Tokenization Explained
The process of representing ownership of a physical (and non-physical) asset on the blockchain.
What is Tokenization
Tokenization is the "digitization" of an asset to represent that ownership on the blockchain. By enabling an asset to be represented by a token on a blockchain, the asset can reap all the benefits of having a token (i.e. be traded like a security), but still retain the original value of the asset. In this use case, tokenization would be digitizing the ownership of real estate assets like single-family homes, corporate office buildings, multifamily, industrial warehouses, etc.
By representing the ownership of a real estate asset on the blockchain, we are, in a sense, converting this fixed asset to act more like a security. This enables additional technical features within the asset such as fractionalization, transparent ownership history, and immutable ownership record while also maintaining the same legal constructs as traditional securities. These tokenized securities are subject to Federal laws that govern security.
Benefits of Tokenization
Some of the benefits of tokenization include:
Fractionalization: With a tokenized security, the ownership of the asset can now be split up between several parties. This creates a lower barrier to entry for real estate, which traditionally requires a large amount of capital up front and introduces the possibility of higher liquidity.
Improved transparency: Transparency refers to how accessible real estate information is to obtain. With tokenizing an asset the information regarding that asset (the data currently held by private databases like the MLS) will be publicly available.
Enhanced discovery: With the digital asset now having the ability to be listed on a secondary marketplace, the asset can potentially reach a larger pool of potential investors and even expand to the global market.
Automated Processing: Rights, restrictions, and data associated with the underlying property can now be programmed right into the blockchain-enabled system.
Limitations of Tokenization
Liquidity is only increased in this situation if there's sufficient demand in the market. Tokenization introduces the possibility of splitting the asset into smaller (fractionalized) shares and also automates the ability to transfer ownership. However, if there's no demand in the market to purchase these shares, the asset still remains illiquid. So while we can engineer a new asset that isn't impacted by the same limitations as traditional real estate, there needs to be enough participants in the market to reap the benefits of tokenization.
Transparency also has its advantages and disadvantages. While making property information public lowers the need for some of the research and insurance costs associated with real estate, it also makes competitors portfolios more visible to the public. Furthermore it's hard to say what kind of trading volume tokenized real estate would experience, volatility is largely unknown until adoption from traditional investors is achieved. Real estate will continue to struggle with the hurdles of regulation and trust until blockchain becomes a more widely accepted technology.
Summary
Tokenization enables the use of new functionality for assets that would be impossible otherwise. By enabling an asset to be represented as a tokenized security, the asset can reap all the benefits of having a token, but still retain the original value of the asset.
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