Demystifying Tokenisation: Embracing the Future
Distributed ledger technology (DLT), initially introduced as the foundation behind cryptocurrencies like Bitcoin, holds the potential to alter the fabric of traditional finance if implemented in a safe, sound and fair way. At the heart of this change is the concept of tokenisation. Tokenisation involves converting ownership rights or assets, which have traditionally existed as physical or centralised electronic records, into digital tokens on a distributed ledger. These digital tokens represent real-world assets, ranging from securities to real estate, art and commodities.
This paper will present tokenisation as a natural evolution in the financial industry. Following the move from paper share certificates to dematerialisation, tokenisation possibly represents the next step for traditional assets. Tokenisation maintains the core principles of traditional assets, such as ownership and regulatory compliance, while offering potential over traditional assets. 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.
Nevertheless, some benefits are overplayed by vocal proponents of tokenisation. Continuous 24/7 trading and same day settlement 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 needs to be blocked prior to execution.
It has been over 15 years since the Bitcoin white paper and tokenisation has not ‘taken off’ in traditional markets. This is because current DLT faces challenges in high transaction environments. There are also interoperability challenges, high implementation costs, and regulatory uncertainties associated with tokenisation.
The paper concludes that, tokenisation has many benefits that may make it the natural next step for financial markets. However, some of these “benefits” need to be examined with a critical eye. Moreover, the move to a tokenised system requires substantial upfront investment from all market participants without clear gains in markets that are already highly efficient, like equity.