In most cases, utility tokens lack intrinsic value and likewise they don’t represent actual tangible assets. They only rarely serve a purpose that is both special and valuable, though they are all promoted and marketed this way. Therefore, the value of utility tokens, both during the token sale and after they are traded on 3rd-party exchanges, is mostly driven by speculation instead of the legitimacy of their takenomic model.
On the other hand, asset-backed tokens have intrinsic value. There is a direct link between the value of asset-backed tokens and the value of external assets. An asset-backed token can enable quick, secure and minimal cost trading of traditional assets through blockchain technology. As a result, asset-backed tokens provide a better investment alternative to the highly speculated utility tokens.
Why Consider Asset Tokenisation?
Asset-backed tokens raise the crowdfunding potential for ICO-issued investments. However, the primary reason it’s beneficial to tokenise assets is to improve the underlying liquidity of the assets. Liquidity is how fast and easily assets can be purchased or sold at market price and it correlates strongly with the trading volume of an asset.
In general, stocks and bonds are types of assets that have high liquidity, whereas assets like real estate properties, vehicles, jewellery and collectibles do not have high trading volumes and liquidity.
Good liquidity improves the value of underlying assets as it mitigates the risk associated with being unable to leave a place in a certain asset fast. A token trading market that trades 24/7/365 enhances price discovery, decreases price volatility, and also minimizes the risk of unexpected price crashes.
Overview of Asset-backed Tokenisation Use Cases
Tokens backed by external assets are broadly comparable to gold-backed paper currencies, but the situation becomes more complicated when it comes to tokens backed by assets that are non-fungible like the real estate market. Illiquid markets heavily stricken with multiple inefficiencies like middlemen who get a portion of investment value for handling a counter-party risk, can be given more value through asset tokenisation.
As a result, some of the most novel asset-backed tokenisation use cases emerge from takenomic models backed by assets with limited liquidity like private equity, real estate, derivatives, collectibles and other kinds of non-fungible assets. Such assets suffer from liquidity and are currently worth trillions of dollars, but are for the most part stored in vaults worldwide as a hedge against inflation rates.
With that being said, the biggest use cases for tokenised assets, which have the strongest potential to raise the most funds the fastest, manifest from tokenising part of a large firm’s equity or debt.
Some examples of use cases for asset-backed tokens are:
- Issuing corporate equity or debt though a security token.
- Tokenising REITs (real estate investment trusts) for investors looking to diversify their portfolio to real estate markets. Tokenised REITs also allow for customisation and may be sold to investors seeking a certain level of credit risk for a pre-determined period.
- Tokenising equity from commercial real estate and rental incomes. The commercial property and rental investment market is currently inaccessible and unaffordable to many people who may otherwise want to diversify into this investment sector. Ownership fractionalization via tokenisation offers the chance to democratise investing in commercial and rental properties.
- Intellectual Property (IP) asset-backed tokens like film licenses or royalty payments might be given to every person who owns a portion of a film, book or patent.
- Accounts payable (AP) and accounts receivable (AR) modules, represented by asset-backed tokens, could replace supply chain financing and factoring with data and tokens being transferred between AP and AR in Enterprise Resource Planning Systems.
Tokenisation of real-world assets raises their value through improved price discovery and concurrent negation of illiquidity premiums. As a result, tokenisation of real-world assets gives access to potentially huge addressable markets.
While High Net Worth investors can currently hire the services of an attorney and other professionals to perform due diligence prior to taking on new investments, smart contracts associated with asset-backed tokens may automate this process. This may in turn improve access to markets to investors who cannot afford the external due diligence providers, which creates even greater liquidity.
Private equity-baked tokens can be developed with protocols that have dividend and profit share functionalities, transforming illiquid asset classes into passive income generating investments. This presents start-ups and venture capitalists with a greater chance for funding, saving on costs and profit.
Main Categories of Asset-Backed Tokenisation Use Cases
1. Equity and Debt Tokenisation
Debt and equity security tokens are great instruments for funding start-ups, while circumventing intermediaries like investment banks, traditional exchanges and middlemen.
Fractional equity ownership is not a new concept, mutual funds, time shares and stock certificates have been in existence for a long time. But what is new is the fact that asset backed tokens offer percentage digital ownership in a trustless, liquid and immutable representation of a firm’s equity or debt.
Anybody, with accesses to the blockchain protocol, not excluding security token exchanges, may verify ownership and the authority they have to trade. Arbitrage chances for market makers should then maintain a tokenised asset’s trading valuation within its net asset value.
Although equity and debt are already assets that can be purchased and sold nowadays, blockchain technology improves the efficiency of the process greatly, which may significantly develop the market for STOs.
Subsequently, a 50% drop in price through asset value destruction may be counterbalanced very easily by a 1000% volume increase through formation of a new asset market value. This might assist entrepreneurs and incumbents seeking to pivot fast to an emerging production or marketing industry shifts that are expected to improve the value of assets and market share for a company.
Private equity funds such as venture capital hold illiquid assets and need investors to hold their stake for at least one year. Hedge funds usually hold assets that are moderately illiquid and need investors to hold for at least a few months. Liquidity improvement through asset tokenisation can increase the value of assets for private equity funds and hedge funds, allowing private equity ventures to accustom more quickly to market fluctuations.
2. Tokenisation of Commodities
Exchange traded commodities can be converted into asset-backed tokens. Regardless of whether it is natural gas, oil, wheat, sugar, or juice, commodities that are already traded on trusted 3rd party exchanges can be tokenised. Cross-border buying and selling of commodities like renewable power (hydro, solar, and wind) can also be conducted via blockchain technology based exchange. Governments, utility firms and individuals can therefore participate and conduct transactions together on one platform.
It is important to note that tokens backed by physical assets need verification to establish the validity of the tokens. There’s already a mature market throughout the supply chain for auditors who confirm the validity of custodial storage for commodities. The same auditors could find new opportunities favouring asset-backed providers and holders with the help of physical assessment along with blockchain tracking, relying on technology instead of altruism to develop confidence in the market.
Though gold usually trades as a paper asset via EFTs, tokenised gold is fundamentally different. Every token represents the whole or fraction of a bar of stored gold, which is audited for weight, level of purity and authenticity by a third party ‘oracle’ provider. Thus, those who tokenise gold and other commodities need to solve “oracle issues” first to be able to realise widespread adoption.
A major cryptocurrency, Bitcoin, often called digital gold, might potentially be replaced someday by tokenised gold. The benefit Bitcoin has over physical gold currently is the fact that it’s easily divisible and transferrable. It is simple for a token exchange to take up 1% of a bitcoin and send the matching dollar value of bitcoin into a person’s cryptocurrency portfolio.
On the other hand, it is much harder to take a solid bar of gold, fractionalize it then send it to someone. If the gold bullion were to be tokenised, it becomes easier to sell or transfer a fraction of it in a way that is similar to how gold was transferred between people with the traditional gold-backed paper currencies.
3. Tokenisation of Hard Assets
Real estate tokenisation: When compared to REITs or independent ownership, asset-backed real estate tokens could become a more democratic, more profitable and more borderless way of investing funds in things such as a collection of rental properties, retirement properties, or a chain of motels. Furthermore, with asset-backed real estate tokens and tokenised rental income, all types of investors from every wealth class can create a diverse and flexible portfolio using minimal fees.
Collectibles tokenisation: The leading cryptocurrency, bitcoin (BTC), is fungible. Each BTC is interchangeable just as Euros and Dollars. None of them is differentiable from the others in a way that could increase or decrease the value. In contrast, tokenised assets representing exotic and non-fungible assets are distinguishable from other tokens. Every token is unique, makes digital scarcity, and everybody on the blockchain network is aware of how many are in circulation and how to differentiate one from the other.
The coordination of the back-end part of the tokenisation of exotic, non-fungible assets needs to be refined. Established asset management companies might find new roles as oracles who manage the back-end component ensuring safe storage, audit certification, insurance and modes to change tokens into physical delivery. Today, auction houses do this with jewellery, wine, artwork and other collectibles.
A majority of retail investors lack the chance to purchase an ownership share in a rare piece of artwork. Sotheby’s and Christie’s auction houses are in control of majority of the secondary art market from the richest cities in the globe, far from the reach of average retail investors. Smart contracts could be utilised to create borderless joint ownership of pieces of artworks or collections of art kept in museums. The museums can display the artworks publicly, but the assets will need to be encoded on the blockchain.
There’s the possibility of tokenising individual objects as appreciating assets. For instance, a rare and really valuable painting may be inherited by 2 or more siblings. The painting may be tokenised and then shared among the siblings via a blockchain, with each person then becoming an owner of tradable shares of the art piece. These shares can be sold on a public token exchange, if one of the siblings chooses to sell their tokens.
Token owners such as the siblings in the mentioned example have access to liquidity whenever they need it, whereas private investors can grow their portfolio easily by purchasing such tokens on a public security token exchange. As a result, a novel class of exotic, non-fungible securities are given liquidity.
However, this notion has limits. It is highly unlikely that a person would want to buy shares in just one classic automobile or just one item of sport memorabilia owned by another independent individual, although they might be interested in purchasing a token that matches a share in a vehicle collection or a museum collection of sports memorabilia.
4. Tokenisation of Soft Assets
Intellectual property (IP) tokenisation: In general, IP assets are illiquid and lack a secondary market place for trading. It’s not a hard concept to tokenise IP ownership, and the advantages are many. Patents, copyrights, trademarks and royal equities can be tokenised, improving the liquidity and adding value to underlying assets.
Tokenisation of digital assets: CryptoKitties and other digital collectibles are types of asset-backed tokens that lead to value and scarcity. This contrasts with ownership of digital collectibles managed on central databases, like a virtual home earned while playing online games. Specialised marketplaces for such virtual items and digital collectibles are made possible through tokenisation.
Stable coins are not typical asset-backed tokens: By certain definitions, fiat-linked stable coins are a kind of asset-backed token. Issuers of stable coins maintain fiat reserves in banks at a stable ratio which is matched to the total number of supplied stable coins. However, it is important to note that stable coins are distinctly different from asset-backed tokens because they are not an investment means. Their value is associated with a certain fiat currency as a protection against the volatility of cryptocurrencies and utility tokens. Stable coins are geared towards providing easy and rapid exit and re-entry ways for investors who trade on public token exchanges.
Challenges and Opportunities for Asset-Backed Tokens
In comparison to traditional currency, Bitcoin is generally regarded as being more fungible, transferable, divisible, scarce and long-lasting. Asset-backed tokens also have some of those advantages and apply them to real-world assets.
In some nations, corrupt governments seize land, vehicles or other properties just because an ownership deed has a minor error. However, deeds encoded with blockchain technology cannot be altered maliciously or destroyed like paper-based deeding verification that’s dependent on a central authority.
Regulators are approaching asset-backed tokens with caution. This is because there could be a high risk with new user error when new people first enter the market, which means, for instance, that investors who aren’t very cautious may lose their holdings via a wallet addressing error.
Due to the uncertainty of regulators, China and Qatar have fully banned the practice of issuing asset-backed tokens. Bermuda, Estonia, Liechtenstein, and Switzerland permit issuance of asset-backed tokens albeit loose restrictions and unclear regulatory oversight. In contract, Malta places no restrictions on the notion of asset-backed tokens, but approval, certification and license requirements are clearly defined legally with regulatory stringency. As a result, Malta is the perfect jurisdiction for launching asset-backed tokens.
In conclusion, Malta asset-backed tokens are less volatile when compared to utility tokens and cryptocurrencies. Moreover, tokens listed on exchanges can trade all day, all week and all year round with complete price discovery. Being able to operate markets no matter the geographical area or time zone might soon provide tokenised trading opportunities for worldwide investors. Furthermore, it is possible that established firms will soon start to issue asset-backed tokens worth billions into token exchanges.