Real-world asset (RWA) tokenization is one of the most promising potential use cases for blockchain technology. Tracking ownership of RWAs on-chain can simplify transfers, improve transparency, and unlock asset classes and use cases that are infeasible or impossible off-chain.
Tokenization has gotten off to a slow and somewhat rocky start. However, some institutions have begun exploring asset tokenization in earnest, beginning to make the move from proof of concept (POC) to real-world adoption. Understanding the challenges that they faced and key takeaways can be invaluable for projects looking to make a move into the space.
The Challenges of Tokenization
Tokenization shows significant promise; however, adoption has been slow to date due to the various challenges standing in its way. At a high level, these can be broken up into technical challenges and struggles with gaining adoption and user trust.
Technical Challenges of Tokenization
One of the main drivers of RWA tokenization is that blockchain technology provides much of the infrastructure required to implement it. Smart contract platforms allow anyone to create a non-fungible token (NFT) that can be used to track ownership of a particular asset. Blockchains were originally designed to track ownership of digital tokens and securely transfer them between accounts. Smart contracts enable developers to encode rules for token transfers and define unique capabilities.
From a technical perspective, the main challenges of tokenization relate to authenticity and security. Since anyone can create a token, it can be difficult to determine whether a particular token actually encodes ownership of an asset. This is why many of the main success cases of tokenization to date often involve established institutions and asset classes like mutual funds and real estate.
On the security side, many of the blockchain’s biggest benefits are also its biggest challenges. For example, blockchain technology needs an immutable digital ledger to make decentralization possible. However, ledger immutability also means that stolen assets can’t be easily recovered. Similarly, the power and flexibility of smart contracts allow innovation; however, securing these contracts can be complex, making million-dollar hacks a common occurrence.
Struggling with Adoption
Many attempts at asset tokenization have also struggled to achieve the liquidity and mainstream adoption needed to succeed. One potential reason for this is the difficulty of gaining acceptance from traditional investors and Web3 users. Retail investors may distrust or lack familiarity with Web3 technology, while Web3 users are often wary of traditional, centralized institutions.
In a recent Fireblocks webinar on asset tokenization, Mike Reid of Franklin Templeton Investments described their experience building Benji On-Chain, which allowed the tokenization of a money fund. The team took a builder approach to the technology, developing their own digital wallet, on-chain transfer agent, and coin. However, adoption was very slow at first, partially due to the fact that funds had near-zero yields at the time.
The project saw more success as external drivers forced users to look for alternatives to existing solutions and found Benji. As rates began to increase, the project gained interest from Web3 natives, who saw the potential benefits. When regional banks were failing, investors wanted to move to a larger institution and adopted the project as part of this transition.
Making the Transition to Real World Adoption
One of the most common critiques of blockchain is that it is a solution looking for a problem to solve. There have been many failed projects trying to use blockchain where it wasn’t the best choice, and various companies have been stuck in the POC stage with their blockchain efforts.
RWA tokenization is a clear application for blockchain technology, and some organizations have successfully made the transition to real-world implementations.
Some key takeaways from their stories include:
Modernizing Existing Solutions: Many successful applications of tokenization are designed to leverage blockchain capabilities to improve existing products. For example, Will Peck of WisdomTree stated that exchange-traded funds (ETFs) were an improvement on mutual funds, and tokenization is the logical next step in the process.
Bridging Web2 and Web3: Successful tokenization efforts, like the example from Franklin Templeton, tend to be ones that make Web3 accessible to retail users or align with the Web3 ethos and builder mentality. For example, Bitcoin ETFs were massively successful since they provided an easy on-ramp for traditional investors to gain exposure to Bitcoin and crypto without the technical complexity of direct ownership.
Identifying Key Blockchain Benefits: Many failed blockchain projects did so because they couldn’t answer the question, “why blockchain?”. Successful tokenization projects are often built on top of many experiments and have identified key benefits that blockchain brings, such as transparency, liquidity, and global reach.
While these examples might not apply to every potential tokenization project, it’s useful to see what did and didn’t work for those making successful moves in the space. Several companies highlighted the fact that they needed to perform extended or multiple experiments to figure out how blockchain technology could best serve both them and their users.
Security Is Key To Successful Tokenization
On-chain asset tokenization is like any other product. A company needs to develop a good solution and find product market fit. Building trust with the target market is a key element of this.
In both the traditional finance (TradFi) and Web3 spaces, security is a key part of this trust building. A major complaint about on-chain projects is the fact that they suffer from frequent, major security incidents. Often, these involve simple security errors, such as a failure to perform a smart contract audit before launching code.
RWA tokenization has several challenges to overcome, but security is one of the biggest. If users can’t trust that they’ll be able to retain official ownership of their assets tracked on-chain, then they won’t trust or use the system.
Halborn offers tokenization providers and other Web3 projects the tools and expertise that they need to deploy on-chain with confidence. To schedule a comprehensive smart contract audit or get guidance on how best to implement Web3 security best practices for your project, reach out to Halborn.