'The tokenization of everything'
An investor buys a stock and hopes it goes up, maybe even collecting a dividend payment along the way. It's a process investors have taken for granted for decades, and the process of buying and selling stocks, mutual funds or ETFs is practically seamless. But what really happens under the surface when these types of transactions occur?
What actually happens under the surface is, in my opinion, nothing short of a wonder of modern finance and technology.
Every investor accesses this process using a broker/dealer firm. The investor's broker/dealer firm enters the order on behalf of the investor, then the order routes to an exchange or market maker in the desired stock. On the other side of the exchange is another investor who desires to execute the opposite side of the transaction through their own broker/dealer firm. The trade flows through the exchange, matches up with the counter party and executes. Then the buying investor's account at the broker/dealer is debited, and the funds to pay for the stock are transmitted to the selling investor's firm, who then credits it to the investor's account as it delivers the stock purchased. As the trade is settled, a separate transfer agent records the change in ownership so dividends can be credited properly, and the trade is settled and complete. This all happens perceptibly instantaneously and the whole process takes one day. In many ways a wonder of the modern world. But what if it could be improved?
Some of the titans of modern finance believe it can be, through a technological process called tokenization. Now, if you want to melt your brain on a fine fall Sunday morning, take a deep dive into tokenization. I would prefer not to and will attempt to simplify this conversation so we can actually appreciate it.
Tokenization is a process built upon the same technology used to create and trade cryptocurrency called blockchain. Blockchain is a technology-based, detailed, secure and verifiable record of transactions and ownership called a distributed ledger. Financial firms are anticipating and working toward adopting blockchain technology into the investment trading process, which they believe will bring efficiency and security benefits to financial market mechanics and trade settlement. There is enough buzz and momentum in this conversation to tell me it is likely to happen in the not-too-distant future. I'm unsure how individual investors will perceive this change as it occurs -- kind of like installing upgraded plumbing in a house. Theoretically it'll just make something we already take for granted work better.
Once this technology is adopted into financial market trade settlement, however, it opens the door to a trend being called the "tokenization of everything." This is when the conversation gets really strange and in some ways fun.
The thought behind this trend is: once tokenization technology is fully developed and accepted in the marketplace, why can't it be applied to all asset types, not just stocks and mutual funds? Thinking about it, aren't stocks themselves a type of tokenization? Owning a stock enables an investor to benefit from owning a piece of an enterprise, without actually starting or working at the company.
All relevant parties -- the company, other investors and the law -- acknowledge the specifically owned benefits due to the investor (dividends, the right to sell), and the investor's decisions about his or her investment are recorded at the transfer agent. Let's expand this idea to something more tangible.
What if we tokenized a forest and allowed investors to buy and sell the forest tokens on the blockchain? If an investor feels like timber is a valuable asset, the investor could buy a tokenized piece of ownership in the forest. If timber gains in value, the token could be worth more in the future; if the timber in the forest is harvested for cash, the cash can flow to the tokenized owners on the blockchain.
Right now, an investor wanting to buy a forest will need to find a forest parcel for sale, conduct a timber survey to make sure the timber is viable, make an offer, maybe arrange financing, schedule a closing and arrange the deed transfer. All of this makes owning a forest a bit out of reach for most. With tokenization, an investor could own a fractional share of a forest as easily as buying a stock.
As a tokenized owner, I probably can't build a mountain bike trail in my forest -- just like I can't walk into Apple's corporate R&D lab because I own Apple stock -- but if I want to own the forest as an investment asset or store of value, the token enables much easier access and in a way "democratizes" access to assets individuals may not have been able to invest in otherwise.
Once the mind is open to the possibilities of tokenization, the possibilities become staggering. Art, farmland, classic cars, even entire ecosystems could theoretically be tokenized. I'm not sure where this conversation is going, but I am sure it's coming. The conversation can get very complicated, making it easy to ignore, but I would strongly suggest remaining aware of where this topic is being taken.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Stock investing includes risks, including fluctuating prices and loss of principal. No investment strategy can guarantee a profit or preserve against loss. Past performance is not a guarantee of future results. Marc Ruiz is a wealth advisor and partner with Oak Partners and registered representative of LPL Financial. Contact Marc at marc.ruiz@oakpartners.com. Securities offered through LPL Financial, member FINRA/SIPC.
