For more than a decade, novel technologies have shifted the financial industry toward the use of digital assets. Buzzwords like “cryptocurrency,” “NFT,” “blockchain,” and “smart contract” have popped up in articles and financial news and serve as evidence of an emerging new sector that lies at the junction of finance and technology . These novel concepts are rife with technological jargon and notions that leave the average citizen scratching their head. Among these new additions to the financial industry is the digital asset known as the securities token. Like many other types of digital assets, securities tokens have been gaining increasing popularity within the last few years. So, what exactly is a securities token? Succinctly stated, securities tokens are digital tokens that represent ownership of an underlying asset, such as stocks, bonds, real estate, or other traditional financial instruments.
The rise of securities tokens can be attributed to several factors and unique advantages, including increased accessibility, efficiency, and transparency. With securities tokens, investors can access a wider range of investment opportunities than traditional financial instruments, as they are not restricted by geographical boundaries or other traditional barriers to entry.
More importantly, securities tokens can be traded on exchanges that are licensed and regulated by the SEC, which allow for peer-to-peer transactions without the need for intermediaries such as brokers, transfer agents, or banks. This can speedup the time of transaction while simultaneously cutting costs, as exchanges can be executed in real-time and with fewer intermediaries. The regulated nature of securities tokens differentiates them from cryptocurrencies and other instruments traded on unlicensed exchanges such as Coinbase and the famously now-defunct FTX platform. Additionally, securities tokens are “programmable”; meaning that they can be coded within the constructs of a blockchain to execute functions based on predefined rules. This process leads to increased efficiency and accuracy over traditional stock ownership processes, such as: payment on dividends, voting, and actions by corporate entities. As alluded to previously, securities tokens are often built on a blockchain, which provides a high level of transparency and security. Blockchain technology enables a tamper-proof ledger that records all transactions in a transparent and secure manner, reducing the risk of fraud and improving the reliability of the system.
The popularity of securities tokens has also been facilitated by key regulatory developments that differentiate them from other digital assets that are used via blockchain technology. In the U.S., the SEC has provided guidance on the treatment of digital assets, including securities tokens. The SEC has stated that securities tokens that meet certain criteria (such as being offered and sold through a registered broker-dealer and complying with securities laws) can be considered securities and subject to regulation. Other countries have also begun to establish regulatory frameworks specifically for securities tokens. This has provided a level of comfort and legal certainty for issuers and investors, which has helped to facilitate the growth of the market.
While the landscape of securities tokens is still in its early stages, it has already attracted significant investment and interest. Venture capitalists, institutional investors, and retail investors have taken notice of the securities token marketplace. In 2020, the market cap of securities tokens was estimated to be around $100 billion, and it is expected to continue to grow exponentially in the near future.
However, there are also challenges and risks associated with securities tokens. One of the biggest challenges lies within the ones and zeroes that power blockchain networks. The lack of standardization between different token and blockchain protocols and coding makes the water a bit murky to navigate for the uninitiated. This can create confusion and lack of coherence in the market of securities tokens, as well as increase the risk of technical problems and vulnerability. Although the regulated nature of securities tokens may be one of its biggest strengths, the regulatory landscape is almost as new as the underlying concept itself, which is still evolving and uncertain. Issuers and investors need experienced counsel to navigate the regulatory and technological barriers to be confident in their investment opportunities.
While highly sophisticated, securities tokens are subject to market volatility and other risks encountered with traditional financial instruments. Investors and Issuers alike need to engage sophisticated counsel to be aware of the risks and conduct thorough due diligence before investing in securities tokens. Our attorneys can assist you in offering or investing in this new type of digital assets that are poised to usher in a new age of investment with the aid of financial technology.