This article explores how asset tokenization works, including what are the most likely physical assets to be tokenized, how it will impact institutional investors, and who the key providers are in this space.
Asset tokenization is the process of converting physical or digital assets into digital tokens on a distributed ledger or blockchain. While cryptocurrencies are the most popular tokenized digital assets, the space is expanding to include tokens for real estate, cars, and traditional financial assets like bonds, funds, or corporate stocks.
JP Morgan, for example, recently announced its ambitions to tokenize trillions of dollars of assets to develop new mechanisms in financial services such as trading, borrowing, and lending.
In this article we explore how asset tokenization works and how it will impact institutional investors.
How does asset tokenization work?
Asset tokenization refers to the process of representing real-world assets (such as real estate, stocks, and bonds) as digital “tokens” on a blockchain, where transactions are more secure and efficient.
Blockchain creates verifiably scarce digital tokens to split up assets and makes them easier to trade. This leads to better experiences for traders, with more money flowing around assets; this, in turn, stabilizes prices and makes it easier to buy and sell assets in larger volumes. Blockchain also provides customers the ability to monitor and manage the entire lifecycle of a token.
The entire tokenization process takes between 3 weeks to 3 months. The most time-consuming parts are finding the correct stakeholders involved with the entire asset lifecycle, creating documentation, and setting up compliance and legal structures.
What are the types of assets that are most likely to be tokenized?
The types of assets most likely to be tokenized are stocks, bonds, real estate, digital assets, and currencies. There are four different types of tokens, each with a unique use:
- Security tokens – A token that represents another asset (e.g., a share, a bond, or an interest in a real estate asset)
- Utility tokens – A token that gives the right to perform a specific action
- Non-fungible tokens (NFTs) – A token that represents ownership of a unique digital asset (e.g., a tweet or an in-game item)
- Currency tokens – Blockchain-based currencies (e.g., cryptocurrency or stablecoins)
The opportunities and benefits of tokenization are immense.
Why do we tokenize assets?
You might expect any digital asset to have a historical trail. However, that is not how it works. If businesses have different standards for tracking assets, there will be issues when an asset changes owners, which is why global supply chains are so complex.
A blockchain can be a common standard for tracking assets; this makes it appealing to those who want to improve asset-related business processes. A typical list of benefits includes the following:
- Broader investor bases
- No borders
- Lower costs
- Fewer intermediaries
- Enhanced liquidity for traders
- Transparency regarding the asset’s lifecycle
These advantages provide a more efficient and secure way for people to make transactions when trading stocks or crowdfunding.
In addition to improving current transactions, asset tokenization introduces new ways in which people can engage in financial activities such as quicker settlement, higher liquidity, improved risk management, and lower costs. Due to these benefits, asset tokenization is expected to gain significant traction in the coming decade.
What’s the volume today?
Tokenization makes the real-world trading of assets possible. The tokenized market is expected to reach a value of about $24T in financial assets by 2027, up from $2T in 2021, according to Finoa. Of the $24T in anticipated financial assets, $8T is expected to be equities, $5T to be investment funds, $1T each to be home equity and bonds, and $9T to be other assets (e.g., pension funds, insurance policies, and alternative assets). Tokenization will be helpful to the market because of anticipated requirements for higher compliance standards, the need to prevent financial fraud and data breaches, and provisions that ensure greater levels of customer satisfaction.
For example, real estate, a historically illiquid asset class, makes up 89% of the total securities tokenization market. Of the existing real estate tokens, residential real estate accounts for 87%, while commercial real estate only contributes 2%. In 2021, the global real estate market was worth approximately $3.38T. As the use of blockchain technology increases, the crypto revolution will undoubtedly find its way into real estate.
The NFT is also popular. According to The Block Research, the trading volume of NFTs surpassed $13B in 2021. SkyQuest Technology Consulting stated that the global market for NFTs was valued at $15.7B in 2021 and that it is projected to grow to $122.43B by 2028, expanding at a compound annual growth rate of 34.1% during the forecast period. Celebrity endorsements, the rising demand for digital art, the increasing adoption of NFTs in the fashion, retail, and supply chain management industries, and the increasing use of the metaverse by tech giants such as Microsoft, Google, and Meta (formerly known as Facebook) are expected to fuel the growth of the market.
Many of the stocks that have been tokenized to date are Apple, Tesla, Alibaba, and Netflix. Others include popular exchange–traded funds (ETFs), such as iShares Gold Trust and United States Oil Fund. These are subject to the same stringent requirements as stocks and are regulated by the US Securities and Exchange Commission (SEC).
Who are the providers in this space?
The easiest way to tokenize digital assets is by using an existing service, rather than coding and creating your own solution.
There are various providers that can help with the process. The chart below compares the top 10 asset tokenization companies. However, there are many more providers in the industry with varying expertise and from different jurisdictions.
