While traditional investment firms and their service providers grapple with the technological challenges of digital assets and tokenisation, the biggest concern appears to be regulation.
Since tokens are effectively a digital version of traditional securities, they are governed by the existing securities frameworks in different jurisdictions. “There has been a considerably uneven approach so far to regulating and accepting tokenisation,” according to a report on tokenisation by Deloitte.
Regulators in Asia, including Hong Kong's Securities and Futures Commission, have largely dealt with the issues by limiting access to crypto-based funds to professional investors. Singapore is taking a more proactive stance though, and Hong Kong-based crypto investing family office CIO Timothy Tsui sees Singapore emerging as the most advanced digital assets hub in the region.
“Singapore is definitely more open-minded in embracing technologies like asset-backed tokens,” Tsui told AsianInvestor.
“It’s a very different approach the way Singapore is running it. There is a regulated crypto exchange in Singapore that is backed by the SGX as a shareholder. It’s hard to imagine the HKEx taking a stake in a crypto exchange and trying to actively help it. It’s a stark contrast of two cities, both international financial centres, taking a completely different approach."
Last year, the Singapore Exchange (SGX) collaborated with UK crypto data provider CryptoCompare to launch cryptocurrency indices. SGX also announced in December that it would take a 10% in DBS bank's crypto trading platform.
However, Singapore might be an outlier. International regulatory alignment is an unlikely milestone in the near future, according to the Deloitte report.
In addition, digital assets in general are suffering from a credibility gap, with asset owners, fund managers, banks, and regulators all highlighting fundamental challenges for mainstream acceptance.
As reported by AsianInvestor, executives from respected asset owners such as Canada Pension Plan Investment Board (CPPIB) and Singapore sovereign fund GIC, have voiced doubts as to whether they would be comfortable investing in digital assets at this time.
NOT FOR THE MASSES
Gary Gensler, chair of the US Securities and Exchange Commission, has weighed into the debate, describing cryptocurrencies as “a scarce, speculative store of value” and suggesting that much more regulation is needed.
“Frankly, at this time, it’s more like the Wild West,” he said in a statement last week. “This asset class is rife with fraud, scams, and abuse. In many cases, investors aren’t able to get rigorous, balanced, and complete information. If we don’t address these issues, I worry a lot of people will be hurt.”
Tsui said he is not surprised that the US regulator has made these comments. “If I were a central bank or a government agency, I totally understand why they would say things like that, because they want people to buy the US dollar, which is fully regulated and controlled by the Fed. Why embrace something that is going against your primary agenda?
“It’s the same as China telling people, which they have been for the past few months, don’t touch Bitcoin or Ethereum or any of those crazy coins. In their minds, there’s only two currencies to buy and that is the Rmb and the digital Rmb.”
OUT OF CONTROL
Gensler at the SEC is concerned that tokens function largely as securities, but without the right documentation, approval or disclosures, investors could lose out.
“At present, the technological base is unstable and broad adoption will create risks, not least around cybersecurity," added Johann Palychata, head of partnerships and new platforms with BNP Paribas Securities Services.
“How firms manage risk, including counterparty risk, will need to change. The infrastructure and business model transition must be carefully supervised and controlled to prevent market and operational risks and abuses, including guarding against illiquidity risks for less sophisticated investors.”
The problem for regulators is the fact that blockchain-based platforms are, by their very nature, decentralised.
“The industry is changing so quickly and is not centralised,” said Tsui. “It’s all over the world and you have decentralised platforms making headwinds - the DeFi movement. It’s not easy to track the industry and that is something that is a major issue for investors.”
This is true not just for the creation and initial sale of the tokens, but also for trading them on secondary markets. According to Deloitte: “Consequently, many of the advantages of tokenisation are undermined if regulations prevent the free and international exchange of security tokens.”
SLOWLY BUT SURELY
In defence of the emerging digital asset market, David Ellis, partner at Hong Kong law firm Mayer Brown, told AsianInvestor: “There is value to be created by tokens. Tokenisation also offers the prospect of using technology to lower costs and transactions using tokens can be settled almost instantly.”
Less liquid assets such as alternative investments can also be tokenised for a wider market, said Ellis.
“Tokens of different classes can easily be programmed with unique characteristics to identify the asset and rights afforded, like priority to income, priority on disposal of entire asset, and special voting rights.”
There is a growing belief among family office investors and venture capitalists that token-funded startups will become more common, which will certainly increase their appeal, according to family office investor Timothy Tsui.
Private equity real estate (PERE) funds offer an interesting use case. Investments in them are notoriously illiquid due to their long lock-up periods (often several years), and the lack of a liquid transparent secondaries market.
“By tokenising interests in the fund, it will, in theory, make it easier for limited partners (LPs) to trade interests in the fund,” Ellis said.
Ellis concluded that the success or failure of tokenisation will depend entirely on the creation of an active market with sufficient liquidity to attract the wider market of sophisticated high net worth investors.
“Progress may be slow until a critical mass is reached, and it will require support from the relevant regulators.”
Stay tuned for another AsianInvestor report later this week that will assess how some of the region’s largest investors are positioned for tokenisation.