Owners of crypto-assets need a way to access liquidity without selling their holdings as well as ways to invest their crypto-assets in a secure, transparent, decentralised approach to generate a fixed income. Even though it is a very new industry, already multiple platforms have been developed to solve this issue. In this article, we will give a brief introduction on blockchain technology and an explanation of why we believe that the Ethereum blockchain provides the best tools for lending purposes.
Introduction to blockchain
Blockchain ledgers are a decentralised method of record keeping that have developed as an answer to some problems in computer science.
Bitcoin emerged as the first computer system to conclusively solve the “double-spend” problem for digital currency using an open, permissionless, peer-to-peer network. The term “open” is used to mean that there are no restrictions about who can send or receive requests from the network. The term “permissionless” means that any computer can contribute computational power to the network. This is in contrast to “permissioned” networks where only computers that have special “permission” (usually in the form of some certificate issued by an authority) can contribute computational power to the network. Because any computer can submit computations to the network, these computers cannot automatically trust one another.
The double-spend problem arises because digital information is effortless to copy. This is a problem for a digital currency because currencies require notion of memory. Bitcoin solved this problem by creating a network where all transactions from one peer to another are entered into a shared ledger. Every computer that stores a copy of this ledger competes against all the other computers in the network to add valid transactions to the ledger. New transactions must be approved by a majority of computers in the network — each of which has an incentive to prevent every other computer from cheating. The method of adding transactions to the ledger entails that the difficulty of tampering with the ledger increases exponentially with every set of transactions added. This makes the ledger effectively tamper-proof, a property of transactions called “finality”.
The practical upshot of all this is the creation of a single shared record of a scarce digital resource. Because scarcity is a feature of many things in the world, it follows that blockchain ledgers allow computers to reflect this feature, and can be used to model things like ownership and transfer of value without having to resort to a third party or intermediary for verification. It is important to remember that blockchain ledgers generally allow a high degree of transparency and auditability, and can create trust between users because they offer proof that some value is stored at some specific location. The shared blockchain ledger functions as a single, immutable, secure, shared source of truth for the assets it records.
Ethereum Blockchain
A subsequent innovation on blockchain ledgers was the development of the Ethereum network. If bitcoin is perceived as a solution to the double-spend problem for digital currencies, then Ethereum can be thought of as the solution for modeling contracts between network participants that do not require a third party for enforcement.
A more formal view of Ethereum is that it allows users to encode any state onto the ledger, and then specify a state transition function with given a set of inputs. The rules for this state transition must be shared to every computer that stores a copy of the ledger. This is because each of those computers has to be able to compute the state transition to return a valid result if it is in competition with others to add transactions to the ledger. A consequence of this is that every party that has a stake in some state transition can audit the rules, and submit an amended version if necessary.
Since ownership (in law) can be encoded as a state, and since inputs can be specified for a state transition, it follows that the Ethereum blockchain can function as a platform for encoding any conditional transfer of ownership from one party to another subject to a set of rules and inputs. These rules are commonly referred to as “smart contracts” because they execute the state transition programmatically when their inputs are satisfied.
This fact is responsible for a trend towards “tokenising” assets on the blockchain. Because blockchain ledgers allow for the creation of scarce digital assets, and because scarcity is a feature of tangible and intangible assets (like gold, or property ownership), it follows that blockchain ledgers are suitable places for “tokens” that represent rights to these assets to be created, for ownership of the asset to be reflected by ownership of the token, and for transfer of the asset to be reflected by a transfer of ownership of the token (state change) subject to specified rules (smart contracts).
The Ethereum public network is secure, permissionless, open, flexible, and has a proven track record as a viable tool to deploy regulated debt securities in major jurisdictions.
The blockchain layer also enforces the terms of the contracts deployed. The enforcement mechanism is a set of “smart contracts” that form a part of the Ethereum blockchain ledger. As constituent parts of the ledger, these contracts are immutable because of the property of finality. They are also auditable by all parties because they are published on a public permissionless ledger. The consensus rules of the Ethereum blockchain require that the smart contracts be enforced when a set of inputs are submitted to the ledger. Because the contracts are part of the fabric of the Ethereum blockchain they stand or fall with the network. Since the network is secured by thousands of nodes — whose owners have considerable financial stakes in the maintenance of the network — that each stores a full copy of the ledger, it is virtually impossible to take down, and much more secure than almost any other data structure in human history.
Smart Contracts
The smart contract layer is necessary because it represents the terms of the smart contracts agreed on the platform. Its function is that of a record of a particular agreement. In addition to this, the contract can manage the life-cycle of a security as the blockchain layer enforces its terms.
Blockchain ledgers can only encode states and state transitions of assets that are part of the ledger. This means that the ledger cannot get information about the state of the world outside the ledger. If any smart contract requires information about the state of the world beyond the blockchain, then this information must be provided by an oracle.
The smart contract layer ensures that the terms of a contract agreed on the platform are encoded in an auditable format on an independent third-party register, and that the contract will be enforced according to the terms it encodes.
Our goal is to help companies and individuals to fulfil their potential with better access to capital. Capexmove is a marketplace for tokenised loans on the Ethereum blockchain.
Capexmove allows borrowers to pledge cryptocurrency as collateral to obtain credit enabling them to realise the value of their assets without having to liquidate them. Each loan issues a specific token that collects interest and principal payments for the bearer. These “debt tokens” are tradeable on the Ethereum blockchain. Each loan is managed by smart contracts deployed on the Ethereum blockchain. These smart contracts process payments between investors and borrowers automatically. In the case of a default, they distribute collateral to owners of the debt tokens.
Capexmove has been accepted into the 4th cohort of the Financial Conduct Authority’s Sandbox programme to test its debt-issuance platform and leverage this precedent to gain rapid regulatory approval in the UK and abroad.
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