Tokenization also can transform the infrastructure finance market by opening investments to a broader global pool of investors and facilitating the innovation of new project financing product offerings.
Infrastructure bond tokens are a financial instrument that represents an ownership interest in an underlying asset that can be tokenized to unlock the power of blockchain technology. Asset tokens are not just representations of ownership in publicly traded equity and bonds but also for illiquid assets like real estate, art, and anything. Depending on what it represents, Token can be subject to regulations and may need to conform to strict compliance standards, as is the case with publicly traded bond tokens.
Tokenization turns a piece of data, such as units of infrastructure bond, into a random string of characters called a token that has no meaningful value if breached. The random string of characters refers to the original data in a token vault, which stores the relationship between the sensitive value and the created token. Infrafintech bond tokens are digital representations of bond units on a blockchain.
“Tokenization turns a piece of data, such as units of infrastructure bond, into a random string of characters called a token that has no meaningful value if breached.”
Blockchain Bonds
Bond tokenization represents the ownership of a bond by a token on a blockchain. It includes the automation and execution of the bond’s terms through smart contracts. Issuing and investing in bonds is complex, involving several parties, and typically requires a considerable up front financial commitment from the sponsors. For those investing in infrastructure projects, there is uncertainty about whether the bond issuer can deliver the project it has committed to at the issuance of the bond. There are other illiquidity, transparency, and secondary markets challenges for retail investors. Utilizing blockchain technology brings increased efficiency and reduced error to the creation, issuance, and management of securities, which ultimately reduces cost, and tokenization put the advantages of blockchain technology on steroid.
Benefits of Bonds Tokenization
Tokenization by riding on the blockchain technology transforms and automates the processes involved in bringing bonds to be public and private markets, which benefits issuers and investors in various ways, from increasing efficiency to reducing room for error, which ultimately bring significant cost reductions. Tokenization also can transform the infrastructure finance market by opening investments to a broader global pool of investors and facilitating the innovation of new project financing product offerings.
“Tokenization increases the liquidity of traditionally illiquid, non-fractionable assets like road projects.”
Tokenization increases the liquidity of traditionally illiquid, non-fractionable assets like road projects. Tokenization also increases democratization, portfolio diversification, and availability of new investments that were otherwise unavailable in the market, which is a big win for investors. While the list of benefits from tokenization to projects, issuers, and investors is long, here are a few key ones that leverage blockchain technology:
- Collateral Liquidity: Institutional investors globally, excluding hedge funds, hold over $120 trillion in total assets under management and trillions more in real estate. Tokenization provides infrastructure bonds issuers and global investors a way to unlock liquidity in collateral or non-fractionable assets.
- Increased Transparency: blockchain technology provides one source of truth for all parties to rely on, which helps reduce disputes around record keeping.
- Increased Efficiency: the need for lengthy intermediaries is unnecessary in blockchain tokenization, resulting in reduced settlement time and cost savings for issuance and overall administrative costs.
- Better Compliance: blockchain reduces the risk of error and makes it cheaper and easier to manage complex compliance requirements by programming compliance rules directly into each token.
- Reduced Cost: blockchain bond tokenization minimizes the cost of bond issuance by up to 90%, (HSBC Bank, 2019) fundraising cost can be reduced by up to 40% (Entoro Capital LLC, 2018) compared to the current traditional method and up to $181B per year (LexisNexis Risk Solutions, 2020) which the financial industry spends on compliance. These cost savings and reductions are due to blockchain technology’s automation, compliance, and transparent record-keeping functionalities.
“One-size-fits-all tokenization approach can not conform to the requirements of all stakeholders. Issuers will be better positioned to reap the full benefits of tokenization by creating the right network of participants and acting intentionally at the onset of the tokenization journey.“
Bonds Tokenization Process
The issuance of each bond is unique to the project, industry, project sponsors, investors, and regulations. Therefore, a one-size-fits-all tokenization approach can not conform to the requirements of all stakeholders. Issuers will be better positioned to reap the full benefits of tokenization by creating the right network of participants and acting intentionally at the onset of the tokenization journey. There are several token creations approaches, but they should be simple, intuitive, and transparent no matter what method is applied. The following summarizes how a token can be created, distributed, and managed. (Polymath Inc, 2021)
- Ecosystem assembly: understand the entire digital asset lifecycle and ensure that each piece fits together from beginning to end. This involves the network members that will facilitate the operations related to the token, from actual token issuance to finding investors, including KYC/AML providers, legal firms, broker-dealers, custody agents, cap table management providers, advisory partners, and others.
- Security token creation: Once a raise is structured and an ecosystem is mapped out, a security token can be configured. The security tokens should enforce jurisdictional regulations directly by using blockchain.
- Compliance Set-Up: Compliance automation is one of the main benefits of blockchain, and some studies indicate that blockchain can cut compliance costs by up to 50%. For optimal efficiency, a tokenization platform should enable faster processing and lower protocol fees that can scale as the demand and complexity of regulation grow.
- Token Distribution: Token distribution transfers tokens or funds to their intended recipients. Asset distribution on blockchain gives issuers an automated and reportable way to manage initial token distribution and future distribution events.
- Corporate Actions Execution and Management: Corporate actions are complex, labour-intensive, error-prone, and costly when managed by manual process. Blockchain technology improves the execution and management of corporate activities through automation and transparent record keeping. Fast and easy dividend issuance, report generation, and new investor management also make it easier to thrive in the private market, enabling a path to liquidity.
Developments in Bonds Tokenization
BIS Innovation Hub
The Bank of International Settlement (BIS) Innovation Hub’s first green finance project explores the green art of the possible through combining blockchain, smart contracts, internet-of-things, and digital assets. Together with six partners, the project achieved two prototypes that bring to life the vision that an investor can download an app and invest any amount into safe government bonds and infrastructure bonds, which will develop a green and infrastructure project. Over the bond’s lifetime, the investor in the green energy project can not only see accrued interest but also track in real-time how much clean energy is being generated and the consequent reduction in CO2 emissions linked to the investment; further, the investor can sell the bonds in a transparent market. ( Bank for International Settlements, 2021)
“Infrafintech bonds tokenization offers excellent opportunities for a more efficient infrastructure financing market.”
UnionBank and SCB
Union Bank of the Philippines (UnionBank), in partnership with Standard Chartered Bank (SCB), completed a proof of concept for issuing a retail bond on a digital platform leveraging blockchain technology for bond tokenization. The three and 5.25-year dual-tranche issuance totalling PHP 9 billion by UnionBank was successfully mirrored on the platform co-created by UnionBank and SC Ventures, Standard Chartered’s innovation and ventures arm. Orders received were tokenized, and to stay within existing retail bond guidelines, tokens issued mirrored the traditional transaction but were not allocated directly to investors. SC Ventures built the bond tokenization platform making the process simpler, faster, and widely accessible, solving for liquidity and transparency in the retail bond markets. (Standard Chartered Bank, 2020)
The Online Bond Reservation portal of UnionBank, where the bonds were made available, is also the Philippines’ first digitally-enabled platform allowing clients to view and place order reservations for corporate bond offerings conveniently anytime, anywhere, creating a highly cumbersome and manual process more straightforward and more widely accessible. Through the portal, UnionBank clients experience a fully digital end-to-end service, from account verification, client suitability assessment, and the filling up of the application to purchase form, up to allocation to the investor. The portal also buys bonds completely paperless and more efficient as it cuts the processing time for customers from a couple of days to mere minutes. (Standard Chartered Bank, 2020)
hese opportunities provided by tokenization will increase investor confidence, facilitate broader capital flows and reduce the cost of reporting, which are even more significant.”
Bank of Thailand Government Bond
The Bank of Thailand (BOT) successfully launched a new platform leveraging Blockchain Technology for Government Savings Bond issuance. It aims to enhance investors’ buying experience, improve operational efficiency and reduce overall cost. Fifty billion baht of government savings bonds have been sold out in a week. It is a collaborative effort among eight institutions: BOT, Public Debt Management Office, Thailand Securities Depository Co., Ltd, Thai Bond Market Association, and selling-agent banks, including Bangkok Bank, Krungthai Kasikorn Bank, and Siam Commercial Bank. In the next phase, the infrastructure will expand to support all different government bonds, both retail and wholesale, to fully serve the demand of all stakeholders. (Bank of Thailand, 2020).
Conclusion
Infrafintech bonds tokenization offers excellent opportunities for a more efficient infrastructure financing market. These opportunities provided by tokenization will increase investor confidence, facilitate broader capital flows and reduce the cost of reporting, which are even more significant. Infrastructure bond tokenization is a promising new domain for infrafintech for all project stakeholders.
Bonds tokenization can solve the liquidity challenge associated with infrastructure investments. Transactions can be real-time, less intermediary, and no centralized third party. The adoption of bond tokenization in infrastructure financing will enable bonds to reach and create new markets at both ends of the investment pipeline.
