What you need to know about Tokenization, Alternative Finance and Secondary Markets.

After the success of Episode #1 of VALK Series — Tokenization: Beyond the Hype, we recently recorded Episode #2 — Alt-Finance: From Challengers to Market Leaders. We hosted Milind Mehere, Co-Founder and CEO of Yieldstreet, Steffen Pauls and Yuri Narciss, CEO and MD of Moonfare respectively. Both companies aim to democratise investment in private equity and alternative assets.

But first, a recap on VALK Series.

Education and the distribution of knowledge are of paramount importance in FinTech and innovations in financial markets. VALK aims to be a market leader in the sector by connecting and digitalising private markets. One way in which we aim to do this is by tokenizing financial assets, so that their conditions, history, and compliance rules are immediately encoded into the token as immutable records. Tokenization, as defined in Episode #1, refers to the digital representation of an asset on a distributed ledger — typically, on a blockchain. The concept of tokenization has enabled more efficient verification, transfer, and authentication of different assets.

The token economy, as academic Dr. Shermin Voshmgir puts it, has led to a hype, which needs analysing and reducing to its fundamentals in order to understand its true potential. Dr. Shermin distinguishes between four types of tokens:

  1. Asset Tokens
  2. Credential & Attribute Tokens
  3. Access-Right Tokens
  4. Incentive Tokens

Asset tokens will drive the innovation in the FinTech revolution, and according to Karl Gridl, Senior Manager at Bain & Company’s Zurich office, there lie big opportunities in private markets, including private equity, private debt, and real estate. By allowing more automation and transparency in the deal making process, tokenization can provide greater liquidity and efficiency, as well as the ability to allow trading on the secondary market. Currently, the applications of tokenization focus on streamlining and making markets more efficient, with the market value expected to reach $5.7B by 2027. The secondary market for trading in such private assets is yet to be developed, but in doing so, a traditionally illiquid market will become more liquid.

Episode #2 — Alt-Finance: From Challengers to Market Leaders

The topic of liquidity in private assets was also a major talking point of Episode #2 in our series. This event was an opportunity for VALK to host true pioneers in the industry: Moonfare and Yieldstreet. Moonfare is a technology platform that enables individuals to invest in top-tier private equity funds and Yieldstreet provides access to alternative investments traditionally reserved for private institutions. As reasoned by Steffen, they aim to “bring the beauty of private equity into the digital age”. Both companies launched as a consequence of the global financial crisis, and both understand the need to digitalise private markets.

Education:
As is often the case with innovation in finance and technology, the main barrier to overcome is through education and information. According to Steffen, this remains one of Moonfare’s greatest obstacles. Inaccessible private market funds for the ordinary investor are partly a result of top tier hedge funds/private equity firms getting access first, but also because ordinary investors are not used to investing in such assets. Yieldstreet, for example, was designed so that any deal launched on the platform could be explained by the investor “to their own mother” as put by Milind. By connecting investors with novel offerings and strategies, users will become exposed to more and more opportunities. Then, and only then, will private markets start to become as open and transparent as public markets.

Macroeconomic circumstances following the 2008 GFC and the COVID-19 pandemic, such as ultra-low interest rates and a general desire to find assets uncorrelated to the stock/bond markets have led to a search for alternative yields. Yieldstreet’s aim is that, by 2025, for $25 billion to be invested outside the stock market, as “institutional quality investments” across a whole range of asset classes, from art to real estate, from aviation to multi-asset funds.

Liquidity:
Another major theme of the discussion was the need for liquidity. Every financial market needs liquidity to improve its health and efficiency, and to service the needs of those buying and selling. Private markets in general tend to be both illiquid and opaque. This is a result of a historic trend of manual and error-prone processes within an industry which has been otherwise innovated and digitalised. According to Milind, “there should be permanent capital at the asset level, but liquidity at the user level”. One way in which extra liquidity can be provided is through secondary markets. Moonfare in January announced the launch of their secondary market, partnering with Lexington Partners to bring vital and large-scale liquidity to the platform. Yieldstreet has also launched a secondary market in May for one fund. Secondary markets on Moonfare work according to the following process:

  • Clients who wish to sell/buy a stake in private equity funds on the secondary market signal their interest on the platform
  • This is recorded by Moonfare and displayed to relevant parties
  • Twice a year, Moonfare organises an auction and bidding process, all the while maintaining best practice and guaranteed oversight on the procedure.

Maintaining best practice across such deals means respecting compliance, regulatory requirements, and secure distribution of legal documents. This is a complex procedure as security and confidentiality are of primary importance. Again, such processes are traditionally manual, and workflows are often fragmented. Part of the digitalisation revolution is to ensure these procedures can be done effectively and efficiently, by allowing all the workflow to be automated and executed on an end-to-end platform, as is the case with VALK.

Blockchain and Tokenization:
“If you can tokenize the asset to create a solution for assets to change hands, that efficiency can be powerful” — Milind

Consequently, the next question to ask was how to efficiently facilitate a secondary market. The conversation turned to tokenization, and there was a broad consensus that blockchain technology could efficiently facilitate the trading of such assets, and that it could even democratise the secondary market. It was great to hear their support of VALK using blockchain, echoing our view that liquidity is essential for such a process — as put by Milind: “nobody wants liquidity until everybody wants liquidity”. VALK is also preparing to host integrated secondary markets, with all the $2B worth of assets currently on our platform already tokenized as digital assets on the Corda blockchain. The digitalisation and tokenization are done at no extra labour or cost to clients, irrespective of their intentions to utilise secondary markets.

Once secondary market functionalities are properly implemented, however, it will be easier than ever to allow trading on a client-to-client basis. At this point, the market could grow large enough to facilitate large-scale transactions that could even lead to an entire new form of stock exchange.

Stay tuned for Episode #3 in our VALK series!

Effortless management, investment and trading of unlisted assets