Tokenization, not crypto, is the future

Tokenization, not crypto, is the future

This is a summary of - and commentary on - an opinion piece titled“Tokenization, not crypto, is the future for Canada’s digital economy,” written by Mark Wiseman and published recently in The Globe and Mail. The full article can be found here.

An investor for more than two decades, including many years spent managing the pension investments of millions of Canadians, Wiseman writes about the principle of intrinsic value: pricing assets based on their underlying attributes and, in turn, generating a reasonable risk-adjusted return from those assets.

Multiple disruptive global events have made for a bearish economic outlook and this is being felt even more strongly throughout crypto. The dual threats of inflation and further financial downturns are looming. And as we all know, cryptocurrencies have been extremely volatile, with their value tied to speculative activity as opposed to what Wiseman calls ‘intrinsic value’. But there is a large silver lining amidst this doom and gloom.

Wiseman points to tokenization as the real benefit of the distributed ledger technologies behind cryptocurrencies (i.e. blockchains). The potential for tokenization is what is commonly known in DeFi as Real World Assets (RWAs), and it is far more world changing than many speculatory cryptocurrencies and at the same time can allow for better yields than many indexes and funds.

Wiseman writes:

“Tokenization allows owners of assets with intrinsic value – ranging from real estate, to securities, to commodities, to fine art (or the digital equivalent) – to tokenize their assets into a form that is usable on a blockchain application. In practical terms, it enables asset owners to sell fractional ownership of their asset akin to a publicly traded company issuing equity, but in a much more accessible way.”

Real World Assets (RWAs) are incredibly attractive because they provide investors with easier ways to purchase, hold and trade assets that have real underlying value, including digital assets like accounts receivable (invoices owed by clients).

“Tokenizing and selling part ownership of one’s assets can improve liquidity and increase the transparency of the value of their assets, allowing them to borrow against them more easily. Valuing an artwork is notoriously difficult, but if a sculpture is tokenized and a liquid market in those tokens develops, price discovery for the object as a whole becomes far easier. After the tokenization of a skyscraper, a token holder would be able to secure financing against their tokenized portion of the building, as opposed to having to mortgage the entire structure to gain funding.”

A regulatory opportunity in bearish times

Wiseman believes that tokenization is what regulators should be focused on as a way to provide value in their economies. He says ‘Whichever country becomes a leader in tokenization, retail investors would be able to access assets beyond the public equities and bonds to which they are now mostly limited.’

The Nasdaq Composite tumbled 13.3% in April, the index’s worst monthly performance since 2008, while the S&P 500 fell 8.8% and ended the month at levels last seen in May 2021. All over the world index fund managers are looking at losses of between 9-13%. Investors are crying out for better places to park their capital.

Wiseman says, “Institutional investors – many of whom have already begun to significantly increase their investments in private companies, real estate, infrastructure and other alternative investments – are desperate to find havens for their capital, particularly given the recent fluctuations in equity markets.”

However, there is a problem with this seemingly attractive opportunity for capital that wants a home.

“Publicly traded companies have a significant amount of disclosure regulations they must adhere to, which may cause many asset owners to shy away from listing their assets on public exchanges. Regulation will have to ensure adequate information is available about the underlying asset, so that investors purchasing tokens can understand what they’re buying, without being overly burdensome to the point that it dissuades asset owners from participating.”

Centrifuge solves this with its private data layer - documents can be created and stored off-chain, and then brought back on-chain when proof is needed. Access can be given to those who might want to underwrite the deals. Centrifuge uses NFTs as on-chain representations of assets that link to off-chain, private information.

RWA via Centrifuge allows investors to invest in assets that would otherwise be unavailable, creating potential value for both buyers and sellers. Additionally it removes barriers to selling fractional ownership, and enables new asset classes.

With these measures, institutional investors can drastically expand their project portfolio and sophisticated retail can get to look behind a previously closed door.

Centrifuge also removes geographical distance between investors and investments by permitting an investor from one continent to invest in assets on another with a few clicks, without any loss of security or assurance. As many Centrifuge users will attest, removing inter-country barriers for investors fundamentally changes the way investments are done.

Centrifuge covers the four major points required in the tokenization of assets: a regulatory framework, scalability, security, and adoption. Read more here.

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We would like to ask our Community some questions:

  • In your opinion, which country will become a leader in tokenization, and why?

  • What is holding you back from investing in RWAs?

  • What can we do as a community to spread the word about tokenization (aka RWA) as the future of Web3

  • Do you agree with Wiseman’s view that publicly traded companies “have a significant amount of disclosure regulations they must adhere to, which may cause many asset owners to shy away from listing their assets on public exchanges”?

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Hi Ivan.

Thanks for the article, very interesting stuff indeed and I agree that tokenization of assets (e.g real estate, a car, art etc.) and especially the link between the crypto space and the “real world” aka. traditional economy is key. The problem crypto has there are thousands of coins without a real use case, product or concept and most of them are isolated on their chain, ecosystem or the crypto space in general. They all will have big problems to survive in this bear market and only the ones who provide a use case, enable interoperability and connect to the regular market will prevail.

Below are my answer to the questions asked:

  • In your opinion, which country will become a leader in tokenization, and why?* That’s hard to say but currently I see Europe taking the lead when it comes to regulations for retail investors and especially Portugal, Switzerland, Slovenia and Germany when it comes to crypto taxation. The US needs to act quick otherwise they will lose crypto companies to other countries where they have a clearer/better ground to operate from

  • What is holding you back from investing in RWAs? I am an investor in Tinlake since October 2020

  • What can we do as a community to spread the word about tokenization (aka RWA) as the future of Web3? To show what’s the real strength and importance of the ecosystem despite the current token price and market turmoil. It’s important to communicate what Centrifuge is going to achieve (e.g the protocol roadmap, increase the token utility, collaboration with other chains from the ecosystem, decentralized pool onboarding etc.). Centrifuge is not going to grow on its own, a strong and active community is needed to grow the ecosystem. The best tech/protocol won’t make it without the community

  • Do you agree with Wiseman’s view that publicly traded companies “have a significant amount of disclosure regulations they must adhere to, which may cause many asset owners to shy away from listing their assets on public exchanges" Yes, I agree. Some kind of regulation is needed, especially when it comes to real world assets. The disaster of Luna/UST shows how important regulation is and Tether had to show that their stable coin is secured too. Without the proof of the underlying asset the door to speculation and fraud is wide open. But it’s important as well to keep regulation moderate otherwise if it’s getting too complicated investors will shy away to invest. A product in general has to be as easy as possible to understand and to apply. Investors shouldn’t have to deal with too complex technology or applications

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Love this article Ivan! It’s true that the potential for crypto goes way beyond currency and financial speculation - co-ordination and ‘tokenization of everything’ are just as exciting and important.

Big agree with this. One of the biggest problems of investing in RWAs, like real estate say, is its illiquidity. Only ever a small number of buyers or sellers of a particular asset, and the barriers to sale can be high. Tokenization and secondary markets to trade the tokens can make an asset 100x more liquid, hence more efficient markets and new forms of price discovery.

The future is looking bright for RWA on-chain.

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Good day Tjure07 and thank you for your answer.
Yes, I guess that after Luna and UST case some regulation should come…

:top:
This is unbelievable that investors lost all their investment and 0 regulation was applied to Luna foundation. Personally, I know a few people who lost 10000-20000 just and I also saw comments from one investor who lost 300 000 UST in 1 day… This is unbelievable and unacceptable in my opinion.

Tokenezation of RWA base on 4 main blocks:
Regulatory framework , Scalability, Security, Adoption.

And Centrifuge covers and fits all of the parameters. :sunglasses:

Good day OgTheKingOf Bashan
Without any doubt!
image

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Wonderful blog…

I would like to understand the process in below context.

User A - has a real world asset like Real estate
User B, C, D and E are interested on the fractional ownership of this asset.

User A goes to Tinlake dApp and create a Fractional NFT against this Real Estate and locks it in a pool. He also uploads all the relevant documents on the private data layer provided by protocol for document exchange.

Buyers find all the documents authentic (I believe this process is offline with Local Authorities, who maintains the Real estate ownership record). - Pls confirm if there is any other process in centrifuge for asset authentication?

Buyers invest in the Pool using DAI and buys the fractional NFT

But how Does the ownership records in the physical world changes after User A mints a NFT against it and locks it inside the pool?

  • Who actually owns the property in the Real estate ownership record maintained by Local authorities?
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I totally agree
:ok_hand:top-notch article!

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Good day CaptPython
Yes, correct.

Tinlake Investors didn’t buy fractional NFT, but just provide liquidity(DAI) to AO in exchange for interest and CFG rewards.

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Hi @ImdioR Thanks for the inputs.

So does we have options of creating fractional NFT against a real estate or any real world asset using centrifuge protocol? which can be then bought by multiple owner.

Hi @CaptPython,

User A - the asset originator - went through an internal process where their asset got checked that their assets are legit. User A can only create “full” NFTs and not fractional NFTs.

User B, C, D and E - the borrowers - invest DAI in the pool of User A and receive DROP token of the User A pool. The User A pool’s DROP token represents the Net Asset Value (NAV) of all NFTs in the pool. It is not possible to buy a fractional NFT.

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Thanks for the further inputs, I have some followup questions

the asset originator - went through an internal process where their asset got checked that their assets are legit.

Q: Who controls this internal process for asset authenticity?
Q: After locking the NFT in the Pool , Is it possible for user A to use the Liquidity provided by Other borrowers?
Q: What if the User A is not able to return back the Liqudity he borrowed from the Pool?

You can find more information about Default case here :

Thank you for your reply!

Who controls this internal process for asset authenticity?

How can I apply to be an issuer?

A: Every new issuer will have to go through the Pool Onboarding Proposal (POP) process which is designed to evaluate and onboard RWAs to Centrifuge.

The POP process, as currently envisioned, will comprise three stages:

  1. Proposal: POPs are publicly submitted for community discussion and voting through the Centrifuge Forum.
  2. Assessment: POPs enter private due diligence and are risk assessed, legally reviewed, and structured by qualified third parties, resulting in a publicly available report and analysis.
  3. Onboard: POPs are reviewed in totality, enter final discussion and evaluation, and are ultimately voted upon for onboarding RWAs through a Centrifuge Pool.

To start, fill out the template and post it in the Centrifuge Forum.


After locking the NFT in the Pool , Is it possible for user A to use the Liquidity provided by Other borrowers?

User A can only use the funds deposited in User A’s pool. But we’re thinking of a senior pool of senior token’s so all borrowers can benefit from liquidity in the pool.


What if the User A is not able to return back the Liqudity he borrowed from the Pool?

@ImdioR link to default article is a good source of truth.

tldr;
There are two main components: On-chain technical process and Off-chain legal process

On-chain technical process: The TIN write off schedule will be adjusted and the asset’s NFT will be repriced. The TIN tranche value will be reduced by whatever amount the asset default is. This also reduces the TIN buffer and, more importantly, reduces TIN price and yield. This impact would be visible on chain and in future graphs.

Therefore, the junior tranche, or TIN, is also sometimes referred to as a first loss piece. If the TIN tranche absorbs all the losses, DROP value would not be impacted at all. Had the asset default been larger than the value of the TIN tranche, the value of the DROP tranche would have decreased and DROP return would drop accordingly.

Off-chain legal process: This process looks very different for different assets, and generally, in the real world, the write-off policy doesn’t mean a liquidation policy. It’s much more about managing an asset default. After such liquidation or actions, the proceeds would then be distributed to the tokenholders as the issuer or liquidator pays back the NFT partially or fully. All in all, the two tranche model allows the investors to earn the appropriate returns for their risk appetite.

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