A Tokenization Guide for Institutions
Blockchain and digital assets are here to stay, as evidenced by the recent increase in institutional adoption of this asset class by financial incumbents. Traditional financial services are exploring integrating this innovative technology into their businesses to optimize offerings and stay competitive.
For corporations looking to expand into digital assets, here is an informational guide to lead the journey into the digital age.
Question: What is a digital asset security?
Answer: Initially known as a security token, a digital asset security is a digital representation of fractional ownership interests in an underlying asset or company that can be transferred among KYC/AML-approved investors. Digital asset securities must follow prescribed purchase and transfer guidelines and are subject to jurisdictional securities laws and applicable regulations.
Question: What is the difference between digital asset securities and crypto assets?
Answer: The digital asset ecosystem has expanded to include various types of assets—cryptocurrencies, asset-backed and pass-through tokens—with varying functionalities—store of value, medium of exchange, or pass-through value. Digital asset securities must pass the U.S. Supreme Court’s Howey test to be deemed a security.
Question: What is an example of a digital asset security?
Answer: Arca’s U.S. Treasury Fund is the first registered ‘40 Act Fund to issue a digital asset security, called ArCoin*. ArCoin is an example of a token that represents a traditional security, but is issued and transferred on the blockchain—also known as a blockchain transferred fund (BTF).
Question: What is a blockchain transferred fund (BTF)?
Answer: A blockchain transferred fund (BTF) is a registered ‘40 Act Fund that issues shares as digital asset securities on the blockchain. Such tokens represent ownership in the fund’s shares and can be issued, transferred, and redeemed on the blockchain.
Question: What are the potential advantages of tokenizing securities?
Answer: The primary benefits of blockchain technology—such as peer-to-peer transferability, immutability, and traceability—enable digital asset securities to have near real-time settlement, transaction transparency, fractional ownership, and the potential for greater liquidity and lower counterparty risk.
Question: How do trading platforms support digital asset securities?
Answer: Due to regulatory confines, digital asset securities can trade on alternative trading systems (ATSs) but not yet on exchanges. ATSs such as Oasis Pro, tZERO, Securitize, Symbridge, and INX are pioneering the digital asset security frontier.
Question: How is the issuance of digital asset securities different from traditional securities?
Answer: The issuance process for digital asset securities removes many of the intermediaries that traditional assets require. Because of the core features of blockchain, many of the connectivity functions provided by third parties are now unnecessary or can be strengthened by utilizing the technology.
Question: What is the difference between public and permissioned blockchains?
Answer: Public blockchains provide access to open-source technology for participants to build and collaborate with the ecosystem; Ethereum is one such blockchain. A permissioned blockchain, such as Symbiont, is a controlled environment that allows tokens to exist in a closed setting where privacy is needed to protect information.
Question: Which financial sectors are most applicable to the tokenization of securities?
Answer: Industries with pricing disparities, limited liquidity, and operational inefficiencies stand to benefit from digital asset securities. The insurance and real estate industries are among the top sectors that we believe are ripe for disruption.
Question: What are the institutional roadblocks for digital asset security adoption?
Answer: Barriers to entry for traditional institutions include regulatory uncertainty, compliance/legal costs, new risk management, and governance processes, and the recruitment of technical talent.
Question: How does regulatory uncertainty affect digital asset securities?
Answer: The SEC’s primary objective is to protect investors. A lack of regulatory oversight can lead to suboptimal outcomes, such as fraudulent Initial Coin Offering (ICOs). Appropriate regulation could create clarity, instill confidence in end consumers, lead to wider spread adoption, and spur innovation in the asset class.
Arca Labs is committed to partnering with financial innovators to continue exploring and building financial infrastructure, networks, and products for the future. We believe blockchain technology—when considered carefully and strategically—has powerful potential to shape how finance evolves.
*This fund is an interval closed-end fund.