What is tokenization and what you need to know about it
22 մրտ, 2023 թ.
Tokenization consists of issuing digital tokens on a blockchain, where each token represents an underlying real-life asset.
For example, imagine if tomorrow morning there is going to be a large office tower in downtown New York City going on sale at the price of $100,000,000.
Unless you are an individual or a company with lots of money, like a private equity fund or a pension fund, buying such a large asset on your own is practically impossible.
This is why many such large assets have what we call an illiquidity discount, as they are not that easy to sell. There are only a few buyers who can afford to pay for it.
Tokenization consists of taking this one large $100,000,000 asset and dividing it into, say, 1 million little shares that would each cost just $100, with each share represented by a digital token on a blockchain.
And this has a lot of benefits.
First, it enhances liquidity. Because more people can buy an asset that costs 100 dollars than a $100-million one, there is likely to be more activity, more buying and selling of the tokens of that asset.
This not only helps in what we call price discovery, as it allows us to better reflect the price of an asset, but is win-win for both the asset owner and potential buyers as it provides for more liquidity.
Second, it provides access to people.
Staying in the real-estate example, I am sure many of you have looked at buying a house.
But you don’t always have enough capital to put the down payment together. You may need to save for many years before having enough cash.
Well, with tokenization, you still need to save up for that lump sum, but at least have the opportunity to have access and exposure to the real estate market way earlier by buying those $100 tokens.
At least you’re buying up assets, and you’re not left out of the market.
The third benefit is cost. Tokenizing such large assets into smaller pieces was not economically feasible before the rise of blockchain technology, as the costs involved and the operational headaches did not outweigh the benefits.
For example, the closest thing that we have today to such tokenization in the real estate space are something called REITs, Real Estate Investment Trusts, that are products listed on major stock exchanges around the world.
REITs let you buy into a select set of real estate assets by buying a share of that REIT. But such products do have downsides. They are expensive to put together and only provide exposure to a set number of assets that the REIT manager and trustee have decided to include.
Blockchain technology changes that, as it allows us to tokenize any asset for a fraction of the price.
Another benefit is access. You can, in practice, tokenize any asset of value and finally give people access to assets they could not before.
For example, some have already started tokenizing pieces of art that were previously only available to the very wealthy.
This has already started with paintings of the likes of Andy Warhol or Pablo Picasso being tokenized and being made available to a broader public who can buy a fraction of that painting and, although they cannot hang it in their living room, they can get the economic exposure to that painting.
And, such assets can be traded on regulated exchanges around the world.
But of course, tokenization goes beyond real estate or art, as it allows us to literally transform many of the outdated aspects of finance today.
For example, think about company shares. Today, when you buy or sell a public company stock, there are a number of operational processes that take place behind the scenes, from regular ones, like clearing and settlement, to more ad hoc ones, like shareholder voting or corporate actions.
Today, finding those who are the end shareholders of a certain listed company is not as straightforward as you would expect, and this complicates basic things like shareholder voting and dividend payments.
The beauty of tokenized blockchain assets is that you know at all times who the shareholders are, and you can pay dividends instantaneously using digital assets.
For example, there is nothing that stops you from moving away from annual or quarterly dividends and move towards monthly, daily or even hourly dividends as blockchain technology now enables that.
But, tokenization is probably even more impactful for SMEs, whose access to capital is very archaic and still often paper-based.
If we were to tokenize private company stock, by having each stock be represented by a digital token on the blockchain, we could dramatically reduce the costs of the issuance, trading, and ownerships of such assets.
Smart companies could tokenize their shares and offer it to investors, and the process would cost a fraction of what it costs for a company to go public via an IPO today – and way more user-friendly than the archaic term sheets with wet signatures still used today.
We are still at the very early days of the broader tokenization movement.
Whilst the technology is already quite advanced, a lot still needs to be done to educate investors and issuers alike on what is tokenization and its potential benefits.
This is definitely an area you need to keep an eye on.
You see, the future of finance just keeps getting more and more exciting!
If there is any topic you want me to explain, or any question you want me to answer, feel free to let me know in the comments below.