Why Security Tokens will have a greater impact in 2021

For a short period of time in 2018, security tokens were the hottest topic at any blockchain industry event. Security tokens represent real-world assets like equity and fixed income, giving them more legitimacy when it comes to fundraising and investing in digital assets. Security Token Offerings (STOs) were lauded as a way to confront the regulatory challenges brought on by ICOs, which had briefly made early investors “hilariously rich” but drawn skepticism from regulators. A few years later, we’ve witnessed vast improvements in the digital asset ecosystem’s infrastructure, markets, and legal landscape. In our view, security tokens are set for a major resurgence in 2021.

Back in 2018, blockchain companies issued security tokens, while security token exchanges and funds popped up in modest numbers. They faced immediate challenges, because the market hadn’t matured, the legal landscape was full of confusion, and the tech hadn’t matured.

The digital asset market grows up

Today, the digital asset ecosystem has evolved. There’s evidence to suggest the latest bull run is driven more by corporate adoption and institutional investment than by retail investors. PayPal recently announced plans to expand its digital asset offering, making it easier for millions of people to buy and sell Bitcoin, Ethereum, Litecoin, and Bitcoin Cash, and for merchants to accept digital assets by settling each transaction in fiat. Big buyers like Microstrategy are also adding Bitcoin to their treasury holdings.

Experienced investors are realizing the benefits of putting their money into digital assets that represent real-world assets, from real estate to collectibles. Rather than relying on quick gains, they are more likely to invest in assets that will generate dividends and long-term returns.

Regulators start making sense of Security Tokens

In 2018, we looked into creating a tokenized security fund on the ICON blockchain network. We’d participated in other tokenized funds before such as Blockchain Capital’s BCAP offering and found the process straightforward from an investor standpoint. But when we started to go through the process ourselves, it was evident that the cost-benefit economics did not make sense. We and many others discovered that starting and operating a tokenized fund would be more costly than starting a traditional fund. For example, the hours racked up quickly on legal due diligence because this was new territory with high regulatory risk. There were also technical development and operational costs that wouldn’t apply to a traditional fund.

Back then, we’d seen STOs related to company shares, funds, real estate, derivatives, and much more. Many projects miscalculated a critical step, thinking they would make up for these legal and setup costs with the demand for their product in the secondary market, which never came. In reality, STOs and security token exchanges such as tZERO, Open Finance, and GLASS by Sharespost never gained much traction.

While not perfect, the legal understanding of digital assets in many jurisdictions has improved greatly since then. Last year, Facebook’s Libra (now Diem) announcement forced regulators to take a closer look at stablecoins and digital assets as a whole. In 2020 the SEC announced plans to streamline the application process for investment companies, paving the way for blockchain companies to gain faster approval. And in November, the SEC increased its limits on how much capital companies can raise before registering from $1.07 million to $5 million, making it much easier for startups to conduct STOs with fewer restrictions.

U.S. regulators are showing clear progress toward a better understanding of digital assets and their various use cases, setting the stage for blockchain firms to offer security tokens with greater clarity, transparency, and trust to investors in the coming months and years.

Security Tokens and DeFi to converge

It’s important to acknowledge that the meteoric rise of DeFi could only be possible with the industry’s advances in blockchain technology infrastructure. DeFi applications replicate complex financial tools, and many could not have existed just a short time ago, when expertise and talent in the sector were struggling to catch up to the technology’s many promises.

Security tokens are positioned to benefit greatly in 2021 from the same technical advancements that benefitted DeFi in 2020. In the early days of security tokens, there was arguably no good secondary market to provide investors with liquidity. If they bought a security token, investors had to wait for it to list on a centralized exchange.

Coinbase fumbled its attempt to offer security tokens for public trading to U.S. residents in 2018, and others faced similar hurdles. Today, decentralized exchanges provide a near-instant secondary market for security tokens. The liquidity that DEXs provide to investors is reason enough to predict a wave of STOs in the near future.

An idea whose time has come

As we begin 2021, the hurdles that security tokens initially faced have largely been addressed. There will always be growing pains, but the market has evolved, blockchain technology has advanced, and the legal understanding of digital assets has vastly improved. The countless use cases for security tokens are cause for optimism. The ability to safely and securely invest in tokenized real estate properties is one thing we’re working toward rolling out in 2021. We know that many other top blockchain projects have ambitions in the security token space as well, both in the U.S. and globally.

It’s remarkable to see how much progress has been made in just a short time. While security tokens held promise in their earliest days, the timing wasn’t right until now. As we see DeFi converge with a better overall understanding by everyone from investors to regulators to lawyers and developers, 2021 will mark a new era in the rise and influence of security tokens.

About the Authors

Min Kim is the founder of the ICON Project, and Ricky Dodds is the ICON Project’s Head of Strategy and Communications. ICON is one of the largest decentralized networks in the world, and is used for real-world applications in banking, healthcare, education, and more. ICON is scalable for both public and private blockchain use cases, and employs a transparent governance system to create a sustainable, decentralized ecosystem.