Financial Services Practice

Tokenization:
A digital-asset déjà vu
Tokenization adoption was poised for success six years ago,
but progress was limited. Renewed interest might feel like déjà vu,
but stronger business fundamentals and structural changes
suggest the path could be different this time.
This article is a collaborative effort by Anutosh Banerjee, Ian De Bode, Matthieu de Vergnes,
Matt Higginson, and Julian Sevillano, including input from McKinsey’s Corporate and Investment
Banking team.

August 2023
 The past 12 months have been highly tumultuous over $1 trillion worth of tokenized repurchase
for digital assets and Web3 players, even by the agreements monthly on its Distributed Ledger
turbulent industry’s standards. Multiple bankruptcies, Repo (DLR) platform.
high-profile cases of fraud, and regulatory
enforcement actions have had an impact on These pronouncements and projects give many
mainstream enthusiasm for the sector. digital-asset veterans a distinct sense of déjà vu.
The first tokenization took place in 2017, and critics
Yet companies in financial services, retail, music, point to the limited traction it has gained since then.
gaming, and media, among other sectors, continue The question now is, will this time be different?
to pursue opportunities in Web3, such as tokenized
loyalty programs. In financial services, the emphasis This article attempts to provide a careful and
is shifting to the reemergence of a “blockchain, not balanced look at some of the asserted benefits and
crypto” narrative. Banks, asset managers, and other perennial challenges of tokenization across
institutions are intrigued by the technological asset classes. From this, we conclude that
potential of “tokenization”—the process of issuing a challenges remain, but growing institutional interest
digital representation of a traditional asset on a and stronger business fundamentals across
(typically private) blockchain, sometimes referred to certain asset classes offer potential for a different
as a distributed ledger. Several leaders of large outcome this time, especially for players that
institutions have publicly voiced interest in token­ follow a well-structured approach.
ization’s potential to transform capital markets.1
Analysts have forecast that $4 trillion to $5 trillion
of tokenized digital securities could be issued Tokenization’s potential benefits
by 2030.2 While these numbers are, of course, only Tokenization refers to the process of creating a
projections, in-production examples at scale are token on a blockchain that represents an asset.
emerging. For example, US-based Broadridge, a These tokens can be representations of traditional
fintech infrastructure company, now facilitates tangible assets (such as real estate, agricultural

In financial services, the emphasis

is shifting to the reemergence of
a ‘blockchain, not crypto’ narrative.

1
As cited by the BNY Mellon CEO in “Time for a reset of the crypto opportunity,” Financial Times, December 2, 2022; the Goldman Sachs CEO
in “Blockchain is much more than crypto,” Wall Street Journal, December 6, 2022; and the BlackRock CEO in “The next generation for markets
will be tokenization,” New York Times, 2022 Dealbook Summit, November 30, 2022.
2
“Money, tokens, and games: Blockchain’s next billion users and trillions in value,” Citigroup, March 30, 2023.

2 Tokenization: A digital-asset déjà vu

or mining commodities, analog artworks), financial More specifically, when tokenization is conducted
assets (equities, bonds), or nontangible assets such at scale, beyond proofs of concept, its benefits
as digital art and other intellectual property. Whether will differ by asset class but could include some
these assets have a parallel representation in other combination of the following (Exhibit 1):
systems of record (“off-chain” in a central securities
depository, say) or are native to the on-chain model, — Improved capital efficiency. Tokenization can
tokenization typically involves four fundamental steps deliver meaningful capital efficiencies in certain
(see sidebar, “The process of tokenization”). capital market use cases. Triparty repurchase
agreements or money market fund redemptions
Tokenization gives asset holders and market makers can occur in a matter of minutes, as opposed to
access to blockchain technology’s potential the current T+2 settlement, for instance. Shorter
benefits. Broadly speaking, these include 24/7 settlement times generate significant savings
operations and data availability, along with in high-interest-rate environments such as the
so-called atomic (that is, instantaneous) settlement. current cycle. For investors, these savings
In addition, tokenization offers programmability— may be the greatest near-term impact from
that is, the ability to embed code in the token, and tokenization, and the main reason why
the ability of the token to engage with smart the business case is now different from six
contracts—enabling higher degrees of automation. years ago.

Exhibit 1

Tokenization can benefit asset owners, service providers, and investors.

Potential benefits from tokenization, by stakeholder type, nonexhaustive

Asset owners Service providers Investors

Revenue Cost Revenue Cost Revenue Cost
opportunity efficiency opportunity efficiency opportunity efficiency
Improved capital efficiency
Lower cost of capital and free up capital
in transit
Democratization of access
Access to new secondary markets;
greater liquidity
Access to new pools of capital with
lower minimum investment required
Operational cost savings
Opportunities to embed manual and error-
prone product-structuring and asset-
servicing tasks into the token smart
contract and eventually across a portfolio
Enhanced compliance, auditability,
and transparency
Embedding of rules and credentials into
the token smart contract (eg, investor
qualification, carbon credit verification)
Cheaper and more nimble infrastructure
Open-source technology driven by
thousands of Web3 developers and billions
of investment dollars

McKinsey & Company

Tokenization: A digital-asset déjà vu 3

The process of tokenization

The “tokenization” of an asset involves the following four steps:

Asset sourcing. The process begins

1.  3. Token distribution and trading. The The current tokenization process can be
when the owner or issuer of an asset digital asset can be distributed to challenging to navigate. It involves as
identifies that the asset or use case the end investor through traditional many as nine parties (asset owner, issuer,
would benefit from tokenization. This channels or through novel channels traditional custodian, tokenization provider,
step also includes identifying the such as digital-asset exchanges. The transfer agent, digital custodian or
structure to be tokenized, because the investor or the investor’s delegate will special-purpose broker–dealer, ATS,
specifics will shape the process. For need to set up an account, or wallet, to distributor, and end investor), two
instance, tokenizing a money market hold the digital asset, with any physical- more than the traditional asset process.
fund is different from tokenizing a asset equivalent remaining immobilized Furthermore, many tokenized assets
carbon credit. It helps to understand in the omnibus issuer account at the will continue to exist in both physical and
whether the asset will be treated traditional custodian. This step typically digital instances,1 each with its own
as a security or commodity, which involves a distributor (for example, the data systems to be synchronized and its
regulatory frameworks will apply, and private wealth division of a large bank) own servicing needs.
which partners will be engaged. and either a transfer agent or a special-
purpose broker–dealer to move the
2. T
 oken issuance and custody. Creation digital assets. Depending on the issuer
of a digital, blockchain-based represen­ and type of asset, the owner may enlist
tation begins with immobili­zation of a secondary trading venue—for example,
any related physical asset. This involves an alternative trading system (ATS)—to
moving the asset to a control location, create a liquid market for these tokenized
typically with a qualified custodian or a assets postlaunch. Some issuers prefer
licensed trust company. Then a digital that their tokenized assets not trade
representation of the asset is created on on secondary trading venues, as this
a blockchain in the form of a token may lead to unwanted price signals
with embedded functionality—that is, that could require markdowns on
code for executing predetermined their portfolios.
rules. To do this, the asset owner selects
a particular token standard (ERC-20 4. Asset servicing and data reconciliation.
and ERC-3643 are common standards), A digital asset that has been distributed
a network (private or public blockchain), to the end investor requires ongoing
and (compliance) functions to be servicing, including regulatory, tax, and
embedded (for example, user transfer accounting reporting, notice of corporate
restrictions, freeze capabilities, and actions, and periodic calculation of net
clawbacks). The tokenization provider asset value (NAV). The nature of servicing
implements these decisions. Once may depend on the asset type; for
the digital asset(s) have been created, example, servicing of carbon credit
they are stored by a custodian tokens will require different auditing
or special-purpose broker–dealer than fund tokens. Servicing requires the
pending distribution. reconcil­iation of off- and on-chain activity,
as well as extensive data sources.

1
A good example of this is the bond issued by the city of Lugano in Switzerland on the SDX platform.

4 Tokenization: A digital-asset déjà vu

— Democratization of access. Among tokenization’s embedding specific compliance-related actions
most touted benefits is the inherent democ­ (for example, transfer restrictions) into tokenized
ratization of access, which offers potential for assets, automating these compliance checks.
improved liquidity resulting from the fraction­ In addition, the system’s 24/7 data availability
alization of assets (that is, division of ownership creates opportunities for streamlined
into smaller parts). In some asset classes, consolidated reporting, immutable record­
streamlining operationally intensive manual keeping, and real-time, auditable accounting
processes can lower the unit economics, (where the blockchain can be used to create
thereby making it feasible to serve smaller a so-called triple-entry bookkeeping system,
investors. However, access to these investments where immutable time stamps are the novel
may have regulatory limitations, meaning many addition). A high-profile example is carbon credits,
tokenized assets may be available only to where blockchain technology can provide
accredited investors. And while fractionalization an immutable and transparent record of the
can certainly be appealing and feasible for purchase, transfer, and retirement of credits,
better liquidity, tokenized asset distribution will with transfer restrictions and measurement,
need to reach much larger scale before true reporting, and verification (MRV) functionality
democra­tization of access is realized. built into a token’s smart contract. This way,
when a transaction of a carbon token is initiated,
— Operational cost savings. Asset programmability the token can automatically check up-to-date
can be another source of savings, particularly satellite imagery to ensure that the underlying
for asset classes where servicing or issuing tends nature-based removal project is still operating,
to be highly manual, is error prone, and involves enhancing trust in the ecosystem.
numerous intermediaries. Examples of such
assets include corporate bonds and other fixed- — Cheaper and more nimble infrastructure.
income products, which often involve a bespoke Blockchains are inherently open source and
structure, imprecise interest calculations, and continue to evolve, spurred by the thousands
coupon payment disbursements. Embedding of Web3 developers and billions of dollars’ worth
operations such as interest calculation and of venture capital invested in the space.
coupon payments into the smart contract of the Assuming financial-services companies elect
token would automate these functions, lowering to operate private or hybrid instances of
their costs. System automation via smart public permissionless blockchains,3 future
contracts also can lower the cost of services innovations—for example, in smart contracts
such as securities lending and repos. And and token standards—could be easily
over time, digital-asset programmability can and quickly adopted, further lowering
also create benefits at the portfolio level operating costs.
by enabling asset managers to automate the
rebalancing of portfolios in real time. In light of these benefits, it’s clear why many
big banks and asset managers are intrigued by the
— Enhanced compliance, auditability, and technology’s promise. However, some of these
transparency. Current compliance systems benefits remain theoretical in nature given the lack
often rely on manual checks and (often of scale of tokenized assets and use cases, and it
retroactive) analyses. Asset issuers could begs the question why more progress has not been
automate these compliance checks by achieved over the past six years.

3
Public permissionless blockchains currently attract more developers than private blockchains by orders of magnitude, but enterprises may
elect to employ a private instance to regulate access to transactions and data and to implement more rigorous governance.

Tokenization: A digital-asset déjà vu 5

 Continuing challenges to complicating the short-term business case,
widespread adoption such transitions often involve running digital-twin
Despite the benefits tokenization may deliver, few operations (for example, digital and traditional
assets have been tokenized to date. A notable settlement, data reconciliation and compliance on
exception is cash, in the form of fully reserved and off chain, digital and traditional custody and
“stablecoins” and tokenized bank deposits. asset servicing) to reduce near-term operational
and regulatory risk. Finally, many legacy clients
Why hasn’t digital-asset tokenization achieved in capital markets have yet to demonstrate interest
widespread adoption to date? Conditions have in 24/7 infrastructure and movement of value,
posed challenges related to infrastructure, presenting further challenges to the go-to-market
implementation costs, market maturity, regulation, approach for tokenized products.
and industry alignment.
Market immaturity
Technology and infrastructure unpreparedness Tokenization’s ability to achieve faster settlement
Adoption of tokenization is held back by limitations times and greater capital efficiency requires
of the available infrastructure. The limitations instantaneous cash settlement. However, there
include a continuing shortage of institutional-grade currently exists no cross-bank solution at scale,
digital-assets custody and wallet solutions offering despite the progress that has been made on this
sufficient flexibility in managing account policies, front: tokenized deposits currently operate
such as trading limits. Also, blockchain technology, only within a single bank, and stablecoins lack
particularly the public permissionless versions of the regulatory clarity for now to be considered
it, has been hindered by limited system uptime at bearer assets to provide for real-time ubiquitous
high transaction throughputs—a deficiency that settlement. In addition, the tokenization provider
is unacceptable to support tokenization of certain landscape has been fragmented and nascent,
use cases, particularly in mature capital markets. with no integrated and established one-stop-shop
Finally, the fragmented (private) blockchain offering the requisite licenses and capabilities.
infrastructure—including developer tooling, token A third remaining issue is the absence of at-scale
standards, and smart-contract guidelines—creates distribution channels for digital assets to be
interoperability challenges across financial accessed by the appropriate investors. Many
institutions. This introduces new risks (such as tokenized assets are available only on homegrown
bridging protocols between blockchains), platforms from tokenization providers, in contrast
fragmentation of liquidity, and challenges in to the established distribution channels used by
harmonizing data across systems to deliver wealth and asset managers.
necessary reporting.
Regulatory uncertainty
Limited short-term business case and high cost To date, the regulatory framework for tokenization
to implement has differed substantially by region or has simply
Many of tokenization’s potential economic benefits been absent. US players are particularly challenged
come to fruition at scale, when a sizable majority by undefined settlement finality, lack of legally
of assets or use case volumes have migrated to the binding status of smart contracts, and unclear
new digital infrastructure. However, this will likely requirements for qualified custodians. Further
require a cost-intensive transition to adapt middle- unknowns remain regarding the capital treatment
and back-office workflows not designed for of digital assets. For instance, the US Securities
tokenized assets. The situation implies unclear and Exchange Commission has implied through Staff
short-term benefits and a challenging business Accounting Bulletin 121 that digital assets must
case on which to gain organizational buy-in. Further be reflected on the balance sheet when providing

6 Tokenization: A digital-asset déjà vu

Despite the challenges,
tokenization may have reached
an inflection point for certain
use cases and asset classes.

custodial services—a stricter standard than for Approximately $120 billion of tokenized cash is
traditional assets. This requirement makes it cost now in circulation in the form of fully reserved
prohibitive for banks to hold and potentially even stablecoins (for example, USD Coin). Some banks
distribute digital assets. have launched or will shortly launch tokenized
deposit capabilities to improve the cash settle­
Industry in need of alignment ment leg of commercial trades. These nascent
Capital market infrastructure players have yet systems are not perfect by any means; liquidity
to signal the concerted will to build out tokenization remains fragmented, and stablecoins are not
capabilities or move markets on chain, although yet recognized as bearer assets. Even so, they
their involvement is critical, as they are the ultimate have proven sufficient to support meaningful
recognized holders of books of record. Incentives volumes in the digital-assets market. Stablecoin
to move to new infrastructure may be misaligned, on-chain volumes have routinely exceeded
given that certain functions now performed by $500 billion monthly.4
intermediaries could become obsolete or change
dramatically. Even carbon credits as an asset class — Improving short-term business case
have encountered challenges in gaining alignment fundamentals. Higher interest rates have
on an established registry. At present, Gold improved the economics for some tokenization
Standard is the only registry publicly preparing to use cases that deliver capital efficiency. Short-
support tokenized carbon credits, despite the clear term liquidity transactions such as tokenized
benefits of enhanced transparency. repos and securities lending are more attractive
with higher rates, as are tokenized money
market funds for fluid collateral management.
Tokenization may be at To see the shift in business case, imagine
an inflection point the difference in cost of a $100 million notional
Despite the challenges, tokenization may have one-hour repo facility versus the standard
reached an inflection point for certain use cases and 24-hour facility when rates have risen from 0 to
asset classes. Trends over recent months are 5 percent. In addition, in the United States,
consistent with a possible acceleration of adoption. established banks have recently received an
influx of large (and often very profitable) digital-
— Advances in cash tokenization. Settling trades asset business clients—for example, stablecoin
of tokenized assets instantaneously and 24/7 issuers. Keeping these clients will require
requires cash tokenization; without it, only one 24/7 movement of value and tokenized cash,
leg of a transaction can be completed instantly. further facilitating the business case to accelerate
tokenization capabilities.

4
Stablecoin data from The Block, accessed July 19, 2023.

Tokenization: A digital-asset déjà vu 7

 — Emerging regulatory framework outside the (as opposed to the traditional argument of better
United States. In the past six months, the liquidity for illiquid assets), highlight more use
European Union has moved to approve Markets cases where the technology could gain traction and
in Crypto-Assets (MiCA) legislation,5 and other generate meaningful value for global markets
regions such as Hong Kong, Japan, Singapore, over the next two to five years.
the United Arab Emirates, and the United
Kingdom have published new guidelines that
enhance the regulatory clarity for digital assets. Considerations for financial-
Even in the United States, market participants services companies
are exploring various tokenization and distribution Whether or not tokenization is at an inflection point,
approaches, leveraging existing rules and a natural question to ask is how financial-services
guidance to mitigate the impact of the current companies should respond at this juncture.
regulatory uncertainty—for example, by limiting The specific time frame and ultimate adoption of
distribution of tokenized assets to accredited tokenization are unknown, but early institutional
investors only and by running digital-twin instead experimentation across certain asset classes and
of digital-native operations. use cases (for example, money market funds, repos,
private funds, corporate bonds) has shown the
— Increasing market readiness and infrastructure potential to scale in the next two to five years. Those
maturity. Over the past five years, many who would look to ensure a leading position in this
established financial-services companies have ecosystem could consider the following steps.
added digital-asset talent and capabilities.
Several banks, asset managers, and capital Reexamine underlying business cases
market infrastructure companies have built Businesses should reassess the concrete benefits
digital-asset teams of 50 or more people, and and value proposition of tokenization, as well as the
these teams are growing. With that, the level avenues and costs of implementation. Understanding
of understanding of the technology and what impact higher interest rates and volatile public
its promise has expanded among established markets have on specific assets or use cases is
market participants. Additionally, we are important to appropriately evaluating tokenization’s
currently seeing greater experimentation and potential benefits. Similarly, continually exploring
planned expansion of capabilities (often the landscape of providers and understanding the
through partnerships) among these capital early applications of tokenization will help to refine
market incumbents, with some working on estimates of the technology’s costs and benefits.
integrating or rolling up necessary capabilities
to become a one-stop shop for asset token­ Build out tech and risk capabilities
ization and distribution. Regardless of an incumbent’s position in the value
chain, a few capabilities are necessary to prepare
While tokenization has yet to achieve the scale for a tokenized world. First and foremost is building
needed to deliver on all its stated promises, a basic understanding of the technology and its
the ecosystem is maturing, underlying challenges associated risks, particularly relative to blockchain
are becoming clearer, and the business case infrastructure and governance duties (who can
for adoption may be improving. Initial proof points, approve what and when), token design (restrictions
especially in use cases that benefit from increased placed on the asset and enforcement of these
capital efficiency in a higher-rate environment restrictions), and system design (decisions about

5
“Crypto-assets: Green light to new rules for tracing transfers in the EU,” European Parliament, April 20, 2023. MiCA’s general goal is to
establish tighter rules for crypto asset service providers (entities engaged in issuance, offer, and trading of crypto assets) while easing
access to regulated markets. This includes stricter rules on stablecoins, disclosure obligations, anti-money-laundering checks, and data
security procedures.

8 Tokenization: A digital-asset déjà vu

 where books and records reside and what the controls (that is, appropriate governance, risk and
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implications are for the bearer nature of the asset). control frameworks to protect end investors),
McKinsey Insights App
An understanding of these underlying principles custody (what constitutes qualified custody for
could also inform conversations with regulators and tokenized assets on private networks, when
customers who are still getting up to speed on to use digital-twin versus digital-native records,
the technology. what constitutes a good control location),
token design (what type of token standards and
Form ecosystem relationships, particularly for associated compliance engine to support),
asset distribution and blockchain support and data standards (what
Given the fragmented nature of the current data are kept on chain versus off chain,
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landscape, it will be important for these emerging reconciliation standards).
leaders to develop an ecosystem strategy for off-
the-shelf integrations into other (legacy) systems
and partners. Very few asset owners are willing to
engage eight different parties to tokenize an asset; This is not the first time an industry has attempted
the custody, distribution, trade, and servicing of a shift to a more modern infrastructure. These
these assets should be as simple as possible. shifts are always challenging, as it means running
Partnerships expanding distribution and access the old and new operating models in parallel for
to investors can create meaningful strategic a while, which is hard to do when costs are in focus.
distance for an incumbent by helping such a company Regulatory uncertainty only compounds the
reach scale. difficulty. However, given the potential benefits
tokenization can bring to financial services,
Participate in standard setting recent moves by leading incumbents suggest they
Finally, institutions that are looking to have a leading may be up for the challenge, although it could
position in tokenization should provide regulators take some time. Meanwhile, banks, asset managers,
with streamlined input about emerging standards to custodians, and others can take some no-regret
avoid further fragmentation of liquidity, data, and moves today to prepare for this possibility of a
composability. Some examples of key areas where tokenized world—the strategic optionality may be
standard setting can be considered include worth it after all.

Anutosh Banerjee is a partner in McKinsey’s London office; Ian De Bode is a partner in the San Francisco office, where Julian
Sevillano is a partner; Matthieu de Vergnes is an associate partner in the New York office; and Matt Higginson is a partner in
the Boston office.

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Tokenization: A digital-asset déjà vu 9