Tokenization of Funds

September 15, 2021

Blockchain technology is one of the most disruptive forces since the invention of the internet. It has brought down many barriers and made the cost and speed of transactions cheaper and faster. People are able to transfer vast amounts of money anywhere around the globe at a fraction of the price and at almost instantaneous speed. This was just the beginning.

This has led to other products being offered on the blockchain like DeFi and smart contracts, to name a few. Tokenization is one of the newest projects to be available on the blockchain. It is the process of digitizing an asset, e.g. a fund. These tokens then represent a unit and economic interest in a fund that can be freely traded on a distributed ledger. No matter the capital, tokenization will be able to address the issue as more tokens can be minted to ensure that the fund is accessible to almost all types of investors without diluting the value.

Looking back at traditional funds, they suffer from friction such as lack of liquidity, opacity, and high barriers to entry like large initial minimum investment. Tokenization of funds could likely iron out these problems. There are little to no broker fees involved which reduces barriers to entry, and it allows investors to see the fund mandate smart contracts on the blockchain as well.

Despite all the positives, some questions still remain, e.g. blockchain’s scalability, regulatory concerns, structuring hurdles and more. Without resolving the scalability issues, mass adoption is not possible. Regulatory concerns is another major issue as a central authority governing blockchain services like tokenized funds is severely lacking. This would then naturally create concerns for investors regarding liability and accountability. In the event if a tokenized fund does not conduct as their mandate suggests, would they then be subjected to the same securities laws as traditional funds are bound to?

After tokenization, comes the issuance of these tokens. When these tokens are issued, they are allocated to only eligible and approved investors. This is derived from the regulatory point to whom a fund can market to and the type of investors they can onboard. Next comes the custodian to store these tokens. Fund issuers are generally always in control of their token supply and it would be difficult for investors to lose their securities, even in the case of losing access to their wallet. Tokenization will bring most of its benefits post-issuance. Corporate actions and reporting are easily managed due to smart contracts and speed of execution is also increased. Tokenization will increase transparency and overall operational efficiency of the fund industry.

With all that said and summarized, the benefits seem to outweigh the costs. Tokenization is the direction of the future, and more regulations will definitely improve investor sentiments on the governance issues which will only make the industry flourish.

Source: Medium, Hackernoon, Tokeny