SECURITY TOKENS WERE SUPPOSED TO TRANSFORM THE CRYPTO INDUSTRY - WHAT'S HAPPENED

Posted 17 July, 2020

At the end of 2017, when almost all cryptocurrencies were booming, there was active discussion of "security tokens" or digital coins that could replace traditional securities. The basic idea looked sound: creating digital versions of paper documents confirming the ownership of real estate or company shares would make them more convenient and liquid, and therefore would increase demand. Many called it the new "megatrend" of the crypto industry. There were more and more conferences dedicated exclusively to security tokens.

 

But after a year and a half, progress has stopped. More than 100 security tokens have been created to date, according to Polymath, a startup that helps companies mine cryptocurrency. But such tokens are illiquid. In the United States, there are only two exchanges where these assets are traded, and this is done on a small scale. We estimate that Openfinance only trades four assets with daily transactions of less than $ 1M per day. Overstock's Tzero exchange trades one asset - its own Tzrop token.

 

Many of the barriers to security token adoption are related to regulation. In order for US companies to set up a security token trading floor, they must register as a broker and dealer with the Securities and Exchange Commission (SEC) and obtain a license to either set up an exchange or an alternative trading system (ATS), and this is a long and expensive process. One of the CEOs of Crypto says the SEC is delaying the process of granting new ATS permits to digital asset companies. The mandatory holding period also slows down the process: once the original purchaser forms and purchases a new security, it usually cannot be transferred to others for a year, due to legal requirements.

 

In theory, security tokens could make a "global IPO" possible, says Olga Feldmaier, founder and CEO of the Swiss security token exchange Smart Valor. Ideally, with these tokens, US investors could just as easily invest in a public company based in Mumbai as they would in a New York company, which is very different from the state of the art today. But all countries that would participate in this process would have to agree on common principles. For example, in Switzerland, securities can already be settled on the blockchain, Feldmeier says. In the US, this area is controlled by the DTCC, a data center in New Jersey that processes 90 million transactions daily.

 

Over the past year, as the cryptocurrency market plummeted, it became clear that simply converting an illiquid paper asset into a digital asset would not boost interest. Many underestimated the difficulty of shaping investor demand for securities. 

 

“People realized that screaming about tokens wasn't going to replace good investments or distribution channels,” says Josh Stein, CEO of security token trading platform Harbor . In April, a $ 20 million security token placement on Harbor was canceled because one of the participants, real estate company Convexity Properties, was unable to secure favorable terms on the loan through which it was going to finance the deal.

 

The long-term benefits of security tokens are still compelling. Fred Shebesta, founder of Australian price aggregator Finder and co-founder of cryptocurrency exchange HiveEx, says fast banking is a critical feature because multiple participants can connect to a single distributed ledger. This eliminates the need to send a lot of messages back and forth and go through the various checks inevitable in the current banking system.

 

The short-term prospects are hazy. In a year, we'll be "about the same place," said Philippe Behazi, CEO of crypto trading company XBTO, at the Consensus conference last week. Olga Feldmaier of Smart Valor believes it will take five to ten years to create the cross-border infrastructure needed to trade security tokens in almost all countries. One thing is certain: if the implementation of this system depends on the actions of regulators, investors will have to wait longer than they would like.

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