It’s a well-known fact that our current financial systems can be fickle and that even the most seemingly stable institutions can collapse at a moment’s notice.
If recent financial crises have left you reeling, questioning the stability of the institutions you’ve long trusted with your money, you’re not alone. Our highly centralized financial systems have faced a significant loss of trust in the last few years. We’ve grown increasingly wary of the systemic vulnerability, custody risk, and bank runs associated with traditional finance so we want financial products with greater transparency, security, and stability.
The tokenization of real-world assets is a financial product that has gained popularity due to its ability to create digital tokens representing ownership in tangible assets, such as real estate, art, and fiat currency.
The Potential of RWA Tokenization
Tokenizing our real-world assets can unlock a range of benefits for investors, including:
- Counter-party risk
- Increased liquidity & transparency
- Fractional ownership
Let’s take a closer look at these benefits.
Counterparty risk can be mitigated using blockchain-based platforms to tokenize assets through smart contracts, which autonomously execute transactions without centralized intermediaries.
For example, users can utilize the lending protocol Compound to borrow on-chain with full transparency of on-chain risks and liquidity health. Compound leverages smart contracts to facilitate lending and borrowing without the need for centralized intermediaries like banks. The decentralized properties of smart contracts allow for increases in transparency and lower transaction costs, among many other benefits.
One of the unique features of Compound is that it allows users to borrow on-chain with full transparency of on-chain risks and liquidity health. As more borrowers take out collateral, suppliers are incentivized with higher rates, while inversely, borrowers are penalized with higher rates on their loans. This creates a dynamic pricing mechanism that ensures the platform remains in balance and properly collateralized.
Increased liquidity & transparency
Tokens can be traded on open markets, giving investors a higher level of flexibility in buying and selling their assets as well as securitizing them, particularly those that are traditionally illiquid, like real estate, private debt, art, and collectibles.
For example, Credix is the first decentralized capital markets ecosystem dealing in debt financing and credit. It allows investors to tokenize and securitize their assets. By transforming illiquid assets into more liquid ones, Credix gives investors a higher level of flexibility, allowing for a more dynamic market where they can respond to market conditions and adjust their portfolios accordingly. Besides this, Credix uses underlying blockchain technology that provides increased transparency in the investment process. As transactions are recorded on a public blockchain, investors can access the transaction history and monitor the management of their assets.
By dividing assets into tokens that represent partial ownership of a real-world asset, tokenization makes it possible for investors to own fractions of something that may have otherwise been too expensive or difficult to purchase directly.
For example, the art investment platform Masterworks uses tokenization to enable fractional ownership of fine art. The platform enables investors to gain exposure to the art market, which has historically been exclusive and difficult for individual investors to access. Using blockchain technology, Masterworks has created a transparent and secure system for buying and selling fractional shares of works of art, using smart contracts which execute trades and track ownership. In addition, it allows users to generate partial liquidity for their artworks, while enabling collectors to utilize their portfolios as collateral in permissionless lending markets.
The Role of Decentralized Oracles for Asset Tokenization
So where do decentralized oracle networks like SEDA come into play in all of this?
One could view the tokenization of real-world assets as an oracle problem, particularly when it comes to the ownership of the assets being put on-chain because the blockchain doesn’t have access to data off-chain automatically.
For real-world asset tokenization to succeed, there is a need for a mechanism that can provide external data to smart contracts to access real-time data about the ownership and price performance of tokenized assets.
Oracles have two use cases that create this much-needed mechanism: decentralized data bridging and off-chain computation.
Oracle networks use data bridging to connect on-chain and off-chain data sources. For example, KlimaDAO, a platform for tokenizing carbon credits, uses a centralized bridge to access the carbon credit registry of a high-quality issuer. Whenever funds are minted, a transaction entry is added to the ledger, which is used to mint on-chain tokens. By bridging off-chain data sources in this way, KlimaDAO can provide real-time data about the ownership and price performance of tokenized carbon credits, which is critical to the platform’s success.
Off-chain computation is another use case for decentralized oracles. For example, if you want to build an index on real estate, you would need to perform data indexing, querying, and computation. This computation can be expensive on-chain, which is why decentralized oracles can be helpful. By using the processing power of the network to query sources and compute final outcomes, you can avoid the cost of issuing multiple queries and paying separate gas costs. Instead, you can use a single query through the network’s smart contracts to perform a computation, a much cheaper option than on layer 1.
Decentralized oracles offer a significant advantage in off-chain computation by allowing investors to construct a diverse real estate portfolio without requiring significant capital to invest in multiple properties. Through fractional ownership of several properties, investors can mitigate risk by diversifying their investments and spreading their capital across various locations. For example, if an investor owns one house and a natural disaster occurs, they could lose their entire investment. However, if they own 1/20th of 20 houses, the risk is spread out, and the impact of a natural disaster is less severe. Thus, oracles can help democratize access to investment opportunities and provide investors with greater flexibility and risk management.
SEDA is a multichain, permissionless protocol connecting real-world data to any network on-chain.
SEDA is backed by world-class investors such as Distributed Global, Coinbase Ventures, Reciprocal Ventures, Coinfund, Maven 11, Flow Ventures, among others.
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