Announcing the SFT Protocol - Part 1: On Interoperability
This is the first part in our series of articles introducing the SFT Protocol, a set of compliance-oriented smart contracts for Ethereum based security tokens. You can read the second part here, or the third part here.
Blockchain is a new approach to data storage where all participants share a common database secured by cryptography. Unlike centralized ledgers employed by banks and other financial institutions, the blockchain is distributed across a network of computers around the world. The information cannot be erased or tampered with, and is transparent and accessible to all participants in real-time. Through decentralization the need for trusted third parties is removed. As such, blockchain can massively reduce fees and delays that are the norm with cross-border payments. This is disruptive technology, capable of innovating industries such as real estate, energy, supply chain, entertainment and finance.
2017 was the year of the utility token. Exploiting a regulatory grey area, many companies sidestepped regulations to raise non-dilutive capital while conferring no rights upon their investors. Despite the questionable legality of this funding model, the ICO boom nevertheless brought with it an important realization — there are millions of retail investors with an appetite for global investment. What was lacking all this time was access to such opportunities.
The concept of the utility token is established and we do not believe it will go away. But it must become regulated, non-speculative and more coupled to the actual service it is intended to provide. Capturing the network value is a fine idea, but it is a far cry to believe anyone needs 2.2 million software licences for a non-existent decentralized chat service. While there is no reason not to put hotel reward points and airline reward miles on the blockchain, it makes little sense to use them to raise funds to build hotels and buy airplanes before the fact.
Enter the security token.
Unlike their predecessor, security tokens do not seek to circumvent regulation. This emergent asset class bridges the gap between mainstream financial products and cryptocurrency, utilizing blockchain to reduce costs, automate compliance and speed settlement times. Tokenization allows for trustless and secure record keeping, moving fractional ownership of real-world assets (and all accompanying rights) onto the blockchain. It opens the possibility of a world of real-time cross-border trade settlements, immediate deal execution, automated services and the opportunity for liquidity where previously there was none…
The SFT Protocol
At HyperLink Capital we believe in the potential of blockchain technology to radically alter the shape of modern finance, business, and government. We are proud to announce the development of the Secured Financial Transaction Protocol. The SFT protocol is a set of open sourced compliance-oriented smart contracts, written in Solidity for the Ethereum blockchain, that allow for the tokenization of debt and equity based securities. SFT provides a robust, flexible framework allowing issuers and investors to retain regulatory compliance throughout primary issuance and multi-jurisdictional secondary trading. It is designed to be inclusive and to foster the growth of an ecosystem, such that any number of market participants may enter into the space and offer their services unimpeded. There is no single point in the protocol that we or anyone can fully control or monopolize. In this way the expansion of the network is unhindered in all directions.
We believe in interoperability. In the current financial system, securities trade and settle across a multitude of disconnected broker, clearinghouse, and custodian databases. The settlement process is a byzantine and obfuscated maze rife with manipulation. Through tokenization we can standardize how data is represented in these processes, streamlining movement and reducing opportunities for bad actors. We envision a world where security tokens can trade freely across many markets in varying jurisdictions, opening investment opportunities for unexplored investor classes and geographical regions that were previously hindered by bureaucracy, lack of understanding how to participate, cultural or language barriers. Through security tokens, issuers can reach a global investor audience.
We do not believe in rent-seeking. Protocols dedicated to security tokens that require a utility token not only introduce unnecessary friction in an area where adoption is key, but also make issuers and investors alike dependent on the technology provider for the entire-life cycle of their token. While this may seem prudent from a business standpoint, ultimately it stifles the interoperability of their protocol by preventing other companies from developing around it. All new participants within this ecosystem must pass the gatekeeper, and this only creates another iteration of the already existing financial model.
At present there are many companies in the industry, each with their own approach to a security token technical standard. While we all seek to capitalize on this next wave of market growth and thus may view one another as competitors, it is important to step back and acknowledge our greater shared vision. If we build our own walled gardens we will be doing a disservice to this evolving space, and run the risk of being left behind as another approach grows more dominant. If instead we come together to agree upon a common format, such that tokens can travel freely through the ecosystem and market participants can interact with minimal friction, we stand a much better chance at succeeding. The quickest path to mass adoption is interoperability. We must build a playing field before we can compete upon it.
To that end, the SFT Protocol may be considered our proposal for a model that we feel allows the widest range of market participants to interact with minimal friction. We are excited to share with you some of our thoughts on the areas of importance we have identified, our proposed approach, and the challenges we see ahead. Our goal here is not to push our approach as the best or only way, but rather to offer our perspective in an attempt to open discussion with other builders and visionaries who also seek to advance this space as a whole.
In part 2 we will outline the philosophy behind the SFT Protocol, discuss the current shortcomings we see in the market and how we attempt to address them.