Whether it’s to grow our savings or for a retirement plan, we all need an investment plan. It’s usually a long game and one that requires a thorough consideration of multiple factors such as risk, liquidity, and return profiles.
But our financial system hasn’t made it easy for people to access profitable investment opportunities – especially for the everyday investor. Interest rates have shot up, and attractive return investments are usually exclusively offered to institutional or sophisticated investors.
This is where blockchain technology can play a big role. Built on the tenets of decentralization, transparency, and ownership, blockchain technology is what has made the alternative on-chain financial system possible, and one that democratizes finance. Not only does it make the financial system cheaper and more efficient, but it also opens doors to those who have traditionally been marginalized from accessing the system itself.
In particular, the tokenization of real-world assets (RWAs) has taken the world by storm, and many have already begun to recognize the long-term promise of the use cases. Tokenized RWAs are an opportunity to bridge the traditional financial market with blockchain-based technology, subsequently bringing the benefits of blockchain to RWAs.
And the numbers speak for themselves. The market size of tokenizing RWAs is estimated to be a whopping $16 trillion by 2030, according to BCG Consulting Group. Research has also shown there is a total of $867 trillion worth of traditional market assets that can potentially be tapped by tokenization. According to Citi, there will be up to $4 trillion in tokenized digital securities, and $5 trillion of central bank digital currencies (CBDCs) circulating globally – speaking to the massive potential of tokenized RWAs in the coming years.
To understand that potential, we first need to understand how RWAs work.
Simply put, RWAs are off-chain physical assets that are brought on-chain through tokenization. Tokenization refers to a process of converting an asset’s value into a digital token for representation, which can then be transacted on the blockchain. This consolidates the distribution, trading, clearing, and settlement of assets into a single layer, enabling a more streamlined and efficient financial system.
To date, the most widely used RWA use-case in the crypto world is stablecoins, which are tokenized representations of fiat currency. Other examples of RWAs include tangible assets such as gold and real estate, as well as government bonds, carbon credit, or equities.
RWAs have long dominated lending and yield-generating activities in the traditional finance world. They currently compose a majority of global financial value, with the real estate market estimated at $370 trillion, and the fixed-income debt market estimated at around $127 trillion.
Traditional markets, however, have historically presented significant inefficiencies with increased costs, lengthy settlement times, and more. Particular RWAs such as real estate have also long struggled with illiquidity and limited accessibility. Transferring assets like property from one owner to another is difficult, time-consuming, and largely determined by supply and demand at a particular point in time. See it this way: you can’t just sell your property when you want to - you need to find that one single buyer first, which alone can take days, months, or even years depending on market conditions.
This is where tokenization can change the game on several fronts. There are many benefits to tokenizing RWAs, as delivered by the properties of blockchain-based technology:
One of the biggest upsides of blockchain technology is increased efficiency. They are a single settlement layer for multiple financial event stages (clearing, settlement, etc) and eliminate the need for financial intermediaries. As traditional markets have historically recorded financial events across siloed ledgers (hence the fractionalized liquidity and market inefficiencies), asset tokenization can bring real value through increased interoperability.
Additionally, tokenizing private market RWAs such as real estate has the potential to drastically improve liquidity for traditionally illiquid assets. Such assets can also be fractionalized on-chain, enabling fractional ownership - which would expand the range of investors that can tap certain markets, and subsequently increase the liquidity of the particular asset class.
As mentioned, our current financial system is marginalized – most attractive investments are out of reach to the everyday investor due to financial or regulatory reasons. Big deposits are usually required, creating constraints on the type of investor that can participate in certain opportunities.
By tokenizing RWAs, smaller investors have a chance to participate in different investment vehicles, where lower capital is required for higher-return opportunities.
Blockchains by nature offer unprecedented transparency, with all events auditable in real-time. This allows the verification of asset collateral, record-keeping of ownership or asset value, and assessment of risk exposure at any point in time.
Most high-value assets suffer from inaccessible information on returns, ownership history, sales records, and more, which are paramount in aiding one’s informed economic decisions. Through providing immutable records of financial activities and ownership, tokenization can help reduce risks of fraud or investment security risks while minimizing required trust.
One of the most widely discussed aspects of tokenizing RWAs is its potential to significantly enhance the value of the DeFi ecosystem through enhanced composability. DeFi has long remained a circular economy, lacking meaningful integration with traditional financial markets. And much like the rest of the digital asset industry, it suffers from high volatility - leaving investment return profiles largely dependent on on-chain activity and market conditions.
Tokenization of RWAs is a chance to bring sustainable yield to DeFi, increasing the sector’s growth potential exponentially. Liquidity in DeFi would increase, while also giving retail investors access to asset classes that would otherwise be difficult to tap.
One of the most groundbreaking concepts enabled by tokenized RWAs is fractionalized ownership – the ability to buy and sell fractions of an asset rather than the whole asset. A property, for example, can be represented as millions or even billions of tokens through tokenization, which can then be listed and traded on different exchanges. This opens doors for smaller investors with insufficient capital to gain exposure to particular investment opportunities.
Fractionalized ownership also allows for flexible ownership structures that are tailored to each investor, increasing the appeal of particular assets and subsequently expanding potential buyer pools.
This flexibility also allows for community building, as exemplified by PleasrDAO’s fractionalized Doge NFT back in 2021. Instead of having one single owner, community-owned assets can increase the value of RWAs while also increasing their appeal. This is particularly useful for illiquid assets such as artworks, luxury goods, or even collectibles.
While it’s still early, tokenization of RWAs has been rapidly gaining momentum in both the traditional finance sector and the digital asset world.
Major financial institutions have started exploring how to bring tokenization to traditional financial markets, with iconic names such as HSBC and Goldman Sachs already having made big moves. In November 2022, HSBC announced the launch of its tokenization platform HSBC Orion, to allow the issuance of digital bonds using blockchain technology. Global investment bank Goldman Sachs also recently launched GS DAP™, a tokenization platform to enable the issuance, registration, settlement, and custody of tokenized digital assets. Shortly after the platform’s launch, the European Investment Bank (EIB) issued its first digital bond.
Aside from banks, stand-alone projects dedicated to tokenizing RWAs are also increasingly becoming more common in the digital asset world. TOKO, a wholly-owned subsidiary of DLA Piper, is a leading tokenization platform committed to empowering value creation by enabling the origination, distribution, discovery, and trading of both tangible and intangible assets. Hex Trust was appointed as a strategic custodian for the project in October 2021, to support the delivery of more complex projects and asset-backed token issuances while adhering to regulation and compliance requirements.
Another leading project is Securitize, a project dedicated to unlocking broader access to alternative investments through tokenization. The project mainly focuses on digital asset securities, which are digital representations of traditional financial products like equity and debt. It provides a path for both issuers and investors to trade or fundraise through security tokens – investors can choose from startup equity, funds, commodities, real estate, and more, closely reflecting traditional private stock markets.
There are several trends that will likely emerge in the coming years around the tokenization of RWAs. First, there will be more dedicated RWA projects custom-built to cater to the needs of these assets in terms of privacy and security. Second, there will be more regulation and securitization around RWAs, as clearer guidelines are needed to better protect asset values and transfer them safely on-chain. And finally, RWAs will play an increasingly important role in bridging the gap between DeFi and the traditional financial market, likely being a key driver in the mainstream adoption of digital assets.
It seems that the tokenization of RWAs is merely scratching the surface of its potential – and there is much more that can be anticipated in terms of developments and obstacles. Current numbers are extremely promising, and the participation of institutions all over the world is a reflection that the world is beginning to realize the massive potential of tokenization in transforming the existing financial system for the better.