By Jon Rout
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Tokenization done right: A compliant and comprehensive approach with Daml
By Jon Rout. Dec 2, 2021 5:07:55 PM
As more securities move to distributed ledger technology (DLT) platforms, effective asset tokenization holds the key to transforming issuance, settlement, custody, and asset servicing processes in financial services. The benefits of such digitization are clear — corporate actions and complex lifecycle management of regulated assets have long been major pain points across the industry, imposing a heavy operational load and substantial risk on players across the capital markets ecosystem.
What is tokenization?
Following past market shifts to immobilize and later dematerialize assets to enhance the efficiency of trading, most assets have effectively been digital for more than 20 years. Plainly speaking, tokenization needs to do much more than digitize and fractionalize assets to live up to its transformational promise. Thankfully, when tokenization is done right, it can.
Tokenization offers two fundamental advances versus the landscape of already-digital dematerialized assets built with historic tech stacks. First, the capacity to bake full lifecycle automation onto the tokenized asset itself, including the rights and obligations of each of the ecosystem of participants across the market throughout the life of the asset; and second, the opportunity to wire traceability and provenance into the asset.
When you think about tokenization through this lens, any type of asset can be tokenized and deliver material benefits above the status quo — from physical assets like network ports and real estate, to classic regulated assets in capital markets like stocks, bonds, derivatives, and structured products, to intangible assets like copyright.
Advantage 1: Automated asset lifecycles, distributed straight through processing
Let’s begin by addressing the first major advantage. Tokenization via smart contracts represents a step towards greater efficiency in digitizing and mobilizing various asset types compared to the capabilities of siloed legacy systems, offering for the first time the opportunity to embed the lifecycle actions of an asset onto the asset itself, thereby minimizing the need for separate corporate-actions and financial-instrument platforms over and above registries to track ownership.
While the benefits to tokenization are tangible, market infrastructures and financial institutions are challenged by the how of the transition. There are significant barriers to overcome and moving parts to manage, including establishing distinct rights and obligations for all parties, eliminating repetitive actions across disparate platforms, modeling shared workflows, and establishing platform-agnostic compatibility — all while meeting security and privacy requirements.
Getting compliant, comprehensive tokenization right with Daml
Digital Asset's core technology, Daml, is a unique application development platform and smart contract language for building and executing sophisticated, multi-party workflows. Daml builds on the innovations of smart contracts and DLT to enable the next generation of enterprise applications. By extracting and simplifying business processes, Daml makes data accessible and optimizes complex business processes.
With Daml, any asset class can be accurately tokenized as the bundle of rights and obligations for all involved parties within a specific ecosystem and across the full lifecycle of that asset, with appropriate regulatory and compliance guardrails in place. Specifically, Daml:
- embeds the building blocks of rights and obligations directly into assets;
- can be used to create role contracts defining what specific parties may do within an ecosystem or a particular asset;
- and uses rights and obligations to model shared workflows and fully automate complex, multi-party processes.
Daml provides for a structural representation of cash flows, events, and rights and obligations of the ecosystem of participants around a tokenized asset, enabling complete modeling of the functionality of the asset on chain.
A complete ecosystem solution
Fundamentally, asset servicing, lifecycle events, and corporate actions require complex, multi-party workflows; many different entities need to communicate and synchronize to successfully deliver these services for investors and issuers. For this reason, distributed ledger technologies, smart contracts, and tokenization — with their unique capacity to share state across entitled parties and to automate an end-to-end process completely consistently across different companies — offer an ecosystem solution to the challenge simply not possible with yesterday’s technologies.
Solutions developed with Daml integrate seamlessly with digital market infrastructure. Banks, insurers, wealth and asset managers, hedge funds, and PE firms can be sure their offerings and processes are infrastructure-agnostic and totally portable across different blockchain and database technologies. Users can model the complete lifecycle of regulated and complex financial products — from approval workflows and term sheet creation, to allocation, issuance, and settlement.
For financial services firms, Daml’s open source tokenization capabilities support multiple use cases and asset classes, including equities, fixed-income products, green bonds, commodities, complex derivatives, Central Bank Digital Currencies (CBCDs), and more. With a tokenized asset infrastructure based on Daml, financial service providers can take advantage of the strengths of both the compliance, privacy, and control of permissioned ledger environments, and of the greater distribution potential of public networks.
Advantage 2: Traceability and provenance
With an influx of green bond programs aiming to support global climate initiatives, businesses require a more transparent and real-time capability for communicating the delivery of environmental, social, and corporate governance (ESG) covenants to regulatory bodies and investors. Thankfully, tokenization offers a radical breakthrough here, too.
By combining a tokenized financial asset with a data stream (like a feed from IoT metering devices attached to a solar farm) or workflow (for example, audit and confirmation that no deforestation has occurred in the production of a commodity, or certification that a energy efficiency upgrade has occurred to a certain standard), there is for the first time the capacity to have ESG linked assets with built-in, real-time reporting.
A great example of this at work has been the first phase of our Project Genesis together with GFT and AllInfra for the Bank for International Settlements (BIS) Innovation Hub, in collaboration with the Hong Kong Monetary Authority (HKMA). Through Genesis, GFT, AllInfra, and Digital Asset developed a Daml-based prototype with the goal of improving efficiencies in the distribution of green bonds and facilitating direct, real-time reporting on their environmental impact down to the individual bond holder. BIS was able to construct tokenized bond models that drive two major value propositions:
- Capturing bond lifecycle events: Origination, issuance, subscription, allocation, coupons, redemptions, and secondary-market trading were baked onto the bond token itself, enabling end-to-end automation of the issuance and lifecycling process for the bond.
- Traceability: Bond tokens were enriched with the provided green data feed, enabling real-time traceability to any investor of the direct green impact of their investment — something otherwise not possible today.
The bottom line for firms seeking to build DLT platforms and tokenize traditional assets is realization of a significantly faster time-to-market and the freedom to focus on developing rich, differentiated solutions and experiences for customers. Daml is designed for compliant, comprehensive tokenization from the ground up. It embeds the building blocks of rights and obligations directly into assets, allows for creation of role contracts within an ecosystem or a particular asset, and it uses rights and obligations to fully automate complex, multi-party processes. With a tokenized asset infrastructure underpinned by Daml, financial service providers don’t need to choose between compliance, privacy, and control of permissioned ledger environments, and the distribution potential of public networks.