The Impact of Security Tokens on Traditional Stock Exchanges

By Monica Singer, Blockchain Evangelist at ConsenSys 

With the advent of new, decentralised technologies and an emphasis among millennial investors on real-time transactions and mobile trading, the longevity of traditional stock exchanges is being called into question.

Monica Singer

Security tokens—a brand new category of cryptocurrency—is set to play a major role in the coming years, removing costly third-party middlemen from the transaction equation. 

So, what are security tokens and how are they causing the influence of traditional stock exchanges to wane?

 What are security tokens?

Traditional securities are tradable financial assets including bonds, notes, options, or shares (stocks). Companies and governments use securities to raise money in capital markets from multiple investors. These investors expect a return on their investment in the form of dividends, interest rates, or profit-sharing.

Digital tokenisation is not new – investors can currently buy and sell digitally configured stocks that represent ownership in a company. But even with the ability to digitally represent the physical world, we are unable to transact digital goods without a third-party middleman providing the seller and buyer with the trust and affirmation needed to execute a transaction.

Asset tokenisation is the representation of assets on the blockchain in the form of tokens, which are designed to be unique, liquid, secure, instantly transferable, and impossible to counterfeit.

Security tokens are a brand new cryptocurrency category, built for the purpose of removing the third-party middleman from a transaction. This third-party middleman is the main cause of risk, fees, and delays in non-peer-to-peer transactions.

Moving beyond traditional stock exchanges

Tokenisation on the blockchain allows physical and digital assets to be represented by divisible, traceable, secure units of ownership. For assets that have proven stubbornly illiquid in the past, this allows them to become liquid, transactable, and investible at smaller units of value—opening up brand-new investment markets and opportunities.

Digital asset markets are entering a new stage of evolution, with a broader range of retail and institutional participation. Security tokens can successfully bridge digital assets and traditional markets.

New digital currencies, commodities, and security tokens are successful in targeting millennials who want to transact in real-time with their mobile phones without trading fees. Why would this generation be attracted to investing in equities listed on a traditional stock exchange when they’re already investing in digital goods?

It’s not surprising that the number of listings on traditional exchanges is reducing and the liquidity is slowly drying. The new investors are interested in cryptocurrencies and other cryptoassets, that don’t require a middleman. Companies like Coinbase, EToro, Binance, Robinhood, and others are growing at rates that are surpassing traditional exchanges and other financial institutions. In the U.S., for example, Coinbase has more users than Charles Schwab.

Traditional stock exchanges will experience rapid deterioration, with so many other ways for investors to get a return on investment in diversified products. For companies seeking funding, there are new ways to raise capital through security tokens that don’t require conducting an initial public offering to get listed on a traditional exchange.

Thedigital transformation of financial markets is long overdue. This will involve natively digital assets issued and transferred on secure, shared ledgers, rather than analog asset management systems that still use paper stock certificates or centralised databases.

Much of the cyber risks of financial market infrastructures that centralise their records of ownership of investors in the market can be mitigated by decentralised technologies. Decentralised ledgers, which are physically as well as logically decentralised, eliminate that risk.

Blockchain networks, like Ethereum, offer a single immutable ledger on which all records are kept and can be accessed by any member in the network. Additionally, the distributed nature of the ledger ensures that it is harder to hack and more resistant to corruption or tampering.

The future of financial markets

Just as the Internet and digital records transformed financial markets, there will be a natural integration of blockchains into stock exchanges over the next decade.

We’re already seeing this change manifest itself. Last week, the London Stock Exchange Group’s technology solutions provider announced that their matching engine, being used in London and Johannesburg Stock Exchanges, has successfully been deployed as part of the go-live of the AAX digital asset exchange.

As both investors and those seeking investment begin to understand the benefits on offer with the move to decentralised models, the influence of traditional stock exchanges will falter, making way for long overdue change.

Traditional stock exchanges could adapt by joining crypto assets exchanges and expanding into security tokens and other tokenized assets.