Teaser: The Fintech industry will continue to revolutionize the financial sector and now is the time to “tokenize”.
Over the past few years, crypto currencies have found their way to the headlines, and even to some portfolios. I still regard the technology behind the crypto currencies as the revolutionary element – the blockchain technology. As often seen before new technology finds its optimum after a while, which is what I think is happening now with the blockchain technology. In my belief, it will change our perception of the concept of “investments”, make it easier for smaller businesses to raise equity/funding, and syndicating an asset will simply be revolutionized.
The new development of using “tokens” to sell units in assets is not an attempt to circumvent security or financial acts – on the contrary. The next developments will happen in two directions, where one direction can make securities smarter. The other direction is to sell units in assets as electronic tokens.
A common share in a company is already electronic today, though also earlier with physical paper shares different share classes were possible. The normal common share pays an annual dividend that depends on the company’s result, in addition, the shareholder has a voting right.
A classic alternative could be the preference share, with a guaranteed minimum dividend, though there may be less voting rights, or the share is traded at a higher price. If the share is issued as an electronic token, I could imagine shares issued with completely different benefits to the shareholder, simply because its much easier.
A retail chain could give an extra discount on purchases, depending on how many shares one holds, but therefore no dividend is paid out. With blockchain technology, it becomes easier to register shares on different settlement platforms, which can also be linked to the company’s shareholder register. Thus, in this case, the company in its own system can register how much discount a shareholder must have.
The possibilities are endless, and it is obviously for companies to issue their own shares via their own homepage as long as they comply with the law. This first small step with a new electronic variant of existing securities is called a “security token”, and is defined as a security, by the U.S. Securities and Exchange Commission (SEC).
The really exciting steps in the future are the “tokenized” securities, or a “tokenized” unit. Depending on which kind of underlying asset, I prefer the phrase “unit” because it doesn’t clash with the law. The “tokenized” units opens up for syndicating all sorts of assets and it is obvious to find “co-investors” via the internet. The classical example is the syndication of credit facilities financed by banks, where one bank is responsible for arranging a large loan that other banks take a share of. But by issuing units in a tokanized asset, one can much easier, and at lower cost, sell units in various assets. These can be registered on platforms so the “investor” has an overview of the different electronic investments.
As an example, one can buy 10 pct. in the neighbour’s old-timer against getting two trips a year, or a unit in a football player against getting free entrance to the team’s home games.
I trust that smaller companies seeking capital will get easier access to find investors, even though crowd funding has remedied a part of the problem. I have also seen the first property project from Brazil, which was brought to the market in a tokanized way. I am convinced that a whole new industry is emerging within this field. The fintech software vendors that I am talking to confirm this view. But of course, the way forward is paved with challenges.
An obvious challenge is fraud. How is it checked that the asset the investor buys a unit from exists at all? But of course, the big basic challenge will be whether the unit is a “unit” or a “security”. I expect that many cases will be tested, though it’s worth to carefully study the national regulations before heading on with tokanizing the neighbour’s car.
Nevertheless, I will refer to the “The Howey Test” rule that is based on an American court decision back from 1946. It states that it is a security if one invests money (or other assets), and where one invests on an equal level with other investors and there is expected a return based on work done in the unit (or by a third party). This is an American rule and it can be interpreted differently, but it gives a direction in the definition of a security.
I am convinced that tokens will change many people’s approach to investments. But investors who have invested in banks and other financial institutions might consider how tokens will affect the banks’ future earnings. My biggest concern about the future earnings in the banking sector is that the sector’s innovation happens in small fintech companies and not within the established banks.
Large companies in all other sectors use enormous amounts of money on technological development of their existing products, but even more on new products and services. This is done only to a very limited extent in large established financial companies – this is one of my real concerns about the banking sector’s future earnings.
However, the new technology does not mean that all future IPOs will only be companies issuing their own tokens via their homepage. A corporate finance department in a bank has a number of functions in connection with IPOs. Among other things, a bank takes some of the risks associated with an IPO, also on behalf of investors.
Nevertheless, it is obvious that the new technology will contribute to even cheaper securities trading. I have no doubt that cheaper solutions arise for IPOs as well, which will challenge the income structure in the bank’s classic corporate finance activity.
In addition, some of the examples that I have mentioned will turn into alternative markets outside the banks.
A sceptical thought might be that everything is just an exciting future prospect, though let’s wait and see– to this, there is only one thing to say, it happens right now…
