Original article by: Alexandra Andhov
Original translation: Luffy, Foreisght News
Last month, Boston Consulting Group, Aptos Labs, and Invesco jointly released a white paper titled Tokenized Funds: Understanding the Third Revolution in Asset Management . The title is attractive and thought-provoking, but does it make sense? Is fund tokenization the next step in the evolution of finance? If so, what will be the end result?
Investors trade on the floor of the New York Stock Exchange in 1889
According to the white paper, fund tokenization has the potential to create billions of dollars in value for financial institutions and investors. By the end of 2024, the assets under management of token funds of BlackRock, Franklin Templeton and WisdomTree will exceed $2 billion. Although $2 billion is only a fraction of the overall assets under management of these three institutions, it shows that fund tokenization has attracted investor interest. In addition, more and more banks are also launching tokenized investment funds. The latest news is that UBS launched the tokenized money market fund uMINT on November 1, 2024.
What is fund tokenization?
Fund tokenization is the process of converting ownership of a fund (such as a real estate, mutual fund, or private equity fund) into tokens. Each token represents a small portion of the fund, similar to a companys stock.
Let’s compare company shares and fund tokens:
Shares are traditional paper or electronic records within a system managed by a stock exchange or bank. They represent ownership in a company and come with certain rights, such as voting on company decisions or receiving dividends. Buying and selling shares usually requires going through a broker and is recorded in a centralized financial system. This business model has been around for centuries.
Tokens can be thought of as decentralized and digital ownership. They have similar rights and obligations to stocks, but are recorded on a decentralized digital ledger. Tokens are different in that they do not rely on traditional stock exchanges or brokers. Instead, they are completely digital, allowing people to buy and sell them directly without the need for an intermediary.
What is the value of fund tokenization?
According to the BCG white paper and the analysis of Bain Company and JPMorgan Chase, the value of fund tokenization lies in changing the asset management landscape by creating a more accessible, efficient and liquid market. Its added value is briefly summarized as follows:
Enhanced liquidity and flexibility: Tokenized funds offer 24/7 trading, allowing investors to buy and sell fund shares at any time. This continuous liquidity is similar to the flexibility of exchange-traded funds (ETFs) and is suitable for investors who want more control over their time without the restrictions of traditional mutual funds.
Reduced costs through automation: Smart contracts on the blockchain can automate processes such as compliance, record keeping, and settlement, thereby reducing administrative costs. These operational savings ultimately translate into lower fees for investors, and net returns may be higher due to simplified automated trading.
Fractional ownership and wider entry: Tokenization breaks down investment barriers by allowing fractional ownership, which means smaller, more manageable investments. This is particularly important in alternative assets such as real estate or private equity, which typically require higher capital commitments. By lowering barriers to entry, tokenized funds have the potential to attract a more diverse group of investors.
Instant Collateral: Tokenized assets can be used as collateral for lending more flexibly. With secure blockchain records, investors can quickly borrow funds with tokenized assets, creating new liquidity without the traditional lending process.
Gaining income opportunities: Tokenized funds open up new investment channels for traditional and digital native investors. Experienced investors can take advantage of the intraday price movements of tokenized funds to gain additional returns through faster and more precise trading strategies that are not possible with traditional mutual funds.
Scalability and revenue potential: The industry estimates that tokenized funds’ assets under management will grow significantly, reaching 1% of global AUM (about $600 billion) by 2030. In addition, tokenized funds could generate up to $400 billion in annual returns from activities such as staking and price swing trading.
Essentially, fund tokenization can provide significant value by lowering barriers to entry, improving liquidity and increasing efficiency for investors and asset managers. It prepares for future growth in asset management, responds to changing market demands, while improving investor experience and returns; it may also bring more oversight and trust to the industry.
Which funds are more suitable for tokenization?
Certain funds are better suited to tokenization, especially those with higher barriers to entry (such as those with high minimum investment amounts or geographical restrictions) and funds with illiquid assets (such as private equity or real estate) may benefit from it.
Funds suitable for tokenization include:
Real estate funds: typically illiquid and with high entry costs; tokenization can create a secondary market, improve liquidity and lower minimum investment amounts.
Debt Funds: Tokenized debt funds currently face challenges in raising funds.
Private equity and venture capital funds: Often limited by minimum investment amounts; tokenization can enable fractional ownership and expand access to these high-growth assets.
Hedge funds: Known for their complex structures and limited access; tokenization can make them more accessible and manageable.
Infrastructure Funds: If large project investments are public, then tokenization of these infrastructure funds will allow for wider investor participation and greater transparency.
Commodity Funds: Tokenized funds that invest in commodities like gold or oil can make trading easier and faster.
How far are we from the next financial revolution?
Before we look ahead to the next financial revolution, we need to recognize the potential risks and limitations of tokenized funds. At a minimum, we should consider the following:
Regulation and investor protection: Some tokenized funds have been launched in the United States, and there are also some in Singapore. However, blockchain-based financial products still lack clear and comprehensive regulation. Although regulators seem to dislike crypto assets, they give the green light to financial products. The lack of standardized rules increases uncertainty in investor protection, compliance, and supervision.
Operational challenges and interoperability: Tokenized funds need to integrate smoothly with traditional financial infrastructure, which is often incompatible with blockchain systems. To work seamlessly, tokenized assets require interoperable standards and systems, which are still under development. This current lack of integration can create transaction friction and complicate management.
Smart Contract Reliability: Smart contracts automate critical functions, but any errors in the code can lead to losses and security vulnerabilities. Smart contracts are immutable, so errors or security vulnerabilities cannot be easily corrected, bringing risks in terms of financial losses and legal liability.
Dependence on stable on-chain currencies: The advantages of tokenized funds, especially in terms of real-time settlement and instant collateralization, depend on the availability of stable, regulated on-chain currencies (such as stablecoins or central bank digital currencies). Without widely accepted on-chain currencies, tokenized funds may face challenges in realizing their full liquidity and efficiency potential.
Tokenized funds represent a fascinating innovation with huge potential value: increased liquidity, accessibility, and operational efficiency. Open discussion of the advantages and limitations is essential to building trust among investors and stakeholders.
It is worth noting that a few years ago, the financial industry generally considered crypto assets to be speculative and fringe. But now we see major financial institutions not only recognizing the potential of blockchain technology in a range of financial activities, but also actively embracing this potential. As the underlying technology of digital assets begins to reshape traditional finance in a meaningful way, peoples perceptions are also changing rapidly.
