It’s hard to imagine that just a few years ago, only a small, hardcore group of Bitcoin enthusiasts would have understood the term “blockchain.” Now, the technology is proving its worth across a wealth of use cases, from supply chain to cloud computing. So much so, that according to PwC’s 2018 Global Blockchain Survey, 84% of surveyed executives said that their companies are now “actively involved” with blockchain technology.
The main reason for this hype is the emergence of enterprise-grade blockchains such as Hyperledger Fabric or R3 Corda, which represented the next significant development in blockchain after Bitcoin.
However, there is now a third revolution sweeping into the blockchain space. Asset-backed tokens are digital tokens representing real-world assets, and they provide tremendous opportunities to transform the way business is done.
Understanding and Identifying Asset-Backed Tokens
Digital tokens can take various forms. The taxonomy can often become mixed-up and confusing, particularly while regulators are still making their minds up what’s what. However, Swiss financial regulators have issued some helpful guidance to distinguish between payment tokens, utility tokens, and asset-backed tokens.
Bitcoin is the original cryptocurrency, designed to serve as a store of value that can be exchanged between peers without the need of a financial institution to mediate. Others include Litecoin or Dash. Their core defining feature is that they are pure payment tokens, with a function similar to fiat currencies.
Utility tokens were the next progression. Ownership of a utility token allows users to access a specific function within a particular blockchain-based ecosystem. Pure utility tokens should confer no rights of company ownership or promise of future value for the holder. For example, the Binance token (BNB) allows token holders to trade on the Binance exchange with reduced transaction fees.
Asset-backed tokens are the most recent development. Asset-backed tokens are backed by a real-world asset such as gold, crude oil, real estate, equity, or just about anything else. Therefore, an asset-backed token’s value is directly affected by the worth of its underlying asset.
Asset-backed tokens are generally classified as securities by financial regulators. Ownership of the token represents a right of ownership over the asset, and often the expectation of future returns when the asset appreciates in value.
The Benefits of Tokenization and Asset-Backed Tokens
Asset-backed tokens offer many benefits for investors and businesses alike.
1. Leveling the Playing Field for Illiquid Assets
As The Next Web reported in 2018, there is an estimated $256 trillion worth of assets in the world today. However, many of these assets such as real estate or fine art are of low liquidity depending on market conditions. This makes them difficult to sell or transfer.
Consider the scenario of selling a piece of fine art. The pool of buyers is limited to those who can physically take custody of the piece. Using a digital token that represents the piece of art introduces these real-world assets to a larger pool of investors and participants. Someone on the other side of the world can buy and sell the art-backed token without needing to take custody of the piece itself. As a result, goods and services become more liquid, and companies and traders can reach larger customer or investor groups.
2. Introducing Fractional Ownership across New Asset Classes
Tokenization also enables fractional ownership of existing assets. Currently, it’s difficult for an individual to buy a piece of an asset like art, an automotive, or real estate.
Let’s come back to our fine art example. This time, rather than issuing a single token, the art can be represented by a set of tokens — the seller can choose how many. Each token is pegged to an equal fraction of the piece of art. These art-backed tokens can then be traded individually, or in groups, in a similar way to how company shares are traded today.
This offers enormous potential for more individuals to participate in wealth creation. The millennial generation in the UK, for example, would need 19 years of savings to buy a property. With real estate backed tokens, consumers could be given the option to purchase a fraction of real estate as a way of getting a foot on the property ladder and maximizing the opportunity for geographical arbitrage.
3. Raising Equity Capital and Trading Real-World Assets
Whereas the blockchain startups of 2017 and most of 2018 were focused on the Initial Coin Offering (ICO), their successors are now moving towards the Security Token Offering (STO). The STO provides a means of selling tokens backed by equity in the company itself.
This gives the company a way of raising the capital it needs while remaining compliant with financial regulation of securities trading. For the investor, it’s equivalent to buying company stocks — they own a stake in the company itself, benefit from any increase in the value of the company, and are eligible to receive dividend payments.
Established companies can also take advantage of tokenization as a means of raising capital. This could be done through issuing asset-backed tokens as new equity instruments, per financial regulations. Alternatively, businesses could tokenize existing assets for sale.
Individual investors can buy into real-world business assets without physically storing or exchanging the asset. This not only reduces trade friction, but also lowers logistics costs. Through asset-backed tokens, transactions can happen more rapidly and efficiently.
4. Ensuring the Finality of Transactions and Reducing Transaction Costs.
Today, many assets including minerals, artwork, securities, and real estate are exchanged using paper trails and manual processes, usually involving one or more intermediaries such as brokers to oversee trades. Blockchain technology means everything can be digitized, using online exchanges to trade digital asset-backed tokens.
The technology’s function as an open and transparent ledger means that transactions are easily verifiable. Further, blockchains are immutable, meaning that token ownership is incorruptible. This provides transaction finality, which is crucial in international trade for both parties.
In addition, a blockchain network verifies the transaction, reducing or eliminating the need for middlemen. This significantly lowers transaction fees, which in turn facilitates trade.
The Best is Yet to Come
We’re already observing the potential of asset-backed tokens as they start to gain traction. Governments are tying crude oil to the value of official digital tokens. Singapore-based Digix Global is trading gold-backed tokens on the blockchain. Security token offerings are referred to as “the next big thing in crypto” as they overtake ICOs as the go-to means of raising startup capital.
Ultimately, using blockchain technology to tokenize assets can help grant liquidity to previously illiquid markets, allow for cost-effective and instant transactions that do not rely on a central party, and promote both security and transparency. Tokenization provides far easier ways of trading assets than ever before. Therefore, it will undoubtedly have a seismic impact on the way we all do business in the future.
Leave us a comment to let us know what you think of the future of asset-backed tokens. Will it revolutionize how businesses operate or is it a temporary hype?
This article is brought to you by CoreLedger.
As a prominent blockchain infrastructure provider, CoreLedger is making blockchain technology simple for businesses to use. With CoreLedger’s offerings, clients can readily tokenize their offerings with fast-to-implement resources that will allow them to modernize their services. Thanks to our in-house developed software solutions and experienced blockchain specialists, CoreLedger is ready to help you make your next move with blockchain technology.