Security tokens are a fascinating development that works as a bridge between legacy financial assets and blockchain networks. After Following the quick and sacred decline of the ICO (Initial Coin Offering), security tokens; security token offering (STO) to be precise; have begun to gather momentum amongst regulators, financial institutions and service providers.

What is “a security”?

To get a better understanding of security tokens, one must first comprehend what securities are. Securities are known as tradable financial assets like debentures, notes, bonds, options, shares (stocks), as well as warrants. There are numerous debates as to what should qualify for a financial instrument to be named security. Nevertheless, in the United States, a determination method called the Howey Test is utilised. What the Howey test does is a state that a financial instrument is a security only if it contains:

Monetary investments

A mutual enterprise (as the company which the investment occurs)

The prospect of profits solely from the efforts of the third party or promoter

Let’s use stocks as an example; that way you can better understand that; it is merely a way of owning part of an organisation without actually possessing it.

What Are Security Tokens?

 

security tokens

In simple terms, Security tokens are cryptocurrency tokens categorised as securities based on the definition previously mentioned. Security tokens are stated as blockchain investment products once they take their value from the company of issue; which investors purchase with the expectation that its value will increase and can be sold later for a profit. If the token has an ownership stake of the issuing company, then it becomes an equity token.

Some of the Weaknesses of Security Tokens

Just like any system, security tokens are not faultless. If the token is stolen or lost or if its owner does not have it in their possession; it cannot be utilised to access a service. However, there are steps to prevent theft or loss; such as alarms or locks such that the token is rendered useless to a robber by using two-factor authentication; that requires both an item possessed by the owner like a bank card, and a piece of knowledge like a PIN to access the token.

Furthermore, Security tokens are vulnerable to hacking. This usually happens when the owner unknowingly gives sensitive information to an unauthorised provider; who then puts the information into the protected network. This is called man-in-the-middle fraud. Any network connected to the Internet is susceptible to such an attack.

Here are some ways in which security tokens can change the market

Opening Up Capital to Global Markets

Depending on the set up of the token, it might be qualified for trading in global markets. For instance; an investor located in Germany would be able to easily purchase equity in a cafe in Florida; through a few clicks of the mouse.

By unlocking liquidity

This will ultimately attract more liquidity into the securities market.

24/7 Trading

With traditional securities and stocks, the markets are open strictly for 6-7 hours; and on weekdays only (9:30am-4pm EDT, Monday to Friday in the US, holidays included).
This delays liquidity because investors cannot trade on market developments or the news over the weekend. This may lead to unclear behaviour from companies. For instance, they will often release information on Fridays after 4 pm to capitalise on this.

Nonetheless, security tokens allow for 24/7 markets, and this eliminates the huge inefficiencies of market closures daily.

Automated Compliance

Asset Interoperability

security tokens

In a future whereby it is possible to tokenise almost anything, doors open to asset interoperability; computer software or systems’ ability to exchange and make use of data.

Programmable Assets and Securities

Increased Market Depth and Fractional Ownership

The Security Token Infrastructure

When we look at the security token infrastructure; it is more than having centralised or decentralised security token exchanges like; tZero, the Malta security token exchange or Open Finance. Therefore, it also involves distinct disclosures concerning the underlying projects; along with approved liquidity protocols for the enabling of the programmability of security tokens.

The managing director of Invector Lab believes that “ the security ecosystem must also consist of; debt tokens, P2P Iswap trading protocols, custody, future as well as other derivatives; to pave the way for liquidity in security tokens.

Conclusion

At a point when the security token ecosystem is in a good place, then making illiquid assets liquid becomes possible. Because of smart contracts and distributed ledger technology; automation of asset ownership transfer can occur without breaking the local and global security laws. This could ultimately revolutionise the world economy and the financial markets.

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