Many individuals equate crypto-assets with bitcoin or other cryptocurrencies. The reality is that a “crypto-asset” is a term covering security tokens and new disruptive models for the security value chain from issuance to custody and settlement.
STO also provide benefits for investors thanks to a superior asset universe, enhanced liquidity (trade/post-trade) and fractional ownership opportunities.
STO benefits also include:
- The use of smart contracts, i.e., self-executing pieces of code that translate contractual terms into computational material. This should enhance the enforcement of contract terms and the automation of back- office processes, e.g., the processing of some corporate actions
- Compliance procedures such as AML/KYC can be executed in a more automated way.
From an investor’s point of view, STO enable buyers to access a larger universe of assets. In most cases, tokens are related to “normal” securities (equity, debt, derivatives, etc.). However, depending on local securities legislation, tokens can relate to digital artwork, paintings, property rights, etc.
STO can also be used to divide underlying assets into smaller units and enable fractional ownership. This can provide investors with an opportunity to access big-ticket items in a more affordable way and also set up a much more diversified pool of assets with a smaller capital base.
Finally, issuance, and specifically notary, procedures in relation to new securities are an area in which DLT can be used to ensure the integrity of the token being issued versus the token issued/held in the DLT. These notary/register functions will remain important within the DLT ecosystem.
Are tokens securities?
A security token is defined as an instrument that provides a right of ownership and an entitlement to a share of future profits or cash flows. For example, a token may represent partial ownership of a specific property or of a financial instrument such as a government bond or other debt security. In the case of Tinaga Island Resort, it is the specific property.
Some regulators have opted to treat security tokens as securities in most instances. This is because they take the view that these tokens are intended to represent a promise as regards a future cash flow or a claim to partial ownership of a company. In this sense, security tokens are similar to traditional financial assets (equities, bonds, futures, options, etc.) for which there is clear existing legislation.
Issuers can also design tokens in a way that ensures that they qualify as securities by meeting the three main criteria under European law: transferability, negotiability, and standardization.
Transferability means that units can be assigned to any other person, irrespective of whether certificates exist that record or document the existence of the units. Certificates are not used to prove the existence of tokens, but tokens can generally be sold on secondary markets. Therefore, they are typically transferable.
While “transferability” refers to the mere fact of passing on ownership in securities, the term “negotiability” refers to how easy it is to do so. Securities are classed as negotiable if they can be traded on a regulated market, multilateral trading facility (MTF) or organized trading facility (OTF). Tokens clearly meet this criterion for classification as transferable securities.
Are token assets the securities of tomorrow? | Are tokens securities? How should Security Token Offerings (STO) be conducted? What does the future hold for the security value chain? | Public
MiFID defines transferable securities as “classes of securities” that share certain qualities. This implies that the issued units must share a number of characteristics so that they can be considered a class. Most importantly, the claims represented by the units must not be individually negotiated with investors. Units must be defined by common characteristics so that it is sufficient to refer to the type and number of units to trade them.
STO can be used to tokenize traditional debt securities and equities as well as a wide range of tangible assets such as property, paintings, antiques, cars, digital artwork, IP, songs, etc. These are the kinds of asset that were not necessarily accessible to investors previously. In such cases, the token or crypto-asset represents a share of the underlying asset that can be used and exchanged over a digital network.
An additional benefit for investors is that it will be easier to move shares from one account to another because this will happen via DLT. This will also create an opportunity for custodians to be the agents that transform the physical shares into digital assets. In theory at least, this process could be used on any asset.
In the case of Tinaga Island Resort STO, the token can be simply transferred from the Ravencoin (RVN) digital wallet or other compatible wallet used to securely hold the asset.
Security tokens are bound to be a mainstay of the future security value chain landscape. The opportunities they offer will help the industry to re- shape an environment that will provide greater efficacy and transparency as regards the security issuance, trading, and post-trading processes.