News
What are tokenized stocks? How tokenized stocks work and examples
What are tokenized stocks?
Tokenized equity is a digital token or “currency” that represents the shares of a company or organization.
With the growing adoption of blockchain, companies are finding it convenient to use digitized cryptographic versions of their equity. Tokenized stock is emerging as a way to raise capital where a company issues shares in the form of digital assets such as cryptocurrencies or tokens.
Key points
- Tokenized capital is the creation of units of equity ownership represented by digital tokens or “coins.”
- Equity tokenization has become popular with the advent of decentralized blockchain systems, which have enabled the simple and convenient creation, issuance, and transfer of digital tokens.
- Tokenized capital has been used in the form of initial coin offerings (ICOs) for blockchain-based projects, although its legal and regulatory status as a traded security remains uncertain.
Understanding Tokenized Equity
Tokenized equity is like any standard stock purchased in a listed company, except that the stock is a cryptographic token.
To draw a parallel with stock ownership, let’s say you bought shares of a publicly traded company during its initial public offering. These shares would then be credited to your Demat account—an electronic account that holds financial securities, such as stocks and bonds, in digital form for online trading and investing. Tokenized stock shares work the same way, except that these shares are in cryptocurrencies or digital tokens. Instead of going into your Demat account, you are credited to your blockchain-hosted account.
Traditional methods of raising capital have some operational hurdles. These include regulations on proper bookkeeping and accounting, adherence to strict stock exchange rules, reluctance of banks and other financial institutions to extend credit, and challenges for business owners in convincing private investors to buy parts of a business.
In contrast, tokenizing corporate ownership of equity shares on a blockchain provides flexibility in fundraising. The low-cost method allows for an affordable way to value the company based on the direct participation of interested investors. Valuation depends primarily on market forces rather than a group of sponsors or angel investors.
Despite their potential, the viability of tokenized stocks remains uncertain. Regulatory hurdles, digital asset theft, hacking attempts, and the anonymity of cryptocurrency transactions raise concerns about investor protection.
Tokenized Equity in Practice
Many new startups and companies raise funds through ICOs that award tokenized shares to investors. For example, the American biotech company Quadrant Biosciences Inc. tokenized all of its capital as Quadrant Token and offered 17% of its diluted capital through a token sale. It successfully raised over $13 million at $1.25 per share. The Quadrant token, which resides on its native blockchain, represents traditional capital.
The underlying blockchain infrastructure also supports all the necessary activities applicable to tokenized stocks. For example, the blockchain system manages popular corporate actions such as dividends, mergers, acquisitions, shareholder voting, and subsequent share offerings.
tZERO, Polymath, Securitize Markets and Templum are blockchain-based platforms offering regulatory-compliant tokenized assets and their secondary trading.
New Directions in Tokenization: BlackRock’s USD Institutional Digital Liquidity Fund
In 2024, BlackRock, the world’s largest asset manager, launched its first tokenized investment fund called BlackRock USD Institutional Digital Liquidity Fund (BUIDL) on Ethereal blockchain. While not a tokenized capital as such, BUIDL seeks to maintain a stable value of $1 per token and will pay out daily accrued dividends as new tokens each month. The fund itself invests in cash, US Treasuries, and repurchase agreements.
The fund is traded on the blockchain, offering benefits such as expanded investor access, instant settlement, and seamless transfers between platforms. Securitize serves as the transfer agent and tokenization platform.
How does tokenized equity differ from traditional equity ownership?
While tokenized equity represents ownership rights like traditional stocks, there are some key differences. Tokenized equity is issued, bought, and sold on blockchain platforms, while traditional stocks are traded on centralized platforms. stock exchanges. This means that tokenized capital is held in digital wallets, while traditional stocks are typically held in brokerage accounts. The regulatory landscape for tokenized capital is still evolving, while traditional stocks are subject to established securities regulations.
Can anyone create an equity token?
In theory, anyone can create an equity token, but there are laws and regulations that must be followed. Those issuing equity tokens must comply with applicable securities laws, such as registration requirements and disclosure requirements. The company or tokenized asset must also have a legal structure that allows tokenizationas a company. Creating and issuing equity tokens requires specialized technical knowledge and resources, including blockchain development and smart contract programming.
What are the risks of holding tokenized stocks?
Like any investment, tokenized capital carries certain risks, including the decline in the value of the company’s equity. The value of tokenized capital can be subject to significant price fluctuations, particularly in the early stages of adoption. More specifically for tokenization, laws and regulations are still evolving, creating uncertainty and potential compliance risks. As a digital asset, tokenized capital may be vulnerable to hacking, theft, or other security breaches. If you lose your private keys to access your digital wallet, you will also lose your stock tokens forever.
How are dividends and voting rights handled with tokenized capital?
The specific terms and conditions of dividends and voting rights for tokenized capital depend on the issuer but will be executed in accordance with smart contracts. These are blockchain-based scripts that automatically execute pre-set terms between counterparties. Dividend payments can be programmed into a smart contract, allowing for automatic distribution to token holders based on their ownership percentage. Voting rights can also be embedded, allowing token holders to participate in governance decisions via blockchain-based voting mechanisms.
The bottom line
Tokenized capital represents ownership rights in a company or business using digital tokens on a blockchain network. In other words, it converts traditional capital, such as shares in a company, into cryptocurrency that can be bought, sold, and traded on a blockchain platform. This enables decentralized peer-to-peer exchanges rather than relying on centralized exchanges or private placement markets. Tokenization also divides capital into smaller, more convenient units, enabling fractional ownership and potentially increasing liquidity. The terms and conditions of capital, such as voting rights and dividend payouts, can be programmed into smart contracts, automating the enforcement of these rules.
However, the laws and regulations surrounding tokenized capital are still evolving, and compliance, security, and investor protection challenges have yet to be fully addressed.