Article source: Web3 Law
This report, co-authored by Standard Chartered and Synpulse, is a comprehensive overview of real-world asset tokenization in the context of cross-border trade. The report details how tokenization will become a game-changer for global trade, providing unprecedented liquidity, divisibility, and accessibility to investors by transforming trade assets into transferable tools.
Traditional financial assets can experience significant volatility due to macro market influences, while trade assets differ in this regard. Although trade is closely related to the economy, economic downturns will impact bank loans. However, the significant trade finance gap still provides a good opportunity for investors to enter the market, as SMEs continue to require substantial financing even during economic slowdowns, creating ongoing investment opportunities. To some extent, trade assets can withstand global economic downturns.
At the same time, due to the relatively short duration, low default rates, and high financing demands of trade assets, we believe they are better suited to become the underlying assets for tokenization. In addition, the tokenization of trade assets can provide numerous benefits for various participants and processes involved in the complex global trade ecosystem, whether in 1) the payment for cross-border trade funds, 2) the financing needs between trade participants, or 3) leveraging smart contracts to enhance trade efficiency and reduce complexity, ensuring transparency.
Standard Chartered expects that by 2034, the overall demand for tokenization of real-world assets will reach $30.1 trillion, with trade assets becoming one of the top three tokenized assets, accounting for 16% of the total tokenized market within the next decade.
Therefore, we have compiled this report as a reference for market participants and investors. The article explores the transformative power of trade asset tokenization and shares why now is the perfect time to adopt and scale trade asset tokenization. It also examines the four key benefits of embracing tokenization and suggests actions that investors, banks, governments, and regulatory bodies can take now to seize this opportunity and shape the next chapter of finance.
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Real-world asset tokenization: A game changer for global trade
Over the past year, we have witnessed the rapid development of tokenization, reflecting a significant shift towards a more accessible, efficient, and inclusive financial system. In particular, the tokenization of trade assets represents both a transformation in our understanding of value and ownership, as well as a fundamental change in investment and exchange mechanisms.
Through Standard Chartered's successful pilot in the Project Guardian initiative led by the Monetary Authority of Singapore, the feasibility of asset tokenization as an innovative 'originate-to-distribute' structure has been demonstrated, along with the potential opportunities it presents for investors to participate in financing real-world economic activities.
Standard Chartered has further advanced this vision in the Project Guardian initiative, becoming the first to create an initial token issuance platform for real-world assets. They successfully simulated the issuance of $500 million in asset-backed securities (ABS) tokens supported by trade finance assets on the public blockchain Ethereum.
The success of this project illustrates how open and interoperable networks can be used in practice to facilitate access to decentralized applications, stimulate innovation, and promote growth within the digital asset ecosystem. This pilot project demonstrates the practical application potential of blockchain technology in finance, especially in enhancing asset liquidity, reducing transaction costs, and increasing market access and transparency. Through tokenization, trade assets can be accessed and traded more effectively by global investors, transforming trade assets into transferable instruments and unlocking levels of liquidity, divisibility, and accessibility previously thought impossible. It not only provides investors with a new opportunity to balance their portfolios through digital tokens with traceable intrinsic value but also helps close the global $2.5 trillion trade finance gap.
I. What is Asset Tokenization?
As the financial world undergoes rapid digitalization, digital assets stand at the forefront, fundamentally changing how we view and exchange assets. Traditional finance, by integrating with innovative blockchain technology, will lead a new era of digital finance, fundamentally reshaping our understanding of value and ownership.
Before 2009, the idea of transferring value through digital assets was still unimaginable. Value exchange in the digital realm still relied on intermediaries acting as gatekeepers, creating inefficient processes. Although there is controversy in the financial industry regarding the precise definition of digital assets, it is undeniable that they are ubiquitous in our technology-driven lives. From the informative digital documents we use daily to the content we consume on social media, they permeate every corner of our modern existence.
The introduction of blockchain technology changes the game. It is fundamentally transforming financial markets. What was once unimaginable is becoming a reality, and tokenization has become a key element in expanding the digital asset market, shifting it from niche and experimental to widely accepted and mainstream.
Tokenization essentially refers to the process of issuing digital representations of traditional assets in the form of tokens on a distributed ledger.
Tokenization refers to the process of issuing digital representations of real or traditional assets in the form of a token on a distributed ledger.
These tokens essentially serve as digital certificates of ownership, improving operational efficiency and automation. Notably, it closely relates to the concept of fragmentation, where a single asset can be divided into smaller transferable units. However, the most revolutionary aspect is that tokenization enhances access to new asset classes and improves financial market infrastructure, opening doors for innovative applications and entirely new business models in decentralized finance (DeFi).
II. The Development of Tokenization
Tokenization can be traced back to the early 1990s. Real Estate Investment Trusts (REITs) and Exchange-Traded Funds (ETFs) were among the first to realize decentralized ownership of physical assets, allowing investors to own a part of physical assets like buildings or commodities.
Until 2009, the world witnessed the birth of Bitcoin, a digital currency that challenged the concept of traditional third-party intermediaries. It sparked a revolution, followed by the emergence of Ethereum in 2015. Ethereum is an innovative software platform powered by blockchain technology, introducing smart contracts that support the tokenization of any asset. It laid the foundation for the creation of thousands of tokens representing various assets, such as cryptocurrencies, utility tokens, security tokens, and even non-fungible tokens (NFTs), showcasing the potential uses of tokenization in representing both digital and physical projects.
In the following years, we saw a series of new phenomena: initial exchange offerings (IEOs) and initial coin offerings (ICOs). In 2018, the US Securities and Exchange Commission (SEC) coined the term 'security token offering (STO),' paving the way for regulated tokenized offerings and giving rise to solutions compliant with regulatory requirements.
These developments pave the way for real-world asset tokenization to take center stage. They continue to act as catalysts for transformation and technological improvement in the financial services sector, paving the way for ongoing new applications. The financial services industry continues to actively explore the potential of tokenization. Driven by customer demand and the potential opportunities tokenization brings to banks and the global digital economy, financial institutions are increasingly seeking to integrate digital assets into their services.
A major example of such initiatives is the Guardian project, a collaborative effort between the Monetary Authority of Singapore (MAS) and industry leaders, aimed at testing the feasibility of asset tokenization and DeFi applications. These industry pilots will further reveal the opportunities and risks brought by rapid innovations in digital financial tokenization.
Case A: Project Guardian Asset-Backed Securities (ABS) Tokenization Project
Standard Chartered showcased a bold vision in the Project Guardian project: how to advance a safer and more efficient financial network using blockchain. This is a collaboration between MAS and industry leaders, where participating institutions conducted market case studies to design a blueprint for future market infrastructures leveraging the innovative potential of blockchain and DeFi.
Standard Chartered has taken this vision further by pioneering a token issuance platform for real-world assets, successfully simulating the issuance of $500 million in asset-backed securities (ABS) tokens supported by trade finance assets on the public blockchain Ethereum. Through this initiative, Standard Chartered tested the end-to-end process from creation to distribution, including simulating default scenarios.
Tokenization: Trade finance receivables are tokenized in the form of non-fungible tokens (NFT).
Risk-based Allocation: These NFTs are structured based on expected risks and returns (Senior and Junior Tranche), ensuring strict cash flow allocation.
Fungible Token Creation: Based on the underlying asset's NFTs and structured design, two types of FT tokens are created. Senior FT tokens offer fixed returns, while Junior FT offers excess spreads.
Distribution and Access: Finally, these tokens are distributed to investors through ITO.
Project Guardian successfully demonstrated how to use open and interoperable blockchain networks in practice to facilitate access to decentralized applications, stimulate innovation, and promote the growth of the digital asset ecosystem. Use cases can extend to the tokenization of financial assets such as fixed income, foreign exchange, and asset management products, enabling seamless cross-border trading, distribution, and settlement.
At the same time, through the tokenization of financing needs in cross-border trade scenarios, this new digital asset class has been introduced to a broader investor base, helping to improve liquidity in the trade finance market.
III. What else can we see beyond trade asset tokenization?
Tokenization is not just about creating a new way to invest in digital assets and bringing much-needed transparency and efficiency to trade finance; it also allows for deeper participation in trade finance, simplifying the complexity of supply chain finance.
Credit transmission: Typically, trade finance is only available to established tier-one suppliers, while deeper suppliers—smaller SMEs in the supply chain that often lack scale—are frequently excluded from trade financing. Through tokenization, the overall resilience and liquidity of supply chains can be increased by enabling SMEs to rely on the credit ratings of anchor buyers.
Creating liquidity: There is often much talk about how tokenization can unlock significant potential, especially in inefficient and illiquid markets. There is a growing consensus that investors are inclined to adopt tokenized assets due to reduced transaction costs and increased liquidity. For institutional suppliers, the appeal seems to lie in attracting new capital, improving liquidity, and streamlining operational efficiency.
In addition, Standard Chartered believes that the true transformative power of tokenization is much greater. The next three years will be a critical juncture for tokenization, with new asset classes being rapidly tokenized, and trade finance assets occupying a central position as a new asset class. Industry development is reaching a new level, and public utilities will yield greater returns than isolated efforts.
To provide channels for accessing new asset classes, banks play a key role in providing trust and connecting existing traditional financial markets with new, more open, token-supported market infrastructures. Maintaining trust is fundamental to verifying the identities of issuers and investors, conducting KYC/AML checks, and granting credentials to participate in this new interoperable financial ecosystem.
Standard Chartered envisions a future where traditional markets coexist with and eventually merge into tokenized markets, creating an urgent need for an open and permissioned multi-asset and multi-currency digital asset infrastructure to complement traditional markets. Unlike past closed-loop markets, ownership and utility are shared by a broader range of market participants, striking a balance between inclusivity and security. Such infrastructure can not only promote efficiency and innovation but also address current industry pain points, such as duplicate investments and isolated, fragmented development that hinder growth and collaboration.
IV. What is Driving the Tokenization of Trade Assets?
Because tokenization has brought unprecedented liquidity, divisibility, and accessibility to asset classes that have been viewed as complex over the past decade, the current macro and banking environment has become a catalyst for adoption.
4.1 SMEs: Unlocking Trillions of Dollars in Opportunities to Address the Trade Finance Gap
Standard Chartered expects global trade to grow by 55% over the next decade, reaching $32.6 trillion by 2030. Digitalization, the expansion of global trade, increased market competition, and strengthened inventory management are factors driving this expansion. However, there is a significant gap between demand and supply for trade finance, particularly for SMEs in developing countries.
The trade finance gap has been increasing sharply—from $1.7 trillion in 2020 to $2.5 trillion in 2023. This growth represents a 47% increase in demand. This is the largest single-period increase since the metric was introduced, with multiple factors, including COVID-19, economic difficulties, and political instability, making it harder for banks to approve trade financing.
Additionally, the International Finance Corporation (IFC) estimates that 65 million enterprises in developing countries (accounting for 40% of formal micro, small, and medium enterprises (MSME)) have unmet financing needs. While the plight of SMEs and micro-enterprises is widely acknowledged, a key sub-segment remains overlooked: the 'missing middle'.
The 'missing middle enterprises' or mid-market companies (SMEs) are a group that investors find difficult to access. SMEs are positioned between large investment-grade enterprises and small retail and micro-enterprises and are particularly active in rapidly growing regions like the Middle East, Asia, and Africa. They represent a large and untapped market, providing significant opportunities for investors.
This investment opportunity is also capable of withstanding economic downturns. Since trade is closely related to the economy, economic recessions will impact bank loans. However, the significant trade gap presents a good opportunity for investors to enter the market, as SMEs still require substantial financing even during economic slowdowns, creating ongoing investment opportunities.
It is also worth noting that, according to Asian Development Bank data, the $2.5 trillion global trade finance gap represents 10% of all trade exports. Since current trade finance covers 80% of today's exports, another 10% may represent additional undisclosed trade finance gaps, as companies either do not seek such financing or cannot access it. This means that the total undisclosed trade finance gap could reach a potential total opportunity of $5 trillion.
4.2 The Rich Market Not Yet Explored by Investors
Trade finance assets are attractive but under-invested. They generate strong risk-adjusted returns and possess some unique characteristics.
Allows for risk diversification. Transaction assets have short durations and self-liquidating characteristics, seen as low-risk investments with relatively low correlations to stock and bond markets. This makes them a more stable asset class while still providing strong risk-adjusted returns.
Wide range of investment options. There is a variety of transaction assets available to meet specific risk preferences of investors. Coupled with hard-to-access emerging markets and frontier markets like Ghana, Côte d'Ivoire, Bangladesh, or Saudi Arabia, this asset class can cater to a broad spectrum of investors.
Low default risk and high recovery rates. Most importantly, trade finance assets have an impressive track record. Compared to public credit, the default rates for trade finance are relatively low, and the recovery rates upon default are higher, indicating that the risk-adjusted return rates of trade assets outperform other debt instruments.
Despite insufficient investments from institutional investors in such assets due to a lack of understanding, inconsistent pricing, lack of transparency, and operational intensity, tokenization can help address these issues.
4.3 Banks are incentivized to adopt tokenization and utilize blockchain-based digital origination distribution models to unlock capital in frontier markets.
Basel IV is a comprehensive set of measures that will have a significant impact on how banks calculate risk-weighted assets. Although full implementation is not expected until 2025, banks will need to devise growth strategies under Basel IV by modernizing their distribution business models.
Through blockchain-based digital origination, banks can derecognize assets from their balance sheets, thereby reducing regulatory capital to cover risks and facilitating efficient asset origination. Banks can leverage tokenization to distribute trade finance tools to capital markets and emerging digital asset markets. This 'digital origination distribution' strategy for their trade finance assets can enhance banks' equity returns, expand funding sources, and increase net interest income.
The global trade finance market is vast and well-positioned for tokenization. Most trade finance assets between banks can be tokenized and converted into digital tokens, allowing global investors seeking returns to participate.
4.4 Real Demand Drives Growth
According to an EY Parthenon report, the demand for tokenized investments is expected to soar, with 69% of buying companies planning to invest in tokenized assets by 2024, up from 10% in 2023. Additionally, by 2024, investors plan to allocate 6% of their portfolios to tokenized assets, increasing to 9% by 2027. Tokenization is not a fleeting trend; it represents a fundamental shift in investor preferences.
However, the supply side of the market is still in its infancy, with the total value of real-world asset tokenization (excluding stablecoins) expected to be around $5 billion by early 2024, mainly involving commodities, private credit, and US Treasury bonds. In contrast, Synpulse estimates that the reachable scale, including the trade finance gap, could reach $14 trillion.
Based on current market trends, Standard Chartered expects that by 2034, the overall demand for tokenization of real-world assets will reach $30.1 trillion, with trade finance assets becoming one of the top three tokenized assets, accounting for 16% of the total tokenized market within the next decade. As demand may exceed supply in the coming years, there is potential to help address the current $2.5 trillion trade finance gap.
V. Four Benefits of Embracing Tokenization
Asset tokenization has the potential to transform the financial landscape, providing increased liquidity, transparency, and accessibility. While it holds promise for all market participants, realizing its full potential requires a collective effort from all stakeholders.
Trade finance stimulates the global economy, but traditionally, these assets have primarily been sold to banks. Tokenization opens the door to a broader investor base and ushers in a new era of growth and efficiency.
5.1 Improving Market Access
Today, institutional investors are eager to enter new, fast-growing markets. Emerging markets can be an attractive option for diversified investments. However, due to a lack of necessary local expertise and effective distribution networks, investors are unable to fully capitalize on the opportunities presented by emerging markets.
This is precisely where the advantages of tokenization lie. By distributing trade finance assets through digital tokens, banks can increase net interest income and optimize capital structures, while investors, companies, and communities relying on trade finance can benefit from increased accessibility. A close examination of Standard Chartered's early collaboration with the Monetary Authority of Singapore on Project Guardian can highlight the transformative power of tokenization. This pilot demonstrates how an open, interoperable digital asset network can unlock market access and allow investors from different ecosystems to participate in this tokenized economy, paving the way for more inclusive growth.
5.2 Simplifying Trade Complexity
Due to the multi-party and cross-border nature of global capital and goods trade flows, trade finance is often seen as a complex scenario. This asset class has a relatively low level of standardization, with varying ticket sizes, timings, and underlying commodities, making it difficult to invest at scale.
Tokenization provides a platform to address this complexity.
Tokenization is not just a new way to access investments; it is also a catalyst for deep financing. Traditionally, trade finance has only been available to established tier-one suppliers, while 'deep' suppliers are often excluded from trade finance. As a solution, token-supported deep supply chain financing can eliminate complexities.
In addition to bringing much-needed transparency and efficiency to trade finance, tokenization can also enhance the overall resilience and liquidity of supply chains by enabling SMEs to rely on the credit ratings of anchor buyers.
Case B: Project Dynamo: Utilizing Digital Trade Tokens to Address Trade Complexity
The Project Dynamo initiative is a collaborative project between Standard Chartered, the Bank for International Settlements Hong Kong Innovation Hub, the Hong Kong Monetary Authority, and technology companies, exemplifying the use of digital trade tokens to resolve trade complexities.
This collaborative effort has resulted in the development of a prototype platform where major buyers use tokens to make programmable payments to suppliers throughout their supply chain. Smart contract technology is used to automatically execute and redeem these tokens based on specific events (such as triggering eBL or ESG conditions), facilitating efficient and transparent trade processes. Major buyers can also use tokens to make conditional payments to their SME suppliers, where tokens are only redeemed for cash upon meeting predetermined conditions (such as delivery proof or electronic bill of lading).
Token holders also have various ways to handle tokens. They can hold tokens, sell tokens for financing, or use them as collateral for loans. Ownership transfer through tokenization provides deeper suppliers with greater flexibility in managing funds efficiently.
Its benefits are not limited to individual participants. Digital transaction tokens are issued in the form of 'stablecoins' and are supported by dedicated bank capital or bank guarantees. Combined with the programmability and transferability provided by blockchain infrastructure, institutional investors have increased confidence in investing in SMEs and supply chain financing (previously considered high-risk areas).
The Project Dynamo initiative is just the beginning. It lays out a blueprint to address the challenges that suppliers (especially SMEs) face in accessing deep supplier financing by providing more adaptive and efficient financing and payment methods. Ultimately, it creates a new financing channel for those previously unable to access traditional financing options.
Case C: Optimizing Trade Processes/Financing Using Programmable CBDC
While tokenization brings exciting possibilities for addressing the complexities of the trade ecosystem, the programmability of central bank digital currencies (CBDCs) also introduces another game-changing factor. These digital versions of fiat currency issued by central banks can utilize the auto-execution features of smart contracts to achieve programmable transactions, further simplifying trade and supply chain financing processes.
Imagine a scenario where a well-credit-rated large company (anchor buyer) has a network of suppliers, many of whom are SMEs that struggle to obtain loans. With programmable CBDCs, the anchor buyer can instruct their bank to program future payable CBDCs and directly distribute them to suppliers, who can then use these CBDCs to improve operational capital efficiency or pay deeper-tier suppliers.
This streamlined process offers numerous advantages for deep supply chain financing:
Enhanced flexibility: Deep suppliers can use digital currencies as collateral for borrowing fiat currencies, unlocking new financing options and improving operational flexibility.
Smoother credit assessments: Banks can simplify the credit assessment process for SMEs by leveraging customer information collected through payment data, reducing operational costs and risks faced by banks when collecting data.
Scalability and transparency: CBDCs make SME operations more scalable, allowing all parties in the supply chain to report on ESG management and sustainability more easily.
Stability and confidence: On a broader scale, CBDCs enhance the stability and transparency of the entire supply chain.
In the scenarios above, smart contracts play a crucial role in helping to automate payment and financing processes:
Pre-Defined Contract: By leveraging smart contracts, CBDCs can be programmed to combine payment and trade information, becoming a new trade finance tool.
Purpose-Bound Payment: Deep suppliers that do not meet credit requirements can use tokens as collateral to obtain financing related to the issuance purpose.
Purpose-Bound Financing: Such CBDCs can be passed on by anchor buyers to their suppliers, who can immediately use them as a form of payment to deep suppliers.
Obligation Fulfillment: Once the conditions in the smart contract are met, the smart contract will execute autonomously, and CBDC restrictions will be lifted automatically.
5.3 Digital Securitization
While traditional finance effectively securitizes trade assets into financial products, this only applies to a limited subset of assets, such as working capital loans and import-export financing assets. Tokenization significantly expands this investable asset set.
Due to the short duration of trade assets, the entire process is operationally inefficient, and comprehensive management solutions are needed to track the underlying assets, assess performance, and determine funding and payments.
These can all be effectively addressed through the programmability of tokenization and smart contracts, combined with the complexity and diversity behind AI automation. By automating processes, data management can be simplified and automated. Each token is traceable as it is linked to receivables. This aids in status monitoring, minimizes human error, enhances transparency for all parties involved, and supports the assessment of receivables and financing amounts.
Programmability also simplifies the process of transferring ownership during transactions, enhancing trading efficiency.
Since tokenization involves standardizing representations of receivables, it creates a common language that makes receivables management across jurisdictions more straightforward.
5.4 Reducing Information Asymmetry
Utilizing blockchain to trace underlying assets helps reduce information asymmetry between issuers and investors, thereby enhancing investor confidence.
Establishing a listing framework for tokenized assets is an important step in encouraging adoption and enhancing investor confidence, making it easier for investors to access the relevant information needed for due diligence through public disclosure of issuance documents. Token listings can also ensure that issuers maintain a certain level of transparency and meet regulatory disclosure requirements, which is crucial for many institutional investors.
Today’s investors are more sophisticated, demanding higher transparency and control. We will soon see tokenized products becoming a new way to reduce information asymmetry. In addition to representing the underlying assets, tokens can also contain additional features, including providing online access to operational and strategic data derived from the aforementioned assets. For instance, in the tokenization of working capital loans, investors can access operational parameters of the underlying businesses, such as profit margins or potential customer numbers in sales channels. This model has the potential to enhance investment returns and elevate transparency to a new level.
VI. How to Participate in the Tokenization Market?
Asset tokenization has the potential to transform the financial landscape, providing greater liquidity, transparency, and accessibility. While it offers hope to all market participants, realizing its full potential requires a collective effort from all stakeholders.
6.1 Adoption
For institutional investors seeking to access new asset classes or enhance returns, tokenization can provide more specific and differentiated solutions to meet their clients' specific risk-return profiles and liquidity preferences.
Family offices and high-net-worth individuals (HNWI) can benefit from a more effective wealth growth approach through diversified and transparent product structures, unlocking previously inaccessible opportunities.
To seize this investment opportunity, investors should start from a solid foundation. Since this is an emerging and evolving field, it is crucial to understand the new risks; therefore, starting with education to build expertise is vital.
For example, participating in pilot programs will allow investors and asset managers to experiment and build confidence in tokenized asset allocations.
7.2 Collaboration
The industry is at a turning point of fully embracing asset tokenization. Collaboration across the market is crucial to realizing the benefits of tokenization. Overcoming distribution challenges and achieving better capital efficiency requires collaborative efforts. Banks and financial institutions can expand their reach through collaborative business models, such as developing tokenized industry utilities. Similarly, intermediaries like insurance companies can act as alternative distribution channels, broadening market access. Recognizing the transformative impact of tokenization on capital efficiency and operational efficiency, the industry must unite to leverage the power of shared infrastructure.
Beyond financial institutions, a broader ecosystem including technology providers and other participants must collaborate to create a supportive environment. It is crucial to achieve interoperability, legal compliance, and efficient platform operations through standardized processes and protocols.
Tokenization efforts are currently in their infancy and fragmented, with an urgent need for industry-wide collaboration to address these critical issues, combining the robustness of traditional finance (TradFi) with the innovation and agility of DeFi. This strategy will pave the way for a more stable, unified, and mature digital asset ecosystem, balancing technological advancement with regulatory consistency and market stability.
7.3 Promote
Finally, not only market participants, but also governments and regulatory bodies play a key role in promoting the responsible growth of the digital asset industry. By formulating policies that encourage global trade and support communities (such as job creation), they can promote industry development while reducing risks.
A clear and balanced regulatory framework can facilitate innovation while guarding against the pitfalls that have emerged in the crypto space.
Establishing public-private partnerships with banks and other financial institutions is also crucial. These partnerships can accelerate industry development by promoting responsible and sustainable growth.
Through this collaboration, regulators can ensure that the growth of the digital asset industry benefits the economy, enhances global financial integration, creates jobs, and maintains market integrity and investor protection.
Report link:
Real-world asset tokenization: A game changer for global trade by Standard Chartered & Synpulse
https://www.hkdca.com/wp-content/uploads/2024/07/rwa-tokenization-game-changer-global-trade-synpulse.pdf
