The Breakdown - How Real Are Real World Assets?

Episode Date: February 12, 2024

NLW reads two pieces with different takes on Real World Assets - one of crypto's big emerging themes. https://www.coindesk.com/consensus-magazine/2024/02/02/real-world-asset-tokenization-is-fake-news/ https://www.coindesk.com/business/2024/02/07/forget-etfs-lets-work-on-tokenizing-the-whole-value-chain/ Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Sunday, February 11th, and that means it's time for Long Read Sunday. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. Hello, friends, back with another long read, and today we have sort of a classic old point counterpoint about real-world assets. Now, I am once again kids sick, and so we'll be turning

to AI me thanks to 11 Labs for a reading of each of these pieces, and then we'll come back with a little bit of discussion at the end. We're going to start with a piece by Alan Gully called Forget ETFs. Let's work on tokenizing the whole value chain. Alan writes, The last six months in crypto markets have been dominated by two main narratives. The prospect of Bitcoin ETFs, which were finally approved by the SEC in January, and so-called real-world assets, RWAs. Interestingly enough, these themes represent two sides of the same coin. Bitcoin ETFs take digitally native assets off-chain, while RWAs bring traditional assets on chain. Both traditional and decentralized finance experts have hailed these related innovations. BlackRock CEO Larry Fink,

for example, told CNBC, ETFs are step one in the technological revolution in the financial markets. Step two is going to be the tokenization of every financial asset. So what about step three? I would argue that bringing the entire value chain, not just the end product on chain, should be the final objective for all financial assets. That includes equities, fixed income, cash equivalents, alternative investments, and the many structured products that build on top of them. Making digital assets available off-chain may have advantages. Bringing traditional assets on-chain might too. But this hardly scratches the surface of what blockchain can do for capital markets. Unparalleled efficiency, transparency, and programmability can be enabled from origination and issuance to settlement and custody.

Bringing traditional assets on-chain is one thing. Building them entirely on-chain is another. This is already happening in small ways today. When users buy structured products that are natively built on chain, they can issue, redeem, swap, and self-custody products permissionlessly, without dependencies on intermediaries. On-chain automation also enables rebalancing and re-waiting for products to be self-sustaining. Anyone can independently verify the technology stack underpinning each product, minimizing trust, and maximizing transparency. These capabilities can extend to all asset classes, not just the ones on-chain today. Traditional financial firms like Wisdom Tree are already pushing past simple token wrappers and embracing broader blockchain capabilities for capabilities

like settlement, record-keeping, and exchange infrastructure. J.P. Morgan Onix is also exploring on-chain settlement and rebalance execution for alternative assets and broader portfolio management as well. Blockchain-native organizations like Goldfinch and Maple are also bringing credit markets on-chain with lending facilities and secured collateral. Other asset classes like real estate, realty, private equity, tokenie, and carbon credits, Tukan, are coming on-chain too. Granted, there is regulation to consider and technology to develop, but the collective opportunity to move beyond Bitcoin ETFs and tokenized RWAs is immense. In a future where all assets are built, managed, and distributed on-chain, investors,

asset managers, and even regulators will benefit from the transparency, efficiency, and disintermediation that results. Lower costs, global distribution, and more efficient markets await on the other side. Next up, we have a piece whose perspective is embedded right there in the title with Real World Asset tokenization is fake news. The piece is written by Dave Hendricks, the co-founder and CEO of Vertalo, and Dave begins, tokenization, particularly of real-world assets. assets, or RWA's, has recently been touted as the next big thing in crypto. Most people do not

make the connection that this trend is just another form of security tokens, a term you may not have heard since 2018, for good reason. The people hyping tokenization are mostly wrong, but their heart is in the right place. It's no one's fault that something becomes trendy, but if security tokens, tokenization and RWAs are all part of the same technological continuum, and if the Gartner hype cycle is right, there will likely be another bust soon enough. Many of the current promoters of tokenization are refugees from the former hype cycle champion, decentralized finance, otherwise known as defy. While influential TradFi influencers and CEOs see tokenization as a natural evolution in finance,

for instance, BlackRock CEO Larry Fink said the recent launch of Bitcoin ETFs were the first step towards everything going on chain. The tokenization of every financial asset is much more complicated and largely misunderstood by both proponents and detractors. The tokenization of the RWA assets industry is beginning its eighth year, having started in late 2017. My firm Vertalo launched one of the first fully compliant Reg. DS equity tokenizations in March 2018. The challenges that we encountered, too many to recount here, led us to pivot from our original role as an issuer of tokenized equity to a Picks and Shovels Enterprise Software Company with an

aim to connect and enable the digital asset ecosystem. Since that time, we saw the expansion and subsequent massive contraction of non-fungible tokens, NFT and Defi. NFTs and Defi were easier and more end-user-friendly applications of tokenization technology. In the case of NFTs, you could buy computer-generated art that would be represented by a tradable token on easily accessible marketplaces like OpenC. If you ask me to map the progress of NFTs to Gartner's hype cycle, I would place them post-peak and sliding fast through the trough of disillusionment. For instance, OpenC investor Kowatu marked down of their $120 million investment to $13 million.

based on the exchange's diminishing fortunes. Likewise, the formerly red-hot defy market has demonstrated its own cooling, with many projects now seemingly rebranding and refocusing on real-world assets. This includes defy Titans MakerDAO and Ave. Teams touting their RWA cred now point to large traditional financial institutions as clients or partners, which makes sense since many defy founders cut their teeth at Stanford or Wharton Business School before working at Wall Street banks. Bored by quant jobs supporting bond salesmen and equity traders, but in enamored with the volatility and work-life balance that came with decentralization, the defy movement is well acquainted with the world and money of global finance,

but less enamored with its rules, regulations, and rigor. As astute observers of trends, smart defy founders and their engineer mathematicians saw the writing on the wall and exited the governance token-airdrop game in 2022 and started retooling their marketing and strategy to create the new new thing, that is tokenization. The result? A mass migration and adoption of the moniker RWA and a swat swift flight from anything that looked like a copy-paced rug pull, a signature move and risk in the

anon-loving defy world of 2020 to 2020. The fact that the assets and collateral typically under management in most of these RWA projects are largely stablecoins, and not actual hard assets, doesn't appear to be a problem. tokenization is not a quiet riot. If you map the current RWA market to the hype cycle, it probably would land right at supplier proliferation today. Everyone wants to be in the RWA business now, and they want to get into it as fast as they can. Tokenization of RWA is actually a great idea. Today, the ownership of most private assets and the target asset class for RWA is tracked on spreadsheets and centralized databases. If an asset is restricted from being sold, like a public stock, bearer bond, or cryptocurrency,

there is little reason to invest in technology that makes it easier to sell. The antiquated data management infrastructure found in private markets is a function of inertia, and according to RWA proponents, tokenization fixes this. Section. Does tokenization actually fix this? There's some truth to this little white lie, but the absolute truth is, while tokenization by itself does not solve liquidity or legality problems when it comes to private assets, it also introduces new challenges.

RWA tokenization advocates conveniently sidestep this issue, and it's easy for them to do so since most of the co-called real-world assets being tokenized are simple debt or collateral instruments that are not held to the same compliance and reporting standards as regulated securities. In reality, most RWA projects are engaging in an old process called re-hypothecation, where the collateral is itself lightly regulated cryptocurrency and the product is a form of a loan. That's why almost all RWA projects tout money market type yield as their drawing card. Just don't look at the quality of the collateral too closely. Borrowing and lending is a big business, and so I would not count out the future and long-term success of token.

But saying you are bringing real-world assets on chain is not accurate. It is simply the collateralization of crypto assets represented by a token. And tokenization is just one piece, an important one of the puzzle. When Larry Fink and Jamie Diamond talk about the tokenization of every financial asset, they are not talking about crypto-collateral RWAs. They are actually talking about tokenizing real estate and private equity and eventually public equities. This will not be accomplished merely with smart contracts. Section. First-hand Experience After spending more than seven years building a digital transfer agent and tokenization platform that has tokenized almost 4 billion units representing interests in almost 100 companies,

the reality of mass financial asset tokenization is much more complicated. First of all, tokenization is a relatively simple and minor part of the process. tokenization is a commodity business and hundreds of companies can tokenize assets. tokenization by itself is not a very profitable business, and as a business model, tokenization is a competitive race to the bottom when it comes to fees, With so many suppliers offering the same thing, it's going to become a commodity really fast. Secondly, but far more important, there are fiduciary responsibilities when it comes to tokenizing and transferring RWAs. That's where the hard part, the ledger, comes in.

All right, back to non-AI-NLW here for just a quick wrap-up. These pieces ultimately weren't necessarily as totally diametrically opposed as maybe it seemed at first. But I think that one of the things that underlies them is a sort of discomfort with how many people are looking to RWA's as the next big narrative for the crypto industry writ large. To me, on the one hand, it seems incredibly obvious that the benefits of tokenization are going to drive that sort of behavior, but at the same time, I don't think that will necessarily have some huge impact on crypto prices, which is, of course, what people are looking for when they're talking about the next narrative. Just because the thing happens around crypto infrastructure doesn't mean that tokens, at least not the

ones we have in our bags are going to necessarily benefit. Now, certainly in some cases, there may be more of a direct correlation. People, for example, are betting that Link, the token, of course, of ChainLink, is actually going to be able to capture some of that value. But for my money, when it comes to what the next big narrative for crypto is going to be, I don't actually think it's here. Doesn't mean there isn't a lot of interesting things happening there. I just don't think it's going to have as direct a correlation as people think on the success of the crypto markets. Anyways, guys, that is going to do it for today's episode. Until next time, be safe and take care of each other.

Peace.