Tokenization is the first step for real-world assets in DeFi

Before delving into our newsletter, I would like to share with you a great announcement from our team: We are pleased to have integrated our solutions with Fireblocks – an enterprise-grade platform for moving, storing, and issuing digital assets, who serves over 1,300 financial institutions. This integration will enable Fireblocks to provide a turnkey tokenization solution for its customers with the ability to deploy and manage permissioned tokens such as digital securities, stablecoins and loyalty tokens.

We’re very excited about this partnership as tokenization continues to storm into the financial and business development strategies of financial institutions, and this kind of ready-to-use solutions will be the catalyst for the tokenization prosperity. However, while more financial instruments and real-world assets are being brought to blockchain, the full potential of tokenized securities lies post-tokenization.

Collateralization is currently the main DeFi use case

It allows users to easily obtain a loan with their cryptocurrency as a collateral from someone else in an investor pool. The whole process takes place on a DeFi platform, run via smart contracts, without any intermediary. However, the same can not be said for tokenized securities yet, due to compliance, valuation, and liquidity issues.

While the traditional finance concept of allowing borrowers to use something valuable as the guarantee to obtain a loan remains the same, in DeFi the trustee is replaced by smart contracts. Instead of middlemen performing manual operations, the codes themselves will execute actions when all conditions are met.

Collateralization of tokenized securities is coming

The pledge of tokenized assets is possible but more complicated, which explains why it is little used at the moment: These crypto-lending protocols work well because cryptos are very liquid, and the market prices are well known. It enables DeFi protocols to efficiently calculate the LTV (loan-to-value), and to automate liquidations in the event of nonpayment by the borrower or loss of value of the pledged asset. Indeed, even though cryptocurrencies have high liquidity, they are also volatile.

With security tokens, it is currently more difficult to determine the value of the token, and to get enough liquidity to reach the same automation level of the process. For sure, we have a type of token that is usually backed by the value of real-world assets, so they are less likely to fluctuate as much as they do with cryptos. As a result, liquidations should be less frequent. However, they will still need to be enforced if the borrower doesn’t pay back the debt.

Calculating net asset value (NAV) can be costly, lengthy, and difficult for issuers due to the nature of the underlying assets in general. Valuation service providers, such as our partner Inveniam, are needed in this case so that issuers can adequately and accurately assess their valuation and link this pricing data to their tokens. This will drastically help to use tokenized securities as collateral.

The other problem is the lack of liquidity. Liquidators will only guarantee that they will buy the assets if they get a good price, and if they can resell the tokenized asset on the secondary market. In the crypto market, these liquidations can be fully automated. For digital securities, there is no venue with enough liquidity yet. That is why Tokeny is working actively to interconnect liquidity providers, whether it is decentralized exchange protocols, regulated exchanges or digital trading desks.

Permissioned lending protocols to make DeFi compliant

Last but not least, it is mandatory for issuers to apply compliance rules in any operations with their tokens. As compliance rules are embedded in the token, the lending protocol will only work with eligible token holders and may also want to restrict its access to certain types of investors. For this, Tokeny already leverages the digital identity system ONCHAINID to whitelist users. By using such a digital identity system, lending protocols can provide DeFi services to qualified users in a compliant manner, attract institutional investors, and increase the liquidity of tokenized securities.

The tokenization of assets is the first step in bringing more assets on-chain, leading to greater benefits and more use cases. Our vision is to see tokenized securities at the center of all value chains in the financial market. Isn’t it exciting?

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