We weren’t surprised when Jay Clayton, the chairman of the SEC, stated in 2020 that all stocks may someday be tokenized. He drew that conclusion after looking at stock trading today and comparing it to 20 years ago. Back then, there were stock certificates. Today, there are digital entries representing stocks.
“It may very well be the case that those all become tokenized,” stated Mr. Clayton in the article. If he’s right, we’ll see many more asset classes becoming tokenized. But, why the rush to tokenize anything?
Is tokenization of assets the next ‘big thing’ in the financial industry? In order to answer this question, it’s important to understand what we mean by asset tokenization.
What is Asset Tokenization?
Tokenization is the process of converting assets into tokens on the blockchain.
Once tokenization is performed, tokens become digital stocks with irrefutable proof of ownership – a significant improvement over paper-based systems.
The blockchain is the underlying technology which digitizes transaction records on shared, distributed ledgers and tokenizes asset ownership. Blockchain technology is a secure and transparent way to digitally track the ownership of assets before, during and after transactions.
So what’s the fuss all about?
More than simply tracking an asset, by tokenizing it you can break down an illiquid asset, such as real estate or artwork, to allow fractional ownership of the underlying asset. This liquidity event opens the investment opportunity to smaller market participants seeking to diversify their portfolio in additional alternative asset classes.
Tokenization levels the playing field. You can actually trade in an asset without a third-party broker while using blockchain’s immutability which mitigates risk of possible fraud. Ownership interest can be secured, audited and verified.
Trading in real-world assets might be on the brink of a true revolution.
What sort of assets can be tokenized?
That’s the amazing part about tokenization. Any sort of real world asset can be tokenized within reason. For wealth management advisors, tokenization opens up a plethora of investment opportunities that simply weren’t possible before the advent of blockchain technology.
As the tokenization of assets continues to gain market share, this opens the possibility for different asset classes to be available for tokenization. Some of the investment opportunities can include (but are not limited to):
The ownership of the asset is supported by a smart contract*. The representative tokens can be used to increase allocation into portfolio creation and traded when needed.
Two areas that are currently of particular interest for tokenization in 2021 are real estate and fine art. Under “traditional” ownership methods, one would require huge amounts of cash tied up for long periods of time.
Tokenization, in fact, can allow us to buy as little as $50 worth of fine art or a building! More importantly, it gives an investor a liquid market in which they can sell their tokens at will, quickly and easily.
Why are tokenized assets good for diversifying investment portfolios?
Direct ownership of Digital Assets is a move to diversifying investment portfolios. In addition to the funds, there is an appetite for direct exposure of the asset. You only can truly leverage it when you have ownership.
The ability to freely choose where to invest will open up a new era of much greater personalization and customization in investments – an area that is becoming increasingly relevant as investors look beyond returns and start to pay much closer attention to where their investments are made.
Beyond the potential capital appreciation, owners of the tokenized assets may benefit by receiving dividend and potential tax benefits. These could be similar to the benefits of individuals who owned the entire asset prior to tokenization. Consulting a tax professional first ensures a client’s best interests will be served.
As clients wrestle with countless financial decisions, such as retirement income, legacy planning, college planning and taxes, it makes sense to approach their needs from a holistic standpoint. Tokenized assets will soon become part of a comprehensive financial and wealth plan. Access to tokenized assets, such as real estate and artwork, wealth management advisors will be able to unlock additional investable assets for their practice and allow previously illiquid assets to become available for their clients’ benefit.
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Tokenization allows for the creation of a new financial system. One that is more democratic, more efficient and vaster than anything yet seen to date and – it is already a reality.
New players are building their own infrastructure while traditional market infrastructures are also showing signs of paving the way for mainstream adoption.
There are obstacles that stand in the way of mainstream adoption, mainly in the form of regulation. But, these obstacles can – and will – be overcome with the support of stakeholders at all levels.
Institutions that choose to engage and embrace this technology, plan for the future and adapt to the realities will be the ones that will survive – and thrive.
*Smart contracts are software algorithms integrated into a blockchain with certain trigger actions based on pre-defined and agreed upon parameters.