From enhancing investor protection to streamlining compliance processes, on-chain tokenized securities hold the potential to reshape the future of finance while maintaining adherence to regulatory frameworks.
Tokenization, today, is no longer a buzzword but a phenomenon that needs more comprehension. Over the years, on-chain tokenized securities have gained acceptance among the big shots of the finance sector that want to leverage it for newer investment opportunities.
As understood, converting traditional securities such as real estate assets, stocks, bonds, etc., into digital tokens over a blockchain is known as tokenized securities in the popular sense.
Since they are programmable, tokenized securities enable the implementation of automated compliance rules and the execution of complex financial transactions.
While we are at it, the idea that tokenized securities are used to bypass regulations is wrong. In reality, tokenization can help regulations work better by making things more transparent, automating compliance and keeping track of transactions. It can simplify regulatory processes and create a safer and more effective system for everyone involved.
How can tokenized securities enable successful compliance?
Blockchain’s immutability is valuable during audits and investigations, as it provides real-time visibility into transactions and ownership records. This enables regulators to monitor activities, identify frauds and ensure adherence to obligations.
- Streamlined reporting: This reduces the time and cost associated with manual reporting. This enables companies to stay compliant with reporting requirements and ensure that investors have access to timely and accurate financial information.
- Facilitates improved liquidity: It does this through faster settlements and automated trade execution. Traditional securities can have limited liquidity due to lengthy settlement periods and complex trading processes.
- Improved investor protection: It improves investor protection by providing greater transparency, reducing information asymmetry and enabling automated compliance measures. This helps mitigate fraudulent activities and ensures investors are better informed about the securities they hold.
- Enhanced data integrity: This helps prevent unauthorized alterations or tampering. This strengthens the accuracy and reliability of regulatory reporting, audits and investigations.
- Facilitate global regulatory harmonization: This can be achieved by establishing standardized compliance protocols and enabling interoperability between different regulatory frameworks. This can reduce regulatory fragmentation and enhance cross-border investment opportunities.
- Increased market efficiency: This can result in faster settlement times, enhanced liquidity and streamlined transferability. These benefits reduce transaction costs, mitigate counterparty risk and create a more fluid trading environment.
Moreover, regulatory frameworks embracing tokenized securities can foster innovation, attract more participants and cultivate opportunities for emerging business models.
A quick run-through of the case studies
The Monetary Authority of Singapore (MAS) has granted approvals for security token offerings (STOs) and established a regulatory sandbox for blockchain-based financial services, fostering controlled experimentation.
The European Commission’s whitepaper on distributed ledger technology (DLT) proposes regulatory measures to ensure compliance of DLT-based products and services with existing financial regulations.
Additionally, the International Organization of Securities Commissions (IOSCO) acknowledges the potential of blockchain technology to enhance regulatory compliance in securities markets, as indicated in their report.
These developments collectively reflect the increasing recognition and adoption of tokenized securities within regulatory frameworks worldwide.
Regulatory compliance challenges resolved by tokenized securities
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Tokenization offers enhanced transparency, automated compliance mechanisms and auditable transaction records, simplifying regulatory oversight. Additionally, tokenization enables efficient monitoring of ownership transfers, streamlined compliance checks and standardized protocols, facilitating cross-border regulatory harmonization and reducing administrative burdens.
Know your customer (KYC) and anti-money laundering (AML) compliance
One of the primary regulatory compliance challenges that financial institutions face is KYC and AML compliance. Tokenized securities can enable a seamless, transparent and immutable tracking of transactions and the ownership of assets. This can make it easier for institutions to comply with KYC and AML regulations.
Cross-border transactions compliance
Cross-border transactions often face a complex web of regulatory compliance challenges. Tokenized securities, being blockchain-based, can facilitate borderless transactions while complying with local regulations. This can help financial institutions to streamline their cross-border transactions.
Securities regulations compliance
Tokenized securities need to comply with securities regulations. However, the existing regulations often fail to consider the unique properties of blockchain-based securities. With tokenized securities, the compliance process can be simplified by automating regulatory checks and reporting, making it easier for financial institutions to comply with securities regulations.
Fractional ownership compliance
Tokenized securities enable fractional ownership, addressing the challenge of limited access due to high capital requirements. This promotes market inclusivity by allowing investors with lower capital amounts to participate in securities offerings. Additionally, tokenization facilitates automated compliance checks, simplifying regulatory compliance for financial institutions dealing with fractional ownership.
Secondary market compliance
The secondary market for traditional securities faces regulatory compliance challenges, such as trade matching and settlement. Tokenized securities can provide a transparent and efficient trading platform with automated compliance checks, making it easier for financial institutions to comply with secondary market regulations.
On-chain tokenization has its share of challenges
For example, complicated or sometimes unclear regulations discourage enterprises to go full throttle with on-chain tokenized products. The situation is no different in big markets such as the US, where the Securities and Exchange Commission (SEC) has yet to provide clear guidance on how tokenized assets should be regulated.
Such regulatory uncertainty around tokenization discourages businesses to introduce on-chain tokenization in their portfolio. On top of it, the complexity increases when the business doesn’t have any prior experience in blockchain or they don’t have a tech partner to fill the gaps.
Tokenization can involve a number of technical challenges, such as ensuring the security and reliability of the underlying blockchain network. These challenges complicate the implementation of tokenization in a way that meets regulatory requirements.
Partnering with a blockchain consulting firm is a great start. A team proficient with tokenization and the underlying blockchains will foresee challenges around the flow of tokens and accurate recording of all transactions. The partner can also assist in hand-picking the right blockchain protocol for a fresh start.
While in-house blockchain expertise is a temptation, it’s better done at the right time.
Cracking the compliance code with tokenized securities
Get ready for a seismic shift in regulatory compliance with the rise of tokenized securities. As they take the stage, traditional barriers will crumble, giving way to a future where compliance seamlessly blends with innovation. With tokenized securities leading the charge, expect a landscape that’s fortified with trust, efficiency and unprecedented opportunities.
The information provided here is not legal advice and does not purport to be a substitute for the advice of counsel on any specific matter. For legal advice, you should consult with an attorney concerning your specific situation.
Vikram Raj Singh is the CEO of Antier Solutions.
This article was published through Cointelegraph Innovation Circle, a vetted organization of senior executives and experts in the blockchain technology industry who are building the future through the power of connections, collaboration and thought leadership. Opinions expressed do not necessarily reflect those of Cointelegraph.
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