According to Boston Consulting Group, “a large chunk of the world’s wealth today is locked in illiquid assets or in assets that cannot be quickly monetized when needed. In a survey conducted in the U.S. in 1997, 56%+ of assets held by taxpayers with a net-worth of between $600,000 and $1 million were illiquid. All else being equal, illiquid assets typically trade at a discount vs. liquid assets.” These assets are characterized by higher transaction costs, poor price discovery and information asymmetry around demand and supply.
Exchange-Traded Funds (ETFs) have come a long way since the first U.S. listing in 1993. For the following decades, the financial industry has leveraged innovative tools like ETFs and Real Estate Investment Trusts (REITs) to fractionalize ownership of traditionally illiquid assets like real estate or to track prices of baskets of assets such as stocks and bonds. While these vehicles have democratized investing to some extent, they come with limitations. Tokenization, enabled by blockchain technology, aims to resolve some of these issues by offering a more dynamic, transparent, and efficient way to own and trade assets. This article will explore how tokenization outperforms conventional means like ETFs and REITs in programmability, transparency, and price discovery.
One of the major shortcomings of traditional financial vehicles is the lack of customization and programmability. In contrast, tokenized assets can have embedded smart contracts, autonomous programs that run on a blockchain. Smart contracts can automate various operations such as dividend payments, voting rights, or access controls with lesser reliance on long chains of centralized intermediaries.
Imagine a tokenized real estate asset where the rent is automatically distributed to token holders via smart contracts. Or consider an art piece where the original artist receives a small percentage every time the token representing the art is resold. Such ‘programmable ownership’ brings unprecedented flexibility and customization to the asset ownership space, something that is hard to achieve with ETFs or REITs.
For special cases where regulated institutions need to control who is and who isn’t accepted as an investor, to meet compliance and other market requirements, token programmability helps define whitelilsting or blacklisting rules that enable automated control over the accepted investor base.
Transparency is another aspect where tokenization shines. Blockchains are inherently transparent and immutable ledgers. Every transaction is recorded on the network, visible to all network participants. Transactions can be audited in real-time, providing a level of transparency that is difficult to match with traditional systems.
ETFs and REITs often involve a number of intermediaries like brokers, custodians, and asset managers, each of whom could introduce some form of opacity. In contrast, with a tokenized asset, one can always verify her ownership and any transactions made directly on the blockchain, leveraging complete transparency. This also contributes to reduced risk of fraud or mismanagement, as all actions are accountable.
Price discovery in traditional markets can sometimes be cumbersome due to the layers of intermediaries, time delays, and geographic limitations. ETFs and REITs have solved the price discovery problem in that they are generally traded on stock exchanges. However, those have specific trading hours and can exclude potential investors based on geographical restrictions.
Tokenized assets, however, can be traded 24/7 on decentralized platforms accessible to anyone with an internet connection. This wider access and extended trading hours lead to a more dynamic and efficient price discovery mechanism. Whether you’re a retail investor in Tokyo wanting to invest in a tokenized New York real estate property, or a trader in London looking to capitalize on real-time price fluctuations, tokenization offers an inclusive and efficient trading environment.
Accessibility and inclusion
Tokenization can also drastically lower the barriers to entry and democratize access to assets for a wider pool of investors. Traditional ETFs and REITs may have minimum investment requirements, often excluding large parts of a wider investor base. With tokenization, one can own a fraction of a high-value asset, such as a piece of art or a luxury apartment, for a much lower ticket size than if she would had to buy an entire prohibitively priced apartment, further democratizing asset ownership.
While lowering the ticket size of each investment, tokenization also leads to a more dynamic market by enabling 24/7/365 real-time trading and value exchange, over trades being bundled within specific trading hours. This further improves price discovery and tradability of underlying assets.
The future is tokenized
While ETFs and REITs have been revolutionary in providing average investors with opportunities to own fractions of otherwise illiquid assets, they still function within the framework of traditional finance with all its inherent limitations. Tokenization not only offers fractional ownership but enhances it with unprecedented programmability, higher transparency, and superior price discovery mechanisms. As blockchain technology matures and regulatory frameworks adapt, tokenization stands to redefine our understanding of what it means to ‘own an asset’. Without these, digital assets will struggle to reach their full potential.
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