Demystifying tokenisation: dispelling myths, explaining the muted traction, and setting out the starting point for regulation

 

PRESS RELEASE

Demystifying tokenisation: dispelling myths, explaining the muted traction, and setting out the starting point for regulation

London, 11 June 2024 – As the European Commission today gathers stakeholders in Brussels to discuss the further tokenisation of assets, the WFE (the global industry association for exchanges and clearing houses) has published a paper, “Demystifying Tokenisation: Embracing the Future”, that provides a reality check: we shouldn’t curtail the further development of tokenisation, nor should we run blindly towards it.

Rather than a radical departure from the norm, tokenised traditional assets should be viewed as nothing more than a modernised and innovative iteration of traditional finance, providing new opportunities for investors and market participants. This is one of the many ways in which exchanges continue to invest serious effort and money in innovation.

Tokenisation has many benefits that could make it a natural next step for financial markets. Fractional ownership, allowing multiple investors to own a share of an asset thereby lowering the capital requirement for individuals to invest in high-value assets; enhanced liquidity, which arises from fractionalisation enabling access to investments that may have been out of reach for many; and enhanced trust could all lead to greater financial inclusion, diversification and ultimately economic growth. 

Some of the supposed benefits are overexaggerated or frankly don’t exist at all. Continuous 24/7 trading – if truly needed – can be achieved without tokenisation. Disintermediated models face conflicts of interest and instantaneous settlement in tokenised trading may have unpredictable timing, affecting market liquidity and trading costs, especially if assets and funding need to be blocked prior to execution.

With over 15 years passed since the Bitcoin white paper, tokenisation has not “taken off” in traditional markets and there are several reasons why:

• DLT has limitations, particularly in high transaction environments, as the technology is currently not fast enough to execute and settle all the trades running through a highly active exchange in any given moment. There are also other limitations such as storage problems caused by the distributed ledger.
• The nature of different DLT creations means that there is a fragmented infrastructure with tokenised assets managed on different blockchains which are not interoperable. Financial institutions would have to build connections with each platform, leading to significant operational costs and challenges, meaning there are only marginal efficiency gains in certain markets, particularly those that are already liquid.
• There are significant sunk costs involved in implementing DLT. It is a capital-intensive investment to move to the new technology and build the relevant infrastructure. These costs would be felt across the market, from infrastructure providers to market participants and end users. Even then, there may not be sufficient demand if customers do not have the correct infrastructure or capital to invest.
• The lack of regulatory certainty, which is improving thanks to the efforts of regulators and industry, persists. Most jurisdictions’ bodies of law do not reflect the creation of tokenised assets, leaving firms apprehensive. Anything that is, in effect, a financial instrument, should be treated in the same way, regardless of whether it is tokenised.
• The lack of adoption further inhibits tokenisation because, without widespread use, there are no network effects and there is little value to firms and exchanges to update their technology stacks to incorporate tokenised assets. 

Tokenisation should be seen as a creative and modern version of traditional finance that offers new possibilities to investors and market players. However, current limitations mean that it won’t be right for every type of asset.

James Auliffe, Manager, Regulatory Affairs at the WFE commented, “The fundamentals of tokenisation and the infrastructures these assets trade on need to be better understood. Regulation in this area should reflect that tokenisation is a natural evolution in the financial industry, rather than a drastic break from the norm. Its usage is suitable in particular environments and for particular assets, but in these cases, market participants can reap great benefits.”

The full paper can be read here.

For more information, please contact:

Edelman Smithfield             

+44 7813 407 665

[email protected]

Cally Billimore   

Communications Manager                   

+44 7391 204 007

[email protected]

            

About the World Federation of Exchanges (WFE):

Established in 1961, the WFE is the global industry association for exchanges and clearing houses. Headquartered in London, it represents the providers of over 250 pieces of market infrastructure, including standalone CCPs that are not part of exchange groups. Of our members, 36% are in Asia Pacific, 43% in EMEA and 21% in the Americas. The WFE’s 87 member CCPs and clearing services collectively ensure that risk takers post some $1.3 trillion (equivalent) of resources to back their positions, in the form of initial margin and default fund requirements. The exchanges covered by WFE data are home to over 55,000 listed companies, and the market capitalization of these entities is over $111tr; around $124tr in trading annually passes through WFE members (at  end-2023).

The WFE is the definitive source for exchange-traded statistics and publishes over 350 market data indicators. Its free statistics database stretches back more than 40 years and provides information and insight into developments on global exchanges. The WFE works with standard-setters, policy makers, regulators and government organisations around the world to support and promote the development of fair, transparent, stable and efficient markets. The WFE shares regulatory authorities’ goals of ensuring the safety and soundness of the global financial system.

With extensive experience of developing and enforcing high standards of conduct, the WFE and its members support an orderly, secure, fair and transparent environment for investors; for companies that raise capital; and for all who deal with financial risk. We seek outcomes that maximise the common good, consumer confidence and economic growth. And we engage with policy makers and regulators in an open, collaborative way, reflecting the central, public role that exchanges and CCPs play in a globally integrated financial system.

Website: www.world-exchanges.org

Twitter: @TheWFE

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