Tokenization & Defi
by Sophia Ha Ho
7 months ago
Tokenization is one of the applications of blockchain technology. The term refers to the issuing of digital tokens representing units of ownership. Here, we look at tokenization of alternative assets.
Before exploring tokenization of alternative assets, let’s begin with asset tokenization in general. Asset tokenization enables companies to fractionalize their assets digitally, which means that assets can be divided digitally into different parts, with the ownership recorded on the blockchain. Tokens issued on a blockchain can perform different roles, including representing a part of an asset and use as trading units in decentralized peer-to-peer platforms.
Understanding the concept of alternative assets
Traditional assets fall into the asset classes of cash, stocks and bonds. These traditional investment vehicles are expected to be worth US$ 98tn by 2023.
Alternative assets comprise hedge funds, venture capital, private equity, distressed debts and securities, foreign currency, insurance products, derivatives and real assets such as real estate, infrastructure, commodities, collectibles etc.
Due to the nature of alternative assets, they are generally much less liquid than traditional assets and cannot be easily accessed from the public market with information transparency. Alternative assets comprise a vast array of assets. Here, focus on just a few asset classes, including gold, artworks, and commodities.
According to data provided by Preqin, the alternative asset industry managed US$ 8.8tn in 2017 and is expected to grow by 59% by 2023 to around US$ 14tn in assets.
Benefits of blockchain and tokenization in the alternative asset industry
The concept of tokenization of assets is embraced by many because it lowers the ownership barrier by enabling fractional ownership. When assets are tokenized, the ownership rights of individuals are recorded on an immutable digital ledger, which also helps users track data such as previous owners, location and date of ownership.
The main advantage of the tokenization of alternative assets is that it allows assets to be divided into identical parts. The equivalent part of tokens can be traded on peer-to-peer (P2P) platforms.
Reduce the risk of fraud via immutable record of the ownership on blockchain to fight counterfeit goods
One of the greatest problems facing the precious metal market is counterfeit gold. Many fraudsters have made a living selling counterfeit gold, partly because the quality of precious metals such as gold cannot be determined by laymen. The source of precious metals usually cannot be determined, and they can be distributed through illegal networks.
Besides the sale of counterfeit products, transaction fraud is another major challenge the industry has faced over the years. Blockchain and tokenization can help to fight fraud through smart contracts. Transfer of assets takes place on a blockchain network, the transfer is transparent and stored on a ledger and the identity of the buyer is protected.
The artwork counterfeiting industry is also lucrative – the British newspaper The Independent estimates that 20% of art in major UK museums might be fake. The immutability of blockchain technology can help solve this problem. Because the creator records data that cannot be altered on the blockchain, the buyer of the art can verify through a QR code on the artwork itself.
In short, transacting assets via blockchain makes it more transparent, auditable, enables faster transactions and removes intermediaries. Blockchain vastly reduces the risk of fraud, as it enables a transparent record of complex transactions, including the tracking of goods and payment.
Lowering the ownership barrier makes alternative assets accessible to more investors
A digital token can be issued to represent a whole alternative asset or part of it. The major advantage tokenization of alternative assets brings is that alternative tokens can be divided digitally into different parts, which enable shared ownership.
Imagine a person who owns an artwork that is appraised at US$ 10m and is desperately in need of money. He or she can go to an auction house and probably sell the piece for around US $10m. But it might sell it for much less or not at all if all the bids are low. Tokenization changes the situation. Assuming the individual needs US$ 3m, he or she could sell US$ 3m worth of the artwork in the form of the token ART and put the piece in a legally binding thrust. One ART would be worth a US$ 1 share of the artwork. The person would implement the ART token on a smart contract, ensuring that each person who participates in the public sale now owns part of the object through tokenization.
Improved liquidity of alternative assets and reduced the exit time
One of the major problems faced in the alternative asset industry is the inflexibility with which assets can be bought or sold. Often, alternative assets have to pass through a lengthy process before they can change ownership. Tokenization allows alternative assets to be transferred within seconds. It also allows the easy division of assets among many participants.
Blockchain and tokenization can also provide transparent ways for investors to monitor their portfolios using smart contracts. JP Morgan, a leading American investment bank, has not been left out in this revolution. JP Morgan tokenizes gold bars on its blockchain network Quorum. The gold bars are represented on the Ethereum network, where more sustainable miners have the potential to earn a premium on the global market. In an interview with the Financial Review, Umar Farooq, JP Morgan’s Head of Blockchain Initiatives, said, “We are the only financial player that owns the entire stack, from the application to the protocol.”
But JP Morgan is not entirely alone. Digix, a company based in Singapore, wants to change the way users manage their physical assets. The tokenization of alternative assets increases the speed of asset exchange by eliminating the need for middlemen in the transaction chain.
Take, for instance, a buyer who wants to purchase all the gold available in a warehouse full of gold bars. If it were through a traditional means, a middleman would be paid to ensure that the gold bars are successfully transferred to the buyer’s warehouse before paying the seller. Provided there are no human errors in the process, the transaction can be completed in a couple of days.
If the change of ownership were handled through tokens, the seller would transfer gold-backed tokens to the buyer on a blockchain, with a smart contract verifying the transaction. The buyer now owns gold-backed tokens and can exchange them for physical gold.
According to a report by Statista, the global art market was valued at over US$ 67bn in 2018, up from just under US$ 64bn in 2017. The volume of global sales reached 40 million transactions in 2018, up from 39 million in 2017.
Tokenization of artwork can help art creators sell their works more easily. The present art sales system is slow, opaque and too costly for artists, as some auction houses demand 50% of sales. With blockchain, artists can offer their artwork for sale on an open, decentralized network. This puts the buyers in direct contact with sellers, eliminating the exorbitant fees demanded by art exhibition houses. The transaction is completed at high speed while maintaining anonymity between the buyer and the seller.
Many companies are enabling the tokenization of artworks. Maecenas is a decentralized platform with a market capitalization of US$ 2.06m according to Coinmarketcap. Maecenas is an artwork auction platform and exchange. It offers several solutions to art markets. One of the most notable is a fundraising model, which helps galleries and auction houses crowdsource money for new art acquisitions. The exchange also tokenizes valuable paintings to let investors purchase shares in them.
There are various ways in which alternative assets can be tokenized and how tokenization can enable the division of assets digitally. Alternative assets like precious metals can be stored digitally through tokenization, and that tokenization can help to fight various forms of fraud in the alternative asset industry. With this development, we can conclude that tokenization is what the alternative market has waited for so long to have.
In the following parts of this article, we will discuss the benefits of tokenization of other alternative asset classes such as private equity, real estate etc.
About the Author
Sophia Ha Ho is a Vietnamese-born technology entrepreneur living in Munich. A proud mother of a bright seven-year-old Vietnamese-German boy, Sophia lives between the two cultures. She is a global citizen who believes in the power of connecting people across geographical, cultural and political borders to foster positive changes. Sophia is the founder of CryptoStories and Founder and CEO of Blocks99. While passionately building Blocks99 as a blockchain media tech company, Sophia enjoys coaching C-level executives and entrepreneurs on how to embrace social media and other channels to build an appealing personal brand and promote their businesses in the digital sphere.
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