Fractionalization and Secondary Markets
The market for tokenized business assets experienced significant growth in 2023, with a compound annual growth rate (CAGR) between 16% and 23%. However, tokenized assets currently represent less than 11% of the total valuation of the crypto market. Despite some skepticism about tokenization, there is a growing trend towards its adoption.
Real-world assets in decentralized finance (DeFi) have more than doubled in the past year, according to DeFi Llama and Fed’s research. Major financial institutions like the European Investment Bank and KKR have also embraced tokenization by issuing tokenized bonds and tokenizing private equity fundraising, respectively.
To fully realize the potential of tokenization, exchanges need to build trust among users. Trust is crucial for the successful merger of traditional finance (TradFi) and blockchain technology.
The Private Market Revolution
Private markets are putting pressure on their public counterparts. Private credit volume has tripled from 2015 to 2023, while private equity deals outperformed IPOs in terms of valuation. Private equity has delivered an annualized excess return of 4.1% over public market performance from 2000 to 2021.
Currently, investment in private equity funds is limited to ultra-high-net-worth individuals (UHNWIs) and institutional investors due to large minimum investment sizes. However, tokenization has already made $4.5 billion in private credit available to retail investors, and there is potential for creating tokenized pools or ETFs for private equity funds.
Centralized Exchanges are Finally Getting Repo
In 2023, centralized exchange crypto lending experienced a boom. Tokenization allows exchanges to receive safe collateral in the form of tokenized treasuries, similar to how repurchase agreements (repos) provided liquidity to the financial system in the 1990s.
Tokenization also enables the bridging of digital assets and real-world assets. For example, investors can pledge Bitcoin to invest in tokenized futures on commodities like Argentinian grain.
Investors Want Liquidity and Trust
Despite the benefits of tokenization, market capitalization remains limited due to the lack of precedent and shallow secondary market liquidity. Establishing cross-jurisdictional contractual claims on underlying assets between numerous investors and sellers is a challenge.
Centralized exchanges can play a crucial role in instilling confidence by maintaining liquidity and trust in the tokenization system. They can act as broker-dealers with liquidity provision or establish a central custody system. With progress being made on digital assets contracts recommendations by ISDA (International Swaps and Derivatives Association), the necessary tools for building trust will soon be available.
Centralized exchanges have an opportunity to bridge the gap between decentralized technology and trust in the traditional financial industry.
Hot Take: Tokenization is Paving the Way for a New Financial Landscape
The adoption of tokenization is gaining momentum as more real-world assets are being tokenized, and secondary markets are deepening. Tokenization offers fractional ownership, increased liquidity, diversification efficiency, and access to traditionally illiquid assets. Centralized exchanges have a crucial role to play in building trust and maintaining liquidity in the tokenization system. As regulatory environments evolve to merge traditional finance with blockchain technology, centralized exchanges can bridge the gap between decentralized technology and trust from institutional and retail investors. Tokenization is paving the way for a new financial landscape that combines the benefits of both worlds.
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