Banking in Web3.0 – Metaverse, DeFi, NFTs and beyond.
COMP 7412 Sem A, 2023-24
Banking in Web 3.0 –
Metaverse, DeFi, NFTs and beyond.
Lecture 04:
Tokenisation of Assets; tokenization economies
Dr. Juergen Rahmel, MBA
HSBC Hongkong / Germany
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Table of Contents
• Lecture Objectives
• The principle of tokenization and target assets
• Expectations, benefits and risks
• Key issues with the traditional process
• Steps of tokenisation
• regulatory view
• Summary
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Tokenisation of Assets: Purpose and Principle
The principle of tokenization:
Source: UOB
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Tokenisation of Assets: Purpose and Principle
The target assets for tokenization:
Source: UOB
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Tokenisation of Assets: Institutional Expectations
Trust and financial soundness:
Given the potential of the digital space, institutions are looking for the same level of risk
management, focus on regulatory compliance, and rigorous safety and security
standards that are available for traditional assets.
Institutional readiness:
Institutions are looking for scalability, transparency, and full-spectrum support to help
them navigate the risks of the ecosystem for digital assets. Multi-jurisdictional regulatory
reporting, resilience, and experience in handling complex institutional scale scenarios
will set some providers apart from others.
Seamlessness:
Institutions want a one-stop shop to support the expanding use cases of digital assets
as well as delivering value across the full financial lifecycle of digital assets (such as
trading, safekeeping, collateral management, and lending).
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Tokenisation of Assets:
Off-Chain Assets:
Source: OECD
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Tokenisation of Assets:
On-Chain Assets:
Source: OECD
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Tokenisation of Assets:
the 2 types:
Source: OECD
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Tokenisation of Assets:
Generic benefits and risks:
Source: OECD
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Tokenisation of Assets:
Market estimates
Source: BCG
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Tokenisation of Assets: illiquid assets
Key reasons for asset illiquidity include
a) limited affordability of mass investors given high ticket size ranging between $250,000
and $5 million, depending on the asset type (e.g., real estate, bonds, hedge funds),
b) inability to fractionalize inherent utility (e.g., sharing living space in a house by 100
investors),
c) lack of information to retail/high net-worth individual investors given the lack of wealth
manager expertise (e.g., assets like livestock, plantation, alternate investments),
d) limited access, restricted to elite cliques (e.g., fine art, vintage cars, vineyard etc.),
e) regulatory hurdles (e.g., limitations on investments in certain asset classes to only
accredited investors, complicated process of tokenization & custody transfer of assets,
strict guardrails on allowing foreign investors in capital markets of certain geographies
e.g. Indonesia, and also asset classes that require ownership proof in governmental
registers such as real estate where the ownership is recorded in the land register),
f) complex user journeys for obtaining access (e.g., KYC and payment set up across
multiple platforms with no single interface for the customers) and
g) g) lack of existing, scaled technological solutions to unlock liquidity in such assets.
Source: BCG
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Tokenisation of Assets: illiquid assets
There are broadly two types of tokenized assets –
a) fungible tokenized assets are interchangeable and divisible i.e., each unit of
the tokenized asset has the same market value, validity and can be divided
into as many divisions as configured during its issuance (E.g., fiat, tokenized
securities, crypto currency, gold), and
b) non-fungible tokenized assets are unique and non-interchangeable i.e.,
tokens can’t be replaced with other tokens of the same type as each
represents a unique value and attribute (E.g., vintage paintings or vinyl
records, housing property, collectors’ cards).
Source: BCG
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Tokenisation of Assets:
Fractionalisation vs. Tokenization
Source: BCG
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Tokenisation of Assets:
the on-chain tokenization process:
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Tokenisation of Assets: advantages over traditional fractionalization
Improves affordability
by enabling investments in divisible, fractional asset values of high-ticket instruments
(e.g., hedge funds, alternatives)
Enables borderless accessibility
by enabling listing of hitherto illiquid assets (e.g., natural resources, land, vintage
paintings) subject to local regulations in each jurisdiction, and enabling seamless trading
in the secondary market
Unlocks liquidity and enhances flexibility
by enabling trading of assets before maturity (e.g., future earnings from agricultural land)
Enforces immutable transparency and accountability
by offering a clear historical and current transaction record and immutable assignment/
recording of ownership rights governed by smart contracts, in a shared ledger on
distributed P2P network nodes (e.g., tokenization of government’s infra projects as public
ownership rights, improved tax recovery)
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Tokenisation of Assets: advantages over traditional fractionalization
Streamlines transaction efficiency by
a) enabling higher transaction speeds at lower price due to enhanced cost efficiency in
asset transfer with smart contract to allow for automation of exchange,
b) reducing friction by ensuring a single KYC suffices across all investments / platforms
by linking users’ wallets to the blockchain,
c) gaining from asset servicing, i.e. the ability to distribute to tokenholders without having
to go via transfer agents/3rd party custodians and depositories over the life of the
asset, and
d) reducing the settlement times with blockchain overcoming Delivery vs Payment (DvP)
inefficiencies.
Ensures better price discovery
of illiquid assets as blockchain enabled platform disintermediates the process by helping
reduce/lower ‘rent-seeking’ by intermediaries (e.g., auction houses, asset management
companies)
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Tokenisation of Assets:
digitized Securities
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Tokenisation of Assets: Regulatory considerations
The lifecycle of a tokenized asset
Source: CCAF
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Tokenisation of Assets: Regulatory considerations
Primary Market activities
Source: CCAF
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Tokenisation of Assets: Regulatory considerations
Trading, Clearing and Settlement Activities
Source: CCAF
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Tokenisation of Assets: Regulatory considerations
Asset Servicing Activities
Source: CCAF
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Tokenisation of Assets: Regulatory considerations
Infrastructure Activities
Source: CCAF
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Tokenisation of Assets: Regulation globally
Asia focus
Source: BCG
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Tokenisation of Assets: Regulation globally
MENA / EUR / US focus
Source: BCG
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Tokenisation of Assets: A case study
Project Genesis – BIS Innovation Hub HK
“Genesis, the BIS Innovation Hub’s first green finance project in
collaboration with the Hong Kong Monetary Authority (HKMA), was
created to explore the use of novel technology to improve
efficiencies in the distribution of green bonds, as well as to facilitate
more insightful reporting on the environmental impact of green
bond proceeds.
The present report shows the prototype produced by Digital Asset
in partnership with GFT (referred to as the Daml prototype or the
prototype). “
Source: BIS
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Tokenisation of Assets: A case study – Project Genesis
Objectives: create a prototype to accomplish these goals:
• Bring greater efficiency and transparency across the end-to-end bond
issuance and lifecycle workflow.
• Ensure licensed institutions can comply with current regulation
schemes.
• Create a reference Utility for the design and implementation of a
production-grade system used in the Hong Kong green bond issuance
process.
• Increase transparency and ensure delivery of ESG covenants to better
showcase green impact through the combination of blockchain, smart
contracts, and the Internet of Things (IoT).
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Tokenisation of Assets: A case study – Project Genesis
Background: Usage of Daml (‘Digital assets modelling language’, by
Digital Assets)
• Daml is a purpose-built, functional language specialised in describing
composable, distributed business workflows.
• Smart contracts running on a blockchain network allow multiple parties
to have shared business processes that can be standardised and
automated.
• The blockchain network enforces these business processes,
significantly reducing risk, and creating value for the entire multi-party
network.
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Tokenisation of Assets: A case study – Project Genesis
The bond issuance, subscription process, and associated lifecycle
events were modelled from bond creation to maturity across
stakeholders including investors, placing institutions, issuers and green
data providers.
Critical functionality is retained but improved through the following
features:
• Market rules and processing rules are embedded, allowing every step to be validated
in an observable and auditable format.
• The legal terms of real-world agreements are encoded and preserved in Daml smart
contracts which clearly define the roles, rights, and obligations of all stakeholders
interacting across the workflow.
• Privacy and data segregation are strictly enforced via Daml’s need-to-know data
model enforced via the smart contract coding framework and the integration with the
underlying, cryptographically protected blockchain platform.
• Settlement takes place simultaneously across the entire holding chain, improving
asset mobility while removing counterparty risk from the process.
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Tokenisation of Assets: A case study – Project Genesis
Working principles in the project:
Employ blockchain, Daml smart contracts, and state of the art technologies
By using Daml smart contracts, blockchain, and IoT, the Daml prototype brings real-time data
visibility, automated workflows, and creates a single source of immutable truth across the
entire green bond lifecycle.
Increase privacy protection while enabling seamless multi-party communication
The Digital Asset and GFT team deployed their prototype networks on two enterprise
blockchain platforms: Hyperledger Fabric and Hyperledger Besu. Leveraging Digital Asset’s
interoperability protocol, the Daml prototype has achieved real-time synchronization across
these two ledgers while preserving the level of privacy demanded by regulated bodies.
Leverage multiple payment rails:
• Traditional, fiat payment rails: The prototype initially only planned to integrate with Hong
Kong’s traditional fiat payment systems. For the Placing Banks, this means the real-time
gross settlement system (RTGS). For Retail Investors, the prototype also demonstrates the
possible use of the Hong Kong Faster Payment System (FPS).
• On-chain, stablecoin payment rails: To future-proof for settlement on-chain, Digital Asset
and GFT explored stablecoins (extensible to CBDC) to prepare for a truly tokenised future,
not only on the asset leg but also for the payment gateway
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Bond preparation
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Ordering
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Allocation and Delivery
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Secondary Market trading
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Coupon payment and redemption
Coupon payment and redemption processing steps:
1. Coupon and redemption payment is calculated by leveraging Digital Asset’s open-
sourced Finance Library Contingent Claim module.
2. On coupon payment/redemption date the issuer makes payment.
3. Bond holders can see their expected coupon and redemption payment details in real-
time.
4. Money is transferred atomically on-ledger between accounts.
5. At redemption, the bond is taken out of circulation and the final coupon and redemption
payment is made.
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Tokenisation of Assets: A case study – Project Genesis
Supported process steps: Coupon payment and redemption
Benefits of automated corporate actions through smart contracts:
• Daml models the full behaviour of tokenised assets and automates the lifecycle of the asset.
It is critical that the smart contract tools used in tokenizing assets are sufficiently
sophisticated to capture the richness and complexity of the assets traded in modern capital
markets.
• The elimination of the corporate action processing multiplication along the securities custody
chain drastically reduces the asset servicing cost and risk.
• No more costly corporate action engine at each chain link, but rather a single source of
ultimate beneficial ownership (UBO).
• No more reconciliation is required at each chain link thanks to the simultaneous settlement
mechanism.
• No more complex message-based processes.
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Tokenisation of Assets: A case study
Project Evergreen – BIS Innovation Hub HK
Building on the success of Project Genesis, the HKMA
commenced Project Evergreen in 2022, which was a pilot
project announced in the Policy Statement on Development
of Virtual Assets in Hong Kong issued by the Government.
Project Evergreen used distributed ledger technology (DLT)
to settle, on a delivery-versus-payment (DvP) basis,
securities tokens representing beneficial interests in the
green bond issued by the Government and cash tokens
representing a claim for fiat Hong Kong dollars (HKD) against
the HKMA. One of the main objectives was to test out the
financial infrastructure and the legal and regulatory
environment in Hong Kong for the use of DLT throughout the
bond lifecycle (covering primary issuance and settlement,
coupon payment, secondary trading settlement and maturity
redemption) and to serve as a blueprint for similar future
issuances by market participants. The tokenised green bonds
were offered under the Government Green Bond
Programme, and its proceeds will be allocated to finance
and/or refinance projects that provide environmental benefits
and support the sustainable development of Hong Kong.
Source: HKMA
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Summary
Tokenization of assets …
… is technically complex, but rewarding
… enables fast DvP with immediate settlement
… enables more participants, smaller lot sizes, higher liquidity
… has it’s own regulatory and legal challenges
… is likely the future of asset issuance and trading for the majority of assets
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Readings
Pre-Reading:
Sources from Slides (not all are fully relevant, please see for yourself if the content is
interesting/helpful to you):
• https://www.oecd.org/finance/The-Tokenisation-of-Assets-and-Potential-Implications-for-
Financial-Markets.pdf
• https://web-assets.bcg.com/1e/a2/5b5f2b7e42dfad2cb3113a291222/on-chain-asset-
tokenization.pdf
• https://www.uobgroup.com/web-resources/uobgroup/pdf/research/DA_210528-
Tokenization.pdf
• https://www.bis.org/publ/othp43_report3.pdf
• https://www.jbs.cam.ac.uk/wp-content/uploads/2020/10/2020-ccaf-legal-regulatory-
considerations-report.pdf
