After what can only be described of as an interesting week in Singapore for Consensys Singapore 2018 as well as Singapore Blockchain Week, two distinct but disparate themes came out of both events — stable coins and security tokens. And while the jury is still out on what flavor of crypto is likely to whet the palates of the cryptosphere, it is perhaps timely to consider the various moving parts of both proposals.
1. Security Tokens
Not so long ago, U.S. Securities and Exchange Commission Jay Clayton declared that every ICO (initial coin offering) that he had seen was a security and not too long ago, it was the stated intent of every ICO lawyer to declare that an ICO was issuing a utility token and not a security token (although the difference was more a matter of semantics than substance) in order to avoid regulation from the long arm of the SEC. But it seems that time travels quickly in the cryptosphere, for what was once taboo, “security tokens” are now being bandied about as if they’re the greatest thing since sliced bread. So what is a “security token.”
In essence, a security token, would be the acknowledgement by an ICO that they intend for their ICO to be subject to the various laws governing initial public offerings of stocks or shares, but not to the fullest extent. Think of it as “IPO lite” — the full flavor of an IPO, with none of the calories (read “paperwork”). Presumably such security tokens would be limited to “accredited investors” and depending on which jurisdiction you hail from, the definition is a moving target. Generally, in most developed economies, we’re talking about investors with in excess of US$1 million of assets (US$2 million in some places) excluding their primary residence, or an annual income in excess of US$300,000 per annum.
These security tokens will likely be traded on cryptocurrency exchanges, which are heavily regulated by the SEC or the other powers that be and will be subject to greater scrutiny.
There are some issues with the above approach.
1.1 Going Nowhere
If security tokens sound a lot like stocks, that’s because they are intended to replace stocks, which necessarily begs the question, what gains are being had from doing so? If the ICOs of security tokens are limited for the most part to accredited investors, the egalitarian ethos of ICOs (warts and all) would have been lost. Fundamentally, ICOs (at least that’s how they were initially advertised), were intended to give the “unaccredited investor” an opportunity to participate in the alpha (and the risk) associated with startups as well as pre-ICO listings. Conceptually the idea was sound, however “unaccredited investors” are so termed for a reason. Many bet the farm on dodgy ICOs towards the end of 2017 and many lost the farm and then some when reality came crashing down in 2018. The argument for security tokens is relatively weak if the only gain is diminished regulatory oversight, reduced bureaucracy and less paperwork for companies to fund raise. Even if exchange fees are reduced, the number of brokerages offering zero-fee trading these days means that the argument for security tokens becomes even more tenuous.
1.2 When All You Have is a Hammer Everything Looks Like a Nail
With USD versus crypto prices and the total market capitalization of cryptocurrencies well into bear market territory (except for the most earliest of adopters), it’s understandable that sections of the cryptocurrency community are looking for a silver bullet to take us out of this period of malaise.
For a season, the community was cheering ETFs, in the hopes that somehow an ETF would legitimize the cryptocurrency industry and presumably boost the depressed USD values of cryptos.
The reliance on such “devices” is understandable but unfortunate. The cryptocurrency industry’s legitimacy is an inherent and intrinsic characteristic that must be earned. There are no silver bullets or magic potions. No cheat codes and no short cuts. The almighty dollar, still widely accepted in even the most remote jungles is so accepted for a reason. After the end of the Cold War, the United States of America became the de-facto and sole global superpower. This allowed in unparalleled access and privilege to global markets, to define global systems of trade and exchange and to swap its dollars in exchange for all manner of trinket and trifle. It’s no coincidence that the dollar is still the globally preferred reserve currency. For cryptocurrencies to reach that panacea, they must prove their worth beyond the value of a dollar (pun not intended).
1.3 ETFs Have Proved Difficult Security Tokens Will be a Moonshot
Finally, when it comes to security tokens, the experience of the countless interest groups lobbying the SEC to approve a crypto ETF should be telling. While it’s one thing for the CBOE and CME to carve out a niche for Bitcoin, it’s quite another to attempt to undermine the entrenched interests of Wall Street with billions of dollars of lobbyists on Capitol Hill.
It’s one thing to propose a crypto derivative, but quite another to challenge the institutional and institutionalized interests that is the equities market. Investment banks make massive fees from IPOs and until they can bookrun ICOs, they have every motivation to block their adoption. There’s a reason why banks still use Fortran for their programming needs, evolution does not come quickly or easily when you can muscle out the competition. So while the fate of a Bitcoin or any crypto ETF for that matter still hangs in the balance, security tokens it would seem are likely to be more of a moonshot rather than anything else.
Which brings us to stablecoins.
Tom Lee of FundStrat has waxed lyrical about Bitcoin’s role as a store of value. Perhaps akin to digital gold, as an deflationary cryptocurrency, its status, perhaps at this juncture is unparalleled, but a cryptocurrency cannot be two things at once. It cannot both be a deflationary store of value while simultaneously serving the role as a means of exchange. That’s akin to expecting that your two-door sports car to have the practical people-carrying capability of an MPV. It’s not just unrealistic, it defies the laws of physics. If people expect that the value of Bitcoin will rise eventually and indefinitely, it actually costs more in the long run for people to spend Bitcoin as opposed to hoard it, in the hopes that it will appreciate in value, which is anathema to the very purpose a currency, that it be circulated.
Which is where stablecoins come in. With Circle’s recent release of a stablecoin backed by the U.S. dollar, on the Ethereum blockchain, the possibility of more stablecoins enter the fray which can only be a positive turn for the cryptosphere. If cryptocurrencies are to enter the mainstream, if the next generation of payment gateway service providers are to invest the time and resources needed to build the infrastructure required for widespread cryptocurrency adoption, then stablecoins may be that tipping point which the cryptosphere needs. Let’s also not forget that Circle is backed by Wall Street behemoth Goldman Sachs and a stablecoin is something which Allaire and his partners would no doubt have considered in light of their backers.
2.1 Stablecoins Are Non-Threatening
The easiest way to bust through a castle isn’t through the front door. Everyone knows that it’s easier to find a secret escape tunnel, or better yet, use a wooden horse like in Troy. Because banks already make very little from traditional banking transaction fees and have done so for awhile, a stablecoin wouldn’t affect their bottom line all that much. If anything, it would suddenly open up an entirely new stream of service opportunities for the previously unbanked. With no credit history or credit cards, the unbanked could now avail themselves of stablecoins to conduct all manner of transactions from online to transfers, all without having a bank account and without banks needing to maintain deposit accounts or expensive branches in prime areas.
Stablecoins are also unlike security tokens in that they do not threaten the highly lucrative IPO business which investment banks currently enjoy.
2.2 Stablecoins Promote Adoption
If you want to get a squirrel out of the woods, you have to lead it out gently with acorns and not make any sudden moves. Cryptocurrency prices have already made too many sudden moves. Members of the public startle easily with headlines like “Bitcoin and Cryptos Fall Over 80%!”
Cryptocurrencies have a poor reputation for volatility. Instead of waiting for market forces to stabilize the value of cryptos, stablecoins provide a forced volatility stop to hopefully encourage greater crypto adoption. A merchant won’t be open to trading his or her goods or services for a crypto that is prone to wild price swings. Just think Venezuela or Argentina or the countless other countries which have resorted to the dollar in the face of their wildly inflationary currencies.
As stablecoins grow in user acceptance, the same payment infrastructure that enables their use can also be eventually expanded to allow for other cryptos to enter the fray. Circle’s stablecoin USDC is build on the Ethereum blockchain. It’s no stretch of the imagination for payment gateways that accept USDC to eventually accept Ethereum.
While the rest of the cryptosphere may be looking to ETFs or security tokens to be the silver bullet that will hopefully increase the dollar value of cryptos, such an approach is shortsighted at best. Stablecoins on the other hand may be the gateway drug that could provide the viable long term solution for cryptocurrencies.
As participants in the crypto industry (presumably willing), long term survivability depends very much on picking our battles. Wall Street is like the 800-pound gorilla in the space and the crypto world will not survive a backstreet brawl by poking it in the eye. To that end, security tokens are picking a fight with the 800-pound silver back and the SEC (the gorilla’s 700-pound mate) — not a good idea even on the bravest (or drunkest) of days. Which is why I think that the rise of stablecoins should be embraced and encouraged instead of peddling security tokens. There can be no commerce without certainty and for now, cryptocurrencies are too clunky and too volatile to fill that gap, stablecoins may be the solution. Once we’re through the gates, then maybe we can start sniffing around to tokenize other assets. But for now, let’s try to get our foot in the door.