Dematerialisation to Tokenisation
Foreword, by John Campbell
Like many things in life, we don’t know that we need it until we need it (like the Internet). The same holds true for blockchain adoption. The traditional players who operate the financial markets don’t necessarily believe they have a need for Blockchain solutions because:
- They find it threatening.
- They have invested huge amounts of money in computer systems aimed at improving efficiency and providing them with a competitive advantage - under the current operating model, and they would hate to admit that many of these systems, which still weigh heavily on their balance sheets, could be replaced by a blockchain solution.
- They take comfort in the feeling of control that a centralised world provides. And the bigger the players, the more they value control.
- Inefficient systems are often beneficial to one party in a transaction.
So it stands to reason that many of those driving the change to a new global financial order have been disadvantaged or frustrated by the traditional financial systems so fiercely defended by the current incumbents.
For the past few years, blockchain proponents have observed with interest the announcements by large financial institutions and regulators alike of acquisitions, sandboxes, labs, well-funded projects and “experiments” using blockchain. Yet, most of the work in building the DeFi networks, community and infrastructure has not come from these institutions and most of these projects have delivered little more than PR.
One area of traditional financial services which large and small organisations have found particularly inefficient and costly is growth funding through either raising debt or selling equity.
To issue a debt instrument like a bond requires many professional advisors - legal and financial, due diligence and the participation of a number of institutions - an investment bank, trustee and an exchange. And from a diligence perspective this makes sense for an initial bond issue - however, for any of the bond participants to alter their positions prior to maturity involves almost as much cost and professional fees as the initial issue. This seems almost punitive.
Solving this inefficiency is the first opportunity EURxb is addressing.
This paper sets out the process of issuing a corporate bond, tokenising it with the EURxb.finance protocol, and then creating a stablecoin from the bond tokens. The first client for this process is MIRIS, a Norwegian property developer.
The history of blockchain takes us from Bitcoin to Ethereum to a growing institutional adoption of both public blockchains and tokenised assets. At the same time as large companies are buying bitcoin as a reserve asset, legislators around the world are considering how to deal with tokenised financial assets. Decentralised Finance (DeFi) is the latest area of interest for large organisations. The proposal here is that the long history of bonds will take its next step into tokenisation and then to DeFi.
The current process of issuing bonds is robust and well understood but can be improved from an operational perspective in terms of speed, complexity and flexibility. Tokenisation will result in changing roles for the parties involved in the process, particularly intermediaries. Improvements are operational, deriving from a single shared ledger enabling speed and reduced cost, and strategic. Strategic gains come from fractionalisation and increased liquidity for the bond issuer. A further strategic gain comes from the ability to use a tokenised bond or its derivative in DeFi, and to innovate on it in that environment.
The approach to tokenisation has four stages, using the EURxb.finance protocol. First the assets are secured and audited; next they are tokenised into ERC721 non fungible tokens (NFTs). Then these NFTs are locked in a smart contract and collateralised in a ratio of 4:3 to create bond NFTs. Finally the bond tokens are locked in a smart contract which mints the EURxb token, a stablecoin backed by secured assets and an ISIN registered bond. All of the tokens are issued on the Ethereum mainnet. In this first project, Miris have secured 133.3 million euros of assets to collateralise 100 million euros of bond tokens, and then of stablecoins.
Deriving from the bond’s characteristics, the EURxb token attracts interest at 7%. It is used as a building block in DeFi and is expected to support liquidity of the token, and also to enable innovation in the DeFi space. It provides benefits to the issuer, and also creates opportunity for the DeFi holder. A similar structure to that described here could be used for the tokenisation of other assets, including government bonds. The blending of traditional finance and the decentralised equivalent raises interesting questions about the possibilities for the future.
Author: Paul Mitchell
Paul is a strategy consultant with over 20 years experience consulting to large financial services organisations. He has a particular interest in the disruption driven by blockchain, and the new business models that it enables. He lead the team that wrote the report for Project Khokha, the South African Reserve Bank’s first DLT project. Amongst other things, he is currently working on the follow-up Project Khokha 2 with Block Markets Africa to deploy prototype decentralised securities markets tradable with wholesale CBDC, and an industry settlement token.
Foreword by John Campbell
John has a lifetime of experience bringing cutting edge innovation to the market. In 1995 he co-founded HIX Internet, one of the first Internet Service Providers in South Africa. He has been at the head of Innovation for major South African media and bank groups for the better part of two decades, and over the last one he has focused specifically on disruptive financial services. He has developed an impressive array of new businesses and products in the financial services industry through good partnerships, working with banks that have an appetite for innovation. These include a tokenised real estate investment platform called MirisX, a new challenger bank for software developers (Root), a Foreign Exchange platform (Shyft), the largest mobile payment solution in South Africa (SnapScan), the largest remittance solution in South Africa with over 10m customers (Instant Money), and BitX - one of the first Bitcoin exchanges, now Luno.com.
In his own words: "I've seen the change the Internet brought to all aspects of life and I firmly believe that DLT is the next Internet."
The Capital Markets Technologies Team
Paul and John both bring their respective expertise and insights to the Capital Markets Technologies (CMT) team to help transform global financial markets. Co-founded by Cape Town entrepreneurs Tobie van der Spuy and Greg van der Spuy, CMT draws on deep roots in cryptocurrency disciplines, from investing, mining, and development, to bridge the needs of institutional finance with those of the emerging tokenised finance world. The whole team also proudly invests their time in support of the Block Markets Africa initiative in South Africa, which is working with regulators to provide a better understanding of the impact and benefit of DLT on regulated markets.