Real-world asset (RWA) tokenization involves tracking ownership of real-world assets on-chain using non-fungible tokens (NFTs). Since ownership of NFTs is recorded and transferred on the digital ledger, this can unlock potential use cases and markets that are unavailable with tokenization.
However, RWA tokenization doesn’t guarantee the success of a project. One common myth is that tokenizing assets guarantees liquidity due to the various benefits that tokenization offers. However, the reality is more complicated with demand and security playing key roles.
The Benefits of Tokenization
RWA tokenization is currently an active area of research and investment. This is because it provides various benefits for projects and consumers, including:
Greater Access: Blockchains are global systems, and moving asset ownership on-chain allows other users to purchase tokenized assets.
Increased Transparency: Blockchains’ digital ledgers are visible to all users, making it easier to determine ownership of a tokenized asset and track its provenance.
Round-the-Clock Trading: Traditional markets trade during certain hours, while blockchains process transactions 24/7.
Smart Tokens: NFTs are implemented in smart contracts that can encode various capabilities and functions within them, adding logic that is built into the tokenized asset.
Fractional Ownership: NFTs can be designed to allow fractional ownership of assets and encode the rules of how this fractional ownership works.
The Truth About Tokenized Liquidity
One of the most common myths about RWA tokenization is that it will automatically increase the liquidity of the underlying asset. Broader access, expanded capabilities, and other features of tokenization are common rationales for this belief.
The reality is that tokenization doesn’t guarantee liquidity because it doesn’t guarantee that potential consumers will be interested in buying that particular asset or able to do so.
Some of the most significant factors affecting token liquidity include:
Investor Interest: One of the main benefits of RWA tokenization is that it can expand the market of potential investors that might buy the asset. However, this doesn’t guarantee that there will be demand for that asset or investor interest in purchasing it on-chain. For example, many NFTs – which are tokenized assets – have zero value today even if they had a much higher valuation post-launch.
Laws and Regulations: The financial sector is one of the industries demonstrating the most interest in RWA tokenization due to the wide range of financial instruments that could benefit from moving on-chain. However, this and many other industries are also heavily regulated, and these regulations are often unclear about blockchain and vary from one jurisdiction to another. This can restrict the range of investors able to purchase a particular asset and their interest and ability to do so.
Security and Reputation: The DeFi space has a poor reputation for security due to the frequency of high-value hacks of DeFi projects. This poor reputation can cool investor interest in a particular offering, limiting the impact that tokenization can have on liquidity.
The Role of Market Makers in Ensuring Tokenized Asset Liquidity
The liquidity of tokenized offerings is impacted by various factors, such as investor interest and regulatory compliance. However, even if there are buyers and sellers for a particular token, there’s no guarantee that they’ll find one another to complete their sale.
This is where market makers enter the picture and play a crucial role in ensuring the liquidity of a tokenized asset. A market maker will quote bids and ask for prices for a particular asset, facilitating trades of that asset. This has a few impacts on the liquidity of a market, including:
Facilitating Trades: Market makers quote bids and ask constantly even if buyers and sellers aren’t currently active. This makes it easier to complete trades since the market maker will buy or sell a token at their specified price if a natural buyer or seller is unavailable.
Price Discovery: Market makers quote bids and ask prices for assets continuously based on current supply and demand and other factors. This provides insight into the current value of the token and the spread between bid and ask prices.
Increased Stability: At a time of high volatility or low volumes, market makers buy or sell assets when buyers or sellers are unavailable. This can help to stabilize the market and the price of the token.
How On-Chain Security Affects Token Liquidity
Token liquidity is impacted by various factors; one of the most significant of these is project security. Some ways that having a strong security program in place can positively impact liquidity include:
Greater Investor Trust: With high-value hacks a common occurrence, demonstrating strong security measures can help to build investor confidence in a tokenized offering. Since demand for a token is essential to liquidity, a strong security posture is important for ensuring liquidity.
Avoiding Costly Hacks: High-value security incidents lead to losses for a project and, potentially, its users. Mitigating these risks not only improves investor confidence but can contribute to the health and profitability of a tokenization project.
Regulatory Compliance: Many use cases for RWA tokenization are in highly regulated industries, such as the financial sector. Implementing security best practices is essential for compliance with the various requirements of these industries.
Securing Tokenized Assets with Halborn
RWA tokenization is one of the most promising potential applications of blockchain technology. Many traditional assets have limitations that could benefit from being tokenized on-chain, such as access to expanded markets, the potential for fractional token ownership, or new capabilities unlocked by smart contracts.
However, liquidity is a significant factor in the success of any tokenization project, and security plays a critical role in gaining and maintaining liquidity. Security breaches and weak security practices damage trust, both with potential investors and regulatory authorities.
Halborn offers support for tokenization projects at all stages of their journey from initial ideas to long-term deployment and maintenance. This includes advisory services detailing security best practices throughout the planning, development, and deployment processes, and smart contract audits to aid in the detection and remediation of smart contract vulnerabilities. To learn more about protecting your tokenization project with Halborn, get in touch.