Cryptocurrency is on an upward trajectory, signaling a departure from the downward trend observed in the 2022 bear market and the sideways movement experienced in much of 2023. The industry’s recovery is notably propelled by the emergence of the Bitcoin spot exchange-traded fund (ETF) narrative, a focal point in this resurgence highlighted by BlackRock CEO Larry Fink. Fink attributes the recent surge in Bitcoin (BTC) to a “flight to quality” amid prevailing uncertainties.
Beyond ETFs and macroeconomic factors such as resurging inflation threats and Middle East instability stemming from ongoing conflicts, another influential factor in this upward momentum is Tokenization. According to Herwig Konings, CEO of Security Token Advisors, tokenizing real-world assets presents a tangible opportunity to leverage this transformative technology. Throughout this year, 2023, significant players in the banking and fund management sectors actively experimented with tokenization.
A recent notable example is Euroclear, a major European clearinghouse, unveiling its service for tokenized securities issuance. This service facilitated the issuance of a $106 million digital bond for the World Bank, executed on the Corda blockchain, with Euroclear’s Digital Securities Issuance (D-SI) business playing a pivotal role in issuing, distributing, and settling fully digital financial assets on distributed ledgers.
The bond, listed on the Luxembourg Stock Exchange, will be utilized by the World Bank Group’s International Bank for Reconstruction and Development (IBRD) to fund sustainable development initiatives. This recent development exemplifies the convergence of traditional financial (TradFi) services and digital assets as major institutions opt to place real-world assets (RWA) on blockchain platforms. The motivations behind this shift include increased operational efficiency, reduced costs, and improved accessibility and transparency. Leading financial institutions like Standard Chartered Bank, UBS, Goldman Sachs, BlackRock, Swift, and LSEG have all announced tokenized asset services and products throughout this year.
Several banking and financial institutions have also tokenized assets and made them available to investors. Here are some notable examples you should know about:
JPMorgan: Launched TCN, a network that allows investors to use assets as collateral and transfer ownership on-chain. Also, tokenized shares of a money market fund using its Onyx blockchain.
Franklin Templeton: Launched the first U.S.-registered mutual fund on a public blockchain, investing in government securities, cash, and repurchase agreements.
Citi: Piloted Citi Token Services, a service that integrates tokenized deposits and smart contracts into its global network, offering programmable financial services for institutional clients.
ABN Amro: Issued the first digital bond for a Midcorp client on the Stellar blockchain, recording tokenized ownership on the ledger.
EIB: Issued a digital bond on a blockchain platform, reducing intermediaries and costs, increasing transparency, and speeding up settlement.
Mirae Asset Securities: Partnered with Polygon Labs to create infrastructure for issuing, exchanging, and distributing tokenized securities.
A survey conducted by EY-Parthenon, Ernst & Young’s global strategy consulting arm, revealed that 83% of institutional investors and 91% of high net-worth investors (HNWIs) anticipate allocating funds to tokenized bonds by 2026. Moreover, institutional investors are projected to allocate 5.6% of their portfolios to tokenized assets over the next three years.
While conventional financial institutions are gradually adopting blockchain and tokenization, the pace of demand is gradually increasing. The tokenization of real-world assets (RWAs) has evolved beyond being a mere trend; it has transformed into a necessity. Swiftly emerging as a foundational element of the decentralized finance (DeFi) sector, this development signifies a crucial milestone in the evolution of the crypto industry. It seamlessly integrates traditional financial assets with the innovative realm of cryptocurrency.
However, RWA protocols also face significant risks, such as default, liquidity, regulatory, and operational risks. There are also some of the RWA protocols that got into some trouble in 2023:
MakerDAO: Ran out of DAI and had to borrow at high rates; also had a governance bug that allowed price manipulation.
Maple Finance: Lost $36 million from a borrower who went bankrupt; shut down its pools and released a new version.
Goldfinch: Lost $5 million from a borrower who stopped paying; agreed on a restructuring plan and hoped for recovery.
These are some examples of RWA protocols that defaulted in 2023 due to various factors such as market volatility, technical glitches, regulatory hurdles, and operational issues. It is important to know that these RWA protocols are still an emerging and experimental field in the crypto space, and they require careful design, testing, auditing, and governance to ensure their sustainability and security.
The stablecoin issuer and DeFi protocols have been expanding their reach beyond the crypto space by creating tokenized RWAs through partnerships with crypto investment firms. One example of this is Tangible, the issuer of Real USD (USDR), the first overcollateralized stablecoin backed by tokenized, income-producing real estate. Tangible teamed up with Galaxy Digital1, a leading crypto investment firm, to launch USDR on Polygon, a layer-2 scaling solution for Ethereum. This enables USDR holders to access DeFi protocols on Polygon with low fees and high speed.
The tokenization of RWAs is anticipated to reach $10 trillion by the end of the decade, with industry analysts viewing this trend as a catalyst for mainstream crypto adoption. In early September, industry leaders, including Aave Companies, Circle, Coinbase, Base, Credix, Centrifuge, Goldfinch, and RWA.xyz, formed the Tokenized Asset Coalition (TAC) to advance the adoption of public blockchains, asset tokenization, and institutional DeFi. The group sees the tokenization of RWAs as a means to establish a unified, trustworthy source of information for both traditional and crypto financial systems.
Encouraging a shift towards more institutional thinking and rigor, the emphasis is on the right frameworks and institutional practices within crypto and collectively building the necessary infrastructure for scaling the tokenized asset movement in the coming years. It also highlights the importance of innovation for small asset or credit managers aiming to compete with larger, multi-billion dollar credit funds. DeFi protocols, recognizing the value of these innovative credit managers, engage with them to navigate the evolving landscape of capital markets and access opportunities through tokenization platforms for primary issuance and investment.
A notable example of DeFi protocol working towards this direction is Bru Finance. Brú Finance aims to bridge the gap between yield-seeking capital in developed countries and credit-starved emerging markets, serving underbanked communities such as farmers, small businesses, and the urban poor, using its unique asset-backed DeFi lending protocol. It’s mainnet went live on 5th April 2023 and has not looked back since then.
Being the largest protocol for tokenizing commodities globally, Brú Finance is the only on-chain lending protocol that serves both traditional and decentralized finance. Brú Finance and its associate entities have already served $15 million in loans to farmers in India using a blockchain platform that counts a network of governments, banks, warehouses, and farm communities as customers and partners. The Brú Finance network currently boasts 1500 custodian warehouses, 28,000+ farmers, 3000+ small businesses, and 6 TradFi partners.
Presently, the tokenization of Treasuries drives the forefront of incorporating real-world assets onto the blockchain. According to RWA monitoring platform RWA.xyz, the tokenized Treasury market has surged from approximately $100 million at the beginning of the year to an impressive $770 million.
The rise of tokenized money markets and treasury offerings can be attributed to crypto investors seeking enhanced returns amid escalating interest rates and dwindling yields in the DeFi space. As DeFi yields decrease, a vacuum for yield has emerged, prompting the rapid growth of existing platforms and the entry of new players into this sector, as highlighted by Cunningham.
While the tokenization of Treasuries is gaining traction now, Coinbase research indicates that the tokenization of financial assets has been steadily gaining momentum since 2017. Over this period, advancements such as atomic settlements have significantly reduced counterparty risks, dispelling many misconceptions about tokenization.
The growth in this space is primarily driven by existing high-yield environments, which have risen from 0.50%-1.50% in 2017 to the current range of above 5.25%-5.50%. However, legal and infrastructural challenges persist. EY-Parthenon’s survey reveals that nearly half (49%) of institutional investors view regulatory uncertainty as the primary obstacle.
Despite legal challenges within the US regarding crypto and stablecoins, UK, Singapore, Japan, and Switzerland regulators are actively planning asset tokenization tests for asset management, foreign exchange, and fixed-income products. Through the collaborative efforts of the policymaker group Project Guardian, established by the Monetary Authority of Singapore (MAS) and including Japan’s Financial Services Agency (FSA), the UK’s Financial Conduct Authority (FCA), and the Swiss Financial Market Supervisory Authority (FINMA), these nations aim to promote cross-border collaboration in asset tokenization while also regulating the crypto space.
While traditional off-chain investors enjoy access to a diverse array of global investments, with cryptocurrency representing just a small portion of their extensive portfolio, on-chain investors face certain limitations based on what assets are tokenized and made available to them.
The pivotal concern for on-chain investors at present revolves around the availability of liquidity for long-duration products, particularly those without redemption options within a 12-month period. The pressing question is how to navigate the upcoming year and make informed investment decisions without liquidity for such investments. To propel the tokenization of traditional assets on-chain to its full potential, the presence of robust secondary market liquidity is undeniably paramount.
Crypto is undergoing a maturation phase, and more traditional institutions will use blockchains and build products on top of them. Crypto is transitioning from frenzy to synergy, and through this transition, crypto will increasingly integrate with existing financial software and bring RWAs on-chain via tokenization.
RWA tokenization has the potential to unlock trillions of dollars of value that are currently trapped in traditional finance, as well as to create new opportunities for innovation and inclusion. According to 21 Co, RWA tokenization is poised to surpass $10 trillion by 2030, driven by the growing demand for decentralized finance (DeFi) products and services.
RWA tokenization requires careful consideration and due diligence from both investors and issuers. It also requires collaboration and coordination among various stakeholders in the crypto ecosystem. As more people become aware of the benefits and opportunities of RWA tokenization, we can expect to see more innovation and adoption in this field.
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