A world without a centralised exchange!

In real world, if you want to buy or sell something all you need to do is find the seller/buyer and make a deal with a defined price.

Ramesh and Riya here make a deal, agree on a price and make a transaction. No middle party.

But buying and selling shares was much difficult, how would you find someone who wants to buy your SBIN share if there is no one with SBIN share near you.

Enter the exchange, they act as a central exchange for people to buy and sell share certificates. But it still doesn’t solve the problem as people have to travel to the exchange in a different city and then let them know his desire to make a transaction. (This is also the reason that place where exchanges were built earlier like Mumbai have people more aware with stock market)

Hence, some people observed this opportunity and started acting as a broker between investors and exchange. They would take orders from clients and send them to exchanges saving the client time and money.

Now with the entry of digital shares, you would need a third party to keep your shares safe. This gives birth to custodians which are banks and other entities registered with the exchange who would keep your shares safe in a locker.

Now when you sell, your broker gets you a good price from exchange and tell your custodian to transfer shares to buyer’s custodian and they transfer the money to you.
We also need to observe that now as many middle-men come in between, your charges would also increase as so many transactions are taking place.

Now, to safeguard investors the system also needed to make sure that no buyer or seller is fraudulent and transfer the shares and money when the transaction is done.

Clearing house will act as a central counter party i.e. once trade gets executed in Stock Exchange trades will be moved into clearing house and they will be responsible for buyers and sellers. Basically they will enter into obligation with buyer side for timely settlement of their shares and also enter into an obligation with seller for settlement of their money. Now buyer don’t have any risk and also seller because Clearing house is taking the risk on behalf of them.

In other words clearing house will becomes like a governing body for settling the trades in a timely manner (T+2 settlement in India)

Now also a central authority would be required to make sure the book keeping of shares so companies don’t need to go to various custodians for information of shareholders and who to give dividends to.

A central securities depository (CSD) is a specialist financial organization holding securities such as shares either in certificated or non-certificated (de-materialized) form so that ownership can be easily transferred through a book entry rather than the transfer of physical certificates.

Now our system looks likes this.

This whole web got introduced between buyer and sellers just to keep book records and ledger.

This increases our charges a lot but makes life easier, we don’t need to worry about anything and can have to interact with just one entity.

But do we need so many middlemen?
What if you want to buy shares in a foreign company, the process become more difficult.

The initial problem was just to find a buyer and seller, but we ended up creating a web of entities.

But can we remove them and directly connect buyer and seller.
Blockchain is solving this problem with a decentralised exchange.

Decentralised exchanges are coming up in crypto markets, where there is no central authority. It enables users to transact cryptocurrencies without the need to trust a centralized entity to be an intermediary for the trade or a custodian for their cryptocurrencies.

It provides the following benefits

1. Lower counter-party risk (No need to trust exchange or brokers who in some cases also use your data, fraud cases like Anugrah Stock and Broking Pvt Ltd duping investors of crores also came up)
2. The potential for lower transaction fees
3. Diverse array of options (global investments)

Blockchain based protocols allow peer to peer transactions that are settled on the distributed ledger (no central authority maintaining the ledger)

On-chain settlement is a necessary element that enables users to eliminate the need to trust a centralized party (such as a centralized exchange) to control user assets, settle trades, and ensure that account balances are correct. On-chain settlement helps users publicly verify on the ledger that their trades were settled according to their desired terms.

The system does face a lot of challenges ahead like higher trade latency, lower liquidity and less intuitive interface makes them difficult for retail investors. But as more and more people trust the system, these challenges will be solved.

Can we see stock markets on decentralised exchange?
No, not anytime soon as stock markets have a lot of regulatory bodies and trust of the companies is also needed. Plus converting of shares into tokens is a different problem in itself.

But I believe blockchain can be used to cut down some middlemen in the system as ledger and booking keeping can be done in this distributed ledger.

Well, but surely blockchain can bring us to the minimal and the most easy way of making transaction as we would return in full circle to the initial way and technology will make it possible!