(April 21st, 2023)
By (Brent Verhoest & Alex Michielson, Equity Analysts)
Edited by (Ascanio Cicogna, Head of Research)
Introduction
A relatively recent development in the financial markets is the tokenization of equities. It is achieved by transforming traditional stock ownership into digital tokens that are stored on a blockchain or on a distributed ledger technology (DLT) platform. As a result, a company's shares are represented by digital tokens that may be purchased, sold, and exchanged on a platform built on the blockchain. Stock tokenization has the ability to upend established financial markets and fundamentally alter how investors access and trade equities. Notwithstanding the difficulties and unknowns that come with this new technology, the advantages of more accessibility and liquidity could result in a more effective and democratic financial system.
A few crucial processes are normally involved in the tokenization of stocks. A business that wants to tokenize its shares will first collaborate with a blockchain-based platform that can offer the infrastructure required for tokenization. The platform will carry out a comprehensive due diligence procedure to make sure the business complies with all legal criteria and is qualified for tokenization. The company's stock is then changed into digital tokens and stored on a blockchain or DLT platform. Ultimately, users of the site can purchase and sell these digital tokens using cryptocurrencies or fiat money. The technology makes sure that every transaction is documented on the blockchain, giving investors a transparent and safe means of trading tokenized stocks.
There are many businesses that provide platforms for the tokenization of stocks. Securitize is one such platform that provides a number of services for tokenizing securities, including equities, bonds, and real estate. For businesses looking to acquire capital through tokenized securities offerings, Securitize offers a safe and legal option. tZERO is a different platform that specializes in tokenizing conventional products including stocks, bonds, and ETFs. By utilizing blockchain technology to ensure that all transactions are tracked and resolved in real-time, tZERO provides investors with a safe and transparent means of trading tokenized securities. Last but not least, tokenized stocks, bonds, and other securities can be traded on the MERJ Exchange, a fully regulated securities exchange. It gives investors access to a variety of tokenized assets and gives businesses a convenient way to raise money. As blockchain technology develops further, more platforms and businesses will likely start looking into the possibility of tokenized assets.
Benefits
The advantages of tokenizing equities are numerous and have the potential to have a big impact on the financial markets: First, tokenization might make the stock market more liquid. Investors may be able to buy and sell tokenized equities more rapidly and effectively than they would otherwise with traditional securities since digital tokens can be traded around-the-clock on platforms built on the blockchain. This might shorten the time it takes for transactions to be completed, resulting in quicker settlement times and a more fluid market.
Furthermore, tokenization might improve market efficiency and reduce transaction costs. There is less need for intermediaries, which can lower transaction costs, as blockchain-based systems can automate the settlement process and record transactions in real time. Further increasing efficiency and lowering costs, the transparency of blockchain-based systems may make it simpler to determine ownership and lower the possibility of fraud or mistakes.
Finally, tokenization might interfere with conventional exchanges. Traditional exchanges may become less necessary as more businesses and investors adopt blockchain-based platforms for tokenized securities. Decentralized platforms might be used to trade tokenized securities, which would diminish the need for centralized exchanges and create new opportunities for peer-to-peer trading. The financial markets may become more competitive and innovative as a result, opening up new opportunities for both businesses and investors.
Potential Drawbacks
While the tokenization of equities has numerous potential advantages, there are also a number of difficulties that must be overcome:
Regulator ambiguity is one of the biggest problems. Tokenized securities, which are governed by different regulations than conventional securities, are a topic that regulators all over the world are still trying to figure out how to control. This might hinder the adoption of tokenization in some jurisdictions and cause confusion for investors and businesses. Furthermore, there is a chance that legislative adjustments will make tokenization less appealing or perhaps impossible for some businesses.
The possibility of fraud and market manipulation presents another difficulty. The same sorts of fraud and manipulation that can affect traditional securities can also affect tokenized securities, and there is a chance that dishonest people could use the new technology to commit fraud or pump-and-dump operations. Investor trust in tokenized securities could be damaged by this, which would delay adoption.
The technical complexity of adopting blockchain technology is a third difficulty. Blockchain has several advantages for tokenization, including security, transparency, and efficiency, but it also has to be implemented and maintained by people with specialized technical understanding. This may act as a barrier for businesses without the required internal expertise and may restrict the usage of tokenization to larger, more technologically capable businesses.
Other difficulties to take into account include scalability, interoperability, and the potential for network congestion. Blockchain-based systems may struggle to handle the volume of transactions as the number of tokenized securities rises, resulting in longer transaction times and more expensive fees. However, because each network has its own technological requirements and protocols, interoperability between several blockchain networks might be difficult.
Case Studies
A new era in the financial markets has begun thanks to the successful tokenization of stocks by a number of businesses and platforms. The tokenized shares of Rush Street Interactive, a US-based sports betting company, is one illustration of successful tokenization (RSI). By directly offering its tokenized shares on the blockchain-based exchange platform MERJ Exchange in August 2020, RSI became the first gaming firm based in the US to list on the New York Stock Exchange (NYSE).
The tokenized equity of the aforementioned blockchain technology company tZERO is another example of effective tokenization. Investors can now trade tokenized securities around-the-clock thanks to tZERO's establishment of the first regulated security token trading platform in 2018. In August 2020, tZERO declared that it had successfully issued a tokenized instrument that represented shares of the US-based online retailer Overstock.com.
In terms of performance, investors have shown a great interest in Rush Street Interactive and tZERO's tokenized stocks. While tZEROs tokenized securities have seen high trading volume on the platform, RSI's tokenized securities initially traded above their initial offering price. These case studies imply that tokenized securities have the potential to pique investors' interest and present fresh opportunities for businesses looking to raise money.
Conclusion
In conclusion, the tokenization of equities is an area of the financial markets that is fast developing and has the potential to drastically change how investors can access and trade securities. In this procedure, digital tokens are created to represent ownership in a business, asset, or investment opportunity, and blockchain technology is used to enable safe and effective trade.
Increased liquidity, fractional ownership, more effective markets, and disruption of established exchanges are some of the major benefits of tokenizing equities. However, these advantages come with some serious drawbacks, including legislative ambiguity, technical difficulties, and the possibility of fraud and market manipulation.
Investors and financial institutions must adopt strategies to control risks and adhere to rules as well as be proactive in adapting to new technology and business models as they traverse this shifting terrain. This could entail spending money on education and training, investigating fresh markets and social media platforms, and working with industry partners to spot cutting-edge trends and best practices.
More research is required to understand the possible effects of this technology on the financial markets, to create techniques for controlling risks and optimizing possibilities, especially as the tokenization of equities continues to develop. Future studies should focus on issues including how tokenization affects market liquidity and efficiency, how new investment strategies and business models are created, and how regulatory frameworks and standards for tokenized securities are evolving.
Ultimately, tokenizing equities has a number of benefits that have the potential to revolutionize the financial markets. Tokenization may improve access to investment opportunities while lowering costs and raising transparency through boosting liquidity, fostering a more effective market, and upending established exchanges.
Legal disclosure:
The projections or other information generated by BSTA regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. As such, BSTA does not assume any legal responsibility for actions that may have been taken by readers associated with any investment projections made by the members of BSTA. There are risks associated with investing in securities. Investing in stocks, bonds, exchange traded funds, mutual funds, and money market funds involve risk of loss. Loss of principal is possible.
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