Kepler Finance: 2019 Digital Securities Market Research Interview
By: Kepler Finance
Compilation: Ran & Kiki @Bawei Research Institute
Securities Digitization
Traditional finance has not experienced massive disruption until now, and industry players need to find innovative ways to scale. Asset digitization (also known as tokenization) is creating a new user experience. For example, by using digital assets, stake holders can sell private equity on an exchange on-demand—without having to lose money because their funds are locked up for years.
The new technology improves the ease of transactions - known as "liquidity". It does not directly affect the financial securities themselves, but it changes the management of ownership and automates the post-investment process.
However, the current digitization process may bring unknown risks. That is why we have enriched our survey analysis with a series of interviews with some of the leading companies in the digital securities market. We interviewed distribution platforms and liquidity providers, custody service providers, legal advisors, issuers and investors in hopes of providing you with more context.
market ecosystem
Like all successful companies, successful ecosystems go through different stages of development. The digital securities market faces these big questions in 2018: Will these assets end up being the new normal for a more reputable ecosystem? Can it attract a lot of money? Why are STOs often a better way to raise capital?
Based on research, we give answers to these questions through a series of milestone events:
The digital securities ecosystem is a combination of several elements that constitute the entire process of a digital securities from creation to trading. These elements include: Token Issuance, Legal Validation, Regulatory Compliance, Asset Custody, and Token Trading Liquidity. All these processes will be automated.
Smart contracts (Protocol, also known as agreements) are the basis for the successful operation of the entire system. The contract ensures that the issuance of tokens complies with the regulatory exemptions applicable to financing. It can manage "who can transact with each other" and "who can hold tokens". If there is a violation of the law, the contract can also reject the violation more effectively than the traditional ecosystem.
Securrency, is developing an interoperable multi-ledger contract to maintain on-chain and off-chain compliance. It enables interaction between traditional systems and DLT (distributed ledger). In most cases, companies focus on developing distribution platforms, token protocols, or secondary market trading tools. And some have a complete end-to-end platform where all parties can interact on a global scale.
As digital securities find success in financial markets, the infrastructure begins to take shape. Investors are taking action, pouring big bucks into projects that support the issuance, exchange and custody of digital securities.
Harbor, which provides an online platform and compliance protocols for private securities to issue and trade on the blockchain, raised $28 million from Silicon Valley venture capital firms. Securitize, a project dedicated to tokenizing traditional assets, raised $12.75 million. According to the Kepler financial database, more than $640 million has been invested in technology companies aiming to mainstream the digitization of assets and securities, and a global network of partners is in the early stages of development.
Interviews with industry service providers
Here's what market pioneers have to say about the various roles in the emerging ecosystem:
Scott Purcell, CEO and Chief Trust Officer, Prime Trust
“In the future, we will see more broker-dealers, exchanges, investment advisors, more lawyers, and more portals including securities tokenization. In 2019, the market will become more professional and bigger , more dynamic."
Graeme Moore，Evangelist at Polymath
“Polymath is not an investment platform, Polymath is a platform that makes it easy to create security tokens with built-in transfer terms and use the audited smart contracts we built to enforce your own security token offerings. Investors do not invest directly in the Polymath platform. Instead, the company will be responsible for the sales process, which can be done directly through the company, a broker-dealer or an investment platform.”
Patrick Campos, Chief Strategy Officer, Securrency
“We are not a broker-dealer. We are a technology platform and we simply provide companies with the tools to allow them to conduct end-to-end compliant token issuances and manage them in a compliant manner after issuance. Tokens. The platform itself, the technology itself, is more efficient than the traditional way of issuing. You have to go through KYC and AML, and all these processes will be automated.
Digital Securities Market: Statistics and Insights
Secutity Token Offering is not a new version of ICO. It is a traditional financial instrument offered in a more efficient digital form. A company planning to issue ST should not think that it will be listed immediately, and millions of investors all over the world will rush to buy ST for trading like buying ICO.
The process of token registration and issuance is not straightforward and takes months of time for key stakeholders. Kepler Finance analyzed two complete cases:
No doubt we will see many more deals that are successfully completed. According to data from the Kepler Financial Database, 32 digital securities products have been announced to be listed on distribution platforms such as Polymath and Neufund. From the chart below, we see that the majority of issuers announcing upcoming deals are based in the US, as the infrastructure there is now well developed. Germany has the opportunity to become the blockchain hub of Europe, as major market players such as Neufund are engaged in heavy lobbying campaigns aimed at democratizing equity funding.
Divided by the amount of financing (unit: mln, million dollars)
by country of issue
By Industry
Interview with ST Issuer/Financing Party
Digital security issuance is a new form of financing and companies face various unknown challenges - so we interviewed token issuers why they decided to raise funds in this way:
Andor Merkulovs, CEO of Monetizr
"The main factor for choosing STO is to consider "execution cost" and "full process management". IPO requires a lot of resources (time, money and a lot of paperwork) and is not suitable for startups. Smart contracts can help us handle automatic dividend payments, etc. For daily affairs, KYC for investors can also be done to further reduce management costs. Blockchain technology improves security and transparency and the ability to conduct audits at any time. We believe that these functions will make the company more compliant.”
Jason Kirschenbaum, Managing Director, Elevated Returns & Aspen Digital Inc.
“STO is more cost-effective than IPO. It can reach a wider investor network because it is a global product. DLT allows investors to track their investments, and it is easier to sell part of their ownership through ST.”
Chris Eberle, COO, Swarm
“Before deciding on the process of tokenizing an asset, a potential token issuer must consider the following important questions:
Asset Type: The asset type may affect the ST's structure.
Jurisdiction: where the issuer is incorporated, where the target investors are located, the physical location of the underlying assets and any restrictions related to where the transaction is processed.
Legal Entity: Determine the ideal corporate structure and legal incorporation for a legal entity (LLC, SPV, partnership, etc.).
Regulatory compliance: In each jurisdiction, collateral is regulated by law, and different laws stipulate who can participate in the issuance, require the legality of its source of funds, and determine the complexity of asset certification or investor certification.
Funding: Whether ST purchases (and capital allocations) are limited to cryptocurrencies, or fiat currencies are accepted, and funding avenues.
Marketing: Promoting to your target audience in relevant markets is critical to successful fundraising.
Custody: For large institutional investors, it is very important to ensure the safe storage of funds.
Secondary Market Trading: Secondary market trading of securities is strictly regulated in most jurisdictions.
Post-distribution considerations: investor community management, dividend payments, periodic reporting and NAV updates, audits, taxation, governance"
We interviewed the first batch of STO companies to find out how they promote ST products:
Andor Merkulovs, CEO of Monetizr
“We promote it through our marketing channels. Since digital securities is a fairly new term, it takes a lot of effort to explain what it is. We use our own channels such as blogs and social media, media interviews and presentations to educate the market. We not only Targeting the crypto community, but also targeting the gaming industry. Because gamers are already familiar with virtual currencies, the learning curve is lower and it’s easier to get their attention.”
Jason Kirschenbaum, Managing Director, Elevated Returns & Aspen Digital Inc.
“We created buzz around our product by hiring Indiegogo (equity crowdfunding platform) as our marketing agency and also using other media outlets.”
barriers to market entry
The industry looks promising in the future, but companies willing to enter the market still face various challenges:
Andor Merkulovs, CEO of Monetizr
"First, there is a learning curve for security tokens that needs to be overcome. This applies not only to the team itself, but also to investors. Some investors are uncomfortable in the unknown, so you need to be aware and be prepared to educate them. The second main disadvantage is uncertainty. If we look at this from a legal perspective, all the frameworks and regulations are still being prepared. Although it is a new asset class, it still operates under the old laws, which may cause Some conflicts. We see that this will be a long process, and the uncertainty is also reflected in the infrastructure. Although we are actively promoting the establishment of laws for ST transactions, the entire ecosystem is still in its early stages.”
Graeme Moore, Polymath Evangelist
“The main barriers to creating and issuing STs that we see today are fundraising and legal work. With Polymath, you can easily create STs in 10 minutes, so there are tools at the technical level, but what still takes a lot of time is the company’s Fundraising and legal work."
Jor Law，Co-Founder at VerifyInvestor.com
“Many jurisdictions outside the US lack the legal and regulatory framework to enable ST offerings. In the US, since ST offerings are by definition securities, STOs must follow the same rules as traditional securities offerings and are subject to the SEC’s Regulation. Legal and regulatory aside, the barriers to entry are:
1. High transaction costs of emerging fundraising methods. Will decline as more legal, tokenization technology service providers emerge.
2. Investors' awareness and acceptance of STO. In particular, investors must be accredited investors. "
Henry K. Elder, Co-Founder, Digital Asset Advisors
“Industry constraints are obvious, with clear bans in some countries and uncertain regulation in others. The US SEC hinted in 2017 that most token products are securities, which prompted sensible players to explore exemptions early in the ICO boom (exemption). This led to BCAP and Science token sales, providing a blueprint for future compliant products. Overall, there is still a lack of institutional infrastructure that would allow large money managers to commit significant capital to this new asset class. The recent opening of Open Finance’s trading system to the public, Nasdaq’s commitment to building a security token exchange, and Fidelity’s efforts to build an institutional custody service should fill these gaps.”
Patrick Campos, Chief Strategy Officer, Securrency
“For issuers, I think there may be fewer barriers to entry because using this technology will help reduce costs and really simplify the capital formation process. For their financial advisors, broker-dealers or It's much easier for other licensees to raise capital using this technology. In the past, if you wanted to raise $10-30 million, you really needed to go through an investment bank, and the fees were high. Now, the ease and efficiency of the technology can It lowers the expense and makes it easier to bring these types of small products to market."
Ami Ben-David SPiCE VC Co-Founder and Managing Partner
“Market education. ST was born out of the crypto market, so our challenge is to educate people that compliant tokenized securities are not only compliant, but even better, they are regulated, which means they not only meet current Any erroneous transactions in the code are also automatically blocked if required by regulations.
The first major hurdle is the deployment of regulated exchanges and trading platforms. There are dozens of such regulations around the world, but it takes about a year to complete the regulatory process, less than a year for the ST industry. This barrier will be broken in Q1/Q2 2019. The next hurdle will be improving regulation - we can use existing regulations, but they were not designed for digital trade. The third hurdle is the scalability of the platform, which several technology companies are working hard to solve in case the market scales up. "
legal perspective
Codifying the rules of local and global markets by digitizing securities and using smart contracts to automate the enforcement of financial market regulations is a very powerful concept. It will take time, but this is the direction of development. Based on what has been achieved throughout 2018, we want to show where the evolution is going next.
In an ever-evolving market, it is also important to know which countries have the most STO-friendly legislative frameworks. We interviewed Adv. Ziv Keinan, co-founder of Security Token Lawyers:
Adv. Ziv Keinan, Co-founder of Security Token Lawyers
“STOs are very different from ICOs because if executed correctly, there is almost no regulatory risk. You can think of STOs as private placements in the form of electronics. This means that you can sell private placement securities in every jurisdiction that allows the sale of private placements. STs are issued within the region, including the US and the EU. Having said that, there are many other considerations beyond securities law compliance. For example, some banks will not accept cryptocurrencies, which means that if your STO accepts cryptocurrencies, then you One should find a crypto-friendly bank. Other considerations are taxes. Trading and liquidity of STO tokens raises some issues that have not been fully resolved so far.
We asked experts which countries are likely to see the most STOs in 2019. Here's what they had to say:
Margaret Rosenfeld
Lead of Blockchain Technology Practice at Smith Anderson
“ST product structures can be complex and companies should carefully evaluate jurisdictions for inclusion as potential tax and accounting issues could impact the company and investors. limited partner interests), but to provide financing for companies planning to use blockchain technology as an integral part of their operations, it is critical to choose a jurisdiction that supports blockchain technology: whether the country provides blockchain companies with Incentives, creating positive legislation and attracting the necessary service providers to support the blockchain ecosystem? The leader in this space now seems to be Malta.
Adv. Ziv Keinan, Co-founder of Security Token Lawyers
“We may see some STOs come out of the US. The infrastructure there is well developed. Also, Singapore, Cayman Islands, Switzerland, UK and Germany.”
Millbrook Accord Millbrook Accord
In order to promote the development of the Security Token (ST) industry, it is necessary to build a global industry self-regulatory standard. With this in mind, a working group, The Millbrook Accord, was formed at the 2018 Blockchain Summit in New Zealand, led by Techemy. They promote a common framework to facilitate interoperability in the security token (VTF, Verified Token Framework) market.
We hope that the more players in this field, the better. The establishment of VTF can pave the way for the next step in the development of the blockchain industry.
Outlook for 2019
David Weild IV
Chairman and CEO of Weild & Co, former Vice Chairman and Executive Vice President of the Nasdaq Stock Market
“Tokenization of securities and chartered securities will continue to grow at a steady rate. Its process will accelerate when the following conditions are met:
1. Major stock exchanges begin to list ST (such as Nasdaq, New York Stock Exchange, London Stock Exchange, Deutsche Börse, Hong Kong, Singapore, etc.)
2. Major Wall Street companies join the competition as underwriters, dealers and their agents, and retail customers hold access to their securities accounts.
3. Trusteeship. At the same time, we will see a lot of small entrepreneurs investing in banking (e.g. Weild & Co) and ATSs (e.g. Templum, INX), regulators (e.g. SEC and FINRA). These entities may eventually be acquired by larger companies that enter later. "
Andor Merkulovs, CEO of Monetizr
“Next year we could see key ecosystem parts maturing, especially institutional services like regulation, lending and banking services, which generate more interest from institutional players. The SEC and other regulators around the world A committee is being formed to define how everything financial should work. Investors will feel safer after we have legal confirmation and will start looking into using this digital asset. Overall next year we will see all platforms and exchanges Everything will start."
Ami Ben-David SPiCE VC Co-Founder and Managing Partner
“Key to 2019 is the deployment of regulated exchanges and trading platforms on a global scale. Once this important piece of infrastructure is in place, the market will begin to grow rapidly. At the end of 2019, we will start to see second-generation protocols further Improve. We are seeing a gradual improvement in the learning curve among institutional investors - people at the highest levels are now starting to realize the huge potential of securities digitization. In 2019, we will see the digitization of equity and debt securities of all types of companies. More Specifically, real estate tokenization will be a major area.”
Patrick Campos, Chief Strategy Officer, Securrency
"You're not going to see the same crazy spike that you had with ICOs in 2017. What you're going to see is the market growing in a more meaningful way. Amateurs are sort of being pushed out, but professionals are here to stay - and I mean not only Just traditional banks because I think there will be a lot of new players, but very established. In most jurisdictions, when you issue a private equity or debt instrument, it's not tradable for a period of time. In many jurisdictions Jurisdiction, there's a moratorium period. So if I buy that security, I'll have to wait at least six months or a year. When they open up trading, it won't be at the high frequency that these cryptocurrencies are trading. It's going to be a healthy And a vibrant market.”
Glossary
Financial Security - A tradable financial asset that derives its value through a contract to a real or intangible underlying asset. For example, commodities and property are real assets, but commodity futures, exchange-traded funds (ETFs), and real estate investment trusts (REITs) make up financial assets whose value depends on the underlying real assets. Financial assets are generally more liquid than other physical assets, such as commodities or real estate, and can be traded in financial markets. In general, securities represent investments and are the means by which corporations and other business enterprises raise capital.
Derivative - A financial instrument whose value is derived from the value of the underlying security. Derivatives are themselves contracts between two or more parties, the price of which is determined by fluctuations in the underlying asset. The most common derivatives include options, futures contracts, forward contracts, swaps, mortgage-backed obligations (CMOs), rights and warrants.
Securities digitization - is the process of creating derivative instruments in the form of blockchain tokens, representing rights to financial securities (underlying).
Digital Securities (also known as Security Tokens, ST) - represent rights to financial securities. Transactions with tokens recorded on the distributed ledger cannot be reversed or deleted. Access to information can be customized according to the ledger DLT (public, private or hybrid chain).
Compliance Ecosystem - The whole set of procedures, actions, activities, processes and parties that ensure that a financial services business complies with statutory rules and regulations, as well as internal controls. Digitizing securities and using smart contracts can automate the enforcement of applicable financial market rules and regulations.
Issuer of Digital Securities - A legal entity that offers digital securities directly to investors to finance its operations. Issuers are legally bound by the offering rules, representation and reporting requirements and other covenants related to finance, material development and any other business activities required by applicable regulations.
Digital Securities Offering (“DSO” or “STO”) - a type of fundraising that uses digital securities as a vehicle to raise capital within a fully compliant ecosystem.
Digital Securities Issuance Platform - A technology platform that provides issuers with the tools to execute DSOs based on the platform's security token standards.
Liquidity - The degree to which an asset or security can be bought or sold quickly in the market without affecting the price of the security. Market makers increase the liquidity of securities in secondary markets.
Market Maker - is a bank, brokerage firm or a person who is always ready to buy and sell securities. Without market makers, it takes a considerable amount of time for buyers and sellers to match each other, reducing liquidity and potentially increasing transaction costs as it becomes more difficult to enter or exit positions.
