blockchain platform is completely secure, details of locational and custodial security for digital tokens have not been worked out perfectly. In the case of stolen coins or hacked databases, the financial consequences in both individuals’ lives and public companies could be dire. Experts also do not how various markets would be impacted, and how sectors’ use of tokenized securities would differ from one another. For example, the real estate industry will not adopt widespread tokenization before investors, sellers, and brokerages are confident that the tokens are verifiable, safe, and ubiquitous.
Blockchain technologies and the digitization of currencies is shaking up global economies and governments. It has made investing more accessible and transparent than ever before, and this is just the beginning. While there are many benefits to the tokenization of assets, such as divisibility, accessibility, and liquidity, we should be cautious before adopting this market fully. The international governments still have yet to regulate a token economy, and countries will vary their policies immensely. This tokenized economy is nascent, but the growth has been exponential, and it very well may be the next revolution in the modern world.