From TradFi to DeFi: How Tokenisation is Bridging the Real World to The Blockchain

Tokenised treasury bonds on public chains are worth $2 billion today. According to RWA.xyz, $17.98 billion worth of RWAs are held by 88,401 holders on-chain. However, these numbers aren’t even the tip of the iceberg.

The worth of tokenised assets on private blockchains and DLTs is insane! For instance, Tech giant Broadridge’s DLR (Distributed ledger Repo) processes tokenised securities transactions worth $1-$1.4 trillion per month, while JP Morgan has done $1.5 since its launch in 2020.

No wonder McKinsey predicts that the market for tokenised assets can reach $30 trillion by 2030 (up from BCG’s prediction of $16 trillion).

Right after BlackRock entered the tokenisation scene with its BUIDL Fund, 50% of institutional investors have been quite vocal about their interest in investing in tokenised assets. A Sygnum Bank survey found that 57% of the TradFi giants intend to ramp up their crypto allocations in the next six months. The tokenisation of real-world assets has become a significant goal across G7 countries and major markets.

𝘛𝘩𝘦 𝘤𝘶𝘳𝘳𝘦𝘯𝘵 𝘳𝘶𝘴𝘩 𝘧𝘰𝘳 𝘵𝘰𝘬𝘦𝘯𝘪𝘴𝘢𝘵𝘪𝘰𝘯 𝘢𝘮𝘰𝘯𝘨 𝘵𝘩𝘦 𝘛𝘳𝘢𝘥𝘍𝘪𝘴 𝘮𝘪𝘨𝘩𝘵 𝘭𝘰𝘰𝘬 𝘭𝘪𝘬𝘦 𝘢 𝘍𝘖𝘔𝘖 𝘢𝘵𝘵𝘦𝘮𝘱𝘵. 𝘉𝘶𝘵 𝘤𝘢𝘯 𝘵𝘩𝘪𝘴 𝘣𝘦 𝘢 𝘵𝘳𝘶𝘦-𝘣𝘭𝘶𝘦 𝘪𝘯𝘪𝘵𝘪𝘢𝘵𝘪𝘷𝘦 𝘵𝘰 𝘦𝘮𝘣𝘳𝘢𝘤𝘦 𝘢 𝘴𝘶𝘱𝘦𝘳𝘪𝘰𝘳 𝘵𝘦𝘤𝘩 𝘭𝘪𝘬𝘦 𝘵𝘰𝘬𝘦𝘯𝘪𝘴𝘢𝘵𝘪𝘰𝘯 𝘧𝘰𝘳 𝘵𝘩𝘦 𝘢𝘥𝘷𝘢𝘯𝘵𝘢𝘨𝘦𝘴 𝘪𝘵 𝘣𝘳𝘪𝘯𝘨𝘴? 𝘓𝘦𝘵’𝘴 𝘧𝘪𝘯𝘥 𝘰𝘶𝘵.

What is Tokenisation?

Tokenisation is the process of representing assets or their related rights as tokens over a blockchain. The assets include bonds, securities, debts, real estate, and other traditional assets. The rights associated with an asset may include rent, copyrights, intellectual property rights, licensing, leasing, etc.

Tokenisation can also involve tangible assets such as art, wine, precious metals, etc., and intangible assets such as music, time, love, work, education, logistics, etc. However, we will restrict our discussion to TradFi and the allied markets.

Asset tokenisation isn’t a new idea. In the mid-2010s, RealIT and RedSwan CRE were the first companies to tokenise real estate and allow users to own shares in the properties via tokens fractionally.

The RWA market has expanded by 80% in the last two years. Earlier, ERC-20 was the token standard for implementing RWAs on the blockchain. However, ERC-20 tokens can be transferred to anyone, and financial assets come with some restrictions in terms of ownership and transfer. To inculcate compliance at the code level and prohibit unqualified users from holding RWAs, ERC-3643 has become a vital token standard.

Ethereum and ZKsync Era hold the largest value of RWAs. Chains like Chainlink help in the accurate representation of tokenised assets on-chain via its proof of Reserves (PoR) and Cross Chain Interoperability Protocol (CCIP). Chainlink is working with major banks to help them move from the pilot to the implementation stage in their RWA project. It has facilitated $18 trillion worth of transactions across blockchain ecosystems!

Here’s an overview of the RWA ecosystem across blockchains and protocols.

Tokenising assets over a blockchain helps to bring transparency, immutability, cost-efficiency, and automation in the administration, management, and issuance of financial assets. On-chain assets can trade 24*7 throughout the year, are globally accessible, and can be instantly settled, fractionally owned, and traced right up to their origin, thanks to blockchain.

Types of Financial Assets Getting Digitised as Tokens

Today, TradFi players are heavily invested in tokenisation as a tech, alleviating the weaknesses in the traditional markets and bringing in newer efficiencies and use cases. Five major types of financial assets can be put on-chain. These include debt, funds, equity, asset-backed securities, and real estate. Across these classes, $50 billion worth of assets have been tokenised, and the number is expected to rise in the coming years.

• Equity: Shares of a company are tokenised to enable fractional ownership and allow access to a wider investor base for enhanced liquidity. Tokenised stocks are pegged to the stocks of entities like NVIDIA, iShares, Coinbase, Tesla, MicroStrategy, Apple, and many more.
• Funds: investment funds issue tokens that represent a share in the fund. Tokenisation facilitates greater access, better management, and lower administrative costs. Franklin OnChain US Government Money Fund is a tokenised mutual fund on the Stellar blockchain.

• Debt: Traditional treasuries and bonds are the biggest benefactors of tokenisation. US Treasuries, bonds, etc., alone comprise $4 billion worth of market cap across blockchains from issuers like BlackRock, Franklin Templeton, Ondo Finance, Wisdom Tree, etc. Find the entire list of on-chain treasuries here.
• Asset-backed securities (ABS): According to Morgan Stanley, the global ABS market is worth $13 trillion. ABS are the most critical financial instruments that allow investors to earn interest income from a pool of underlying loans. Tokenisation can help track, manage, and trade these pools over a blockchain, reducing administrative costs and improving overall transparency. To understand how ABS tokenisation works, read this medium article by Israel Lopes-Morillo.
• Real Estate: Some of the earliest use cases of tokenisation have been in the real estate sector. Until 2024, out of the $50 billion tokenised assets, $30 billion was in real estate. Tokenisation is suited for the illiquid real estate sector.

Why is TradFi heavily Interested in Tokenisation today?

The traditional securitisation process is slow, relies on intermediaries, and requires extensive documentation and complex reporting. All this drives up costs, time, and red tapism. There’s also room for fraud, misappropriation, and errors. With tokenisation, most of these drawbacks can be overcome.

Automation

Tokenisation automates the securitisation processes by coding all the information, terms and conditions, and compliance within a smart contract. Whenever these conditions are fulfilled, the smart contract kicks in, automating the entire process. DIvidend payouts and redemption are other processes that can be fully automated once coded into smart contracts.

Portfolio Management

The institutions are also streamlining portfolio management via tokenisation. For instance, JP Morgan and Apollo Global Management use a proof of concept system that rebalances portfolios across blockchains within seconds. Data shows that asset managers and institutions can reduce operational costs by 98% if they move their assets on-chain.

Security

Tokens are represented as a string of characters, which cannot be related to the sensitive user information underlying it. This implies that if the traditional assets incorporate the tokenisation process, they can safeguard customer information and sensitive payment data. The transactions can be streamlined and processed more quickly and securely and recorded over a transparent public ledger.

Fractionalisation

Tokenisation also enables fractionalisation, wherein an asset or a financial instrument like a share, bond, or fund can be divided into smaller fractions of equal denominations, which can be individually owned, exchanged, and traded. Fractionalisation has a two-way benefit.

Accessibility

First, it opens the doors of the accredited investments available earlier to a selected few for retail and small investors. This widens up the investor base and improves liquidity and accessibility. Secondly, the tokens can be traded on secondary markets 24*7. The illiquid and static assets now turn into dynamic tradable instruments.

Collateralisation

Tokenisation is a boon for collateral management, as every transaction is recorded on the blockchain. Private equity markets are also slowly exploring tokenisation for better liquidity, efficiency, and accessibility.

Cost Reduction

Underwriting fees, listing fees, auditing costs, and other administrative charges can range from $125k to $500k for any company conducting an IPO (initial public offering). Many of these costs become non-existent when assets are tokenised and offered via a TGE (Token Generation Event) or an STO (Security Token Offering).

Compliance

Since tokenised financial assets are publicly traded, they require several compliance and reporting procedures, as well as significant legal and auditing costs. Smart contracts can offer automatic compliance via KYC and AL checks.

Better price discovery and Instant Settlements

Information asymmetry or a lack of equitable access to information can often cause sharp price swings and give insider players an undue advantage. With on-chain tokenised assets, each participant has equal access to transaction records and pricing data, allowing for better price discovery and a level playing field. Since smart contracts govern transactions, they can achieve finality almost instantly.

The Coming Together of TradFi and DeFi

Tokenisation is not just alleviating the challenges traditional financial markets face. It is opening doors to infinite DeFi opportunities for traditional players. Tokenisation doesn’t change these financial assets' legal nature but improves their accessibility and composability. These tokenised assets can now interact with DeFi protocols and DAOs (Decentralised Autonomous Organisations).

Take the example of Centrifuge, a decentralised asset financing protocol. Centrifuge uses tokenisation to bring assets onchain but operates as a DAO. This means the Centrifuge ecosystem is driven by its community members and not any centralised entity. There are no intermediaries involved and the members get to share the interest earned by the protocol.

Stablecoins facilitated over $5 trillion in transaction volume in the first half of 2024. They hold a key role in DeFi and can allow on-chain settlements for tokenised assets without the hassle of fiat conversions. Conversely, RWA-backed stablecoins can present another use case for traditional securities and bonds. For instance, Stablecoin-focused DAO Sky (previously MakerDAO) issues stablecoins pegged 1:1 on its Tokenized US Treasury reserves and other assets.

Some of the financial assets markets have been highly restricted to a few accredited sellers. With tokenization, these markets can gain adoption and borrow liquidity from the greater world via secondary markets. Tokenisation can also assist in launching innovative financial products. For instance, HSBC issued the world’s first multicurrency digital bond on its Orion platform.

Institutions and banks are also using blockchain to conduct intra-bank value transfers. In May 2024, the eurozone conducted wholesale central bank transactions involving 16 private companies.

World’s 10% GDP Will Be Tokenized In the Near Future

World Economic Forum (WEF) estimates that 10% of the global GDP, or approx $10 trillion, will be as tokenised assets on blockchain. The numbers show the increasing demand, and in the light of further regulatory clarity, we may soon find the estimates to be highly undervalued.

However, challenges remain at the execution level with a few centralised custodians acting as SPVs (Special Purpose Vehicles), the complexities involved in valuing assets and moving them on-chain, and the lack of scalability in current blockchain ecosystems. Lack of education among the banks and institutions around tokenisation is also a major hindrance towards adoption. However, we are slowly getting there.

Tokenized financial assets have limitless potential as an asset class, and “RWA assets appear to be on a faster trajectory than traditional crypto because they’re rolling out in conjunction with regulation, instead of the regulation coming after, which is what we saw with BTC,” says MANTRA co-founder Mulin.

The tokenisation revolution is inevitable in a digital-first world. It is only getting bigger from here. Check out more interesting articles and the latest Web3 news on NFT.EU.