The internet of value represents a revolution in many areas of our lives. Specifically, it allows for a radical change in the traditional financial environment.
In today's reading, we will address the "Security Tokens", an element of the web 3.0 that allows for the optimization of a wide range of financial assets thanks to the blockchain ecosystem.
In this case, technology allows us to provide these assets with certain improvements, such as greater liquidity, availability, and flexibility. That is, the assets themselves do not improve, but their management is simplified, offering many advantages to all participating actors, including investors.
However, the issuance and sale of these Security Tokens is not merely a technological matter, as regulatory bodies have classified them as traditional financial assets in an attempt to protect the citizen investor (and to participate in the benefits of this entire new environment).
Next, we will see what Security Tokens are exactly, what the advantages of using them are, and the regulatory requirements surrounding them.
A Security Token is a crypto asset hosted on a blockchain network that represents a traditional financial asset (bonds, futures, debt, company shares, gold...). But what does this mean?
To understand what Security Tokens are, we must first understand the traditional concept of "Security." This English term refers to financial assets or securities. It is, therefore, an investment financial instrument. They are represented in legal documents that confirm ownership rights or loan issuance by the holder.
A security is any promissory note, stock, securities future, bond, obligation, evidence of indebtedness, certificate of interest, or any other financial security.
We can find different types of securities or financial instruments: debt securities, equity securities, hybrid securities, derivative securities, etc.
Whether an asset or security is considered a "security" depends on the jurisdiction, with no clearly defined criteria. Often, it cannot be clearly defined when something is a security or not, thus requiring a legal analysis. However, it is important to be able to determine this, as securities markets are strictly regulated. For this purpose, the Howey Test is generally used, which we will examine in detail in the next section.
A Security Token is a type of digital asset that represents a traditional Security on a blockchain network. In essence, a Security Token is a tokenized Security. Tokenization, in this context, involves digitally representing a value or a right — such as a right of ownership, usufruct, use, or participation in a company — through a token on a blockchain network. This process allows these assets to be easily stored, transmitted, exchanged, and even collateralized via the blockchain, facilitating access to markets that operate on a peer-to-peer (P2P) model, eliminating the need for intermediaries.
The future of Security Tokens looks promising, with growing interest and development in the blockchain and decentralized finance (DeFi) space. More countries and regulators are expected to adopt clear and friendly legal frameworks for Security Tokens, promoting their growth and expansion in the global market. The evolution of technology and collaboration between financial and technological sector players will continue to drive innovation and adoption of this new class of digital assets.
To determine if a particular crypto asset meets the requirements to be considered a financial instrument (Security Token), the well-known "Howey Test" must be applied.
It can be applied to any contract, scheme, or transaction, in both the traditional financial world and the crypto environment.
According to this test, an investment contract exists provided the following requirements are met:
If all three questions are answered affirmatively, we can confidently determine that the token or crypto asset in question is a Security Token.
In Spain, Security Tokens are considered financial instruments under Article 2 of the consolidated text of the Securities Market Law, and their initial issuances (primary market) are regulated by Articles 33 et seq. of the same law, in addition to complying with European-level directives and regulations.
In Europe, the MiCA regulation governs all types of non-financial crypto-assets, which will not be subject to securities market law. It allows for obtaining a license for the entire community (European) market.
For the regulation of financial instruments (Security Tokens), we must refer to the recent Regulation (EU) 2022/858 on a pilot regime for market infrastructures based on distributed ledger technology, and amending Regulations (EU) No 600/2014 and (EU) No 909/2014 and Directive 2014/65/EU (MiFID II).
The aforementioned Regulation (EU) 2022/858 will allow for the tokenization of the following from March 23, 2023:
-Shares of public limited companies (issuers with a market capitalization of less than 500 million euros).
-Bonds and other forms of debt.
-Units in collective investment undertakings (managed assets with a value exceeding 500 million euros).
It will therefore be possible to tokenize financial instruments and organize markets around them.
However, the tokenization of real rights over real estate assets is not contemplated, as these are recorded in the property registry, and modifying them requires a public deed and registration in the registry itself.
To be able to tokenize real rights, the regulation would first have to be amended (specifically, the mortgage law).
Finally, we highlight the eIDAS II regulation, which aims to create a digital identity for all EU citizens. As the record is stored on a distributed blockchain and is considered incorruptible, it can be used as privileged evidence in court.
However, it is currently only a draft, and the regulation currently in force is the original eIDAS, Regulation (EU) 910/2014.
In the USA, Security Tokens are supervised by the Securities and Exchange Commission (or SEC), and must comply with the provisions of the Securities Act of 1933 like any other security.
Now that we understand the legislative environment to consider when working with a Security Token, let's analyze the advantages of using them.
Decentralization is a concept not simply defined in absolute terms, but rather exists on a spectrum. In the context of security tokens, although they are not completely decentralized (as there is typically a promoter or issuer responsible for the asset and with regulatory obligations), they do exhibit a higher degree of decentralization than their traditional counterparts, thanks to the use of the blockchain ecosystem.
When a physical asset is represented by a digital asset, an interdependence is established between the physical asset, an intermediary, and the digital asset. This dependence is often inevitable, as someone must maintain the link between both types of assets to ensure the security token's purpose is fulfilled.
For example, consider a security token that represents an economic right over a real estate project. For this security token to offer a return to its holders, the underlying real estate project must be managed efficiently. This management involves a series of operational and administrative tasks that depend on an "intermediary" or project manager.
Despite the need for an intermediary to manage the physical asset, security token holders enjoy several advantages in terms of decentralization:
In summary, while security tokens do not completely eliminate the need for intermediaries, they offer a significant level of decentralization that improves the efficiency, transparency, and accessibility of financial markets. The tokenization of physical assets presents challenges but also opens new opportunities for investors and issuers in an increasingly interconnected and digitized global market.
Thanks to the advantages outlined, some players are leveraging this technology and the issuance of Security Tokens to create new business models.
One of the most interesting cases for enhancing a traditional asset is found in the real estate sector. This sector, traditionally solid and profitable for investors, had a series of limitations that the use of this technology precisely resolves.
The agility in managing the asset, transparency in the investment process, its increased liquidity, the democratization of access to investment... are some key elements generating very interesting use cases.
A clear example is Domoblock, a high-end real estate investment company that issues debt Security Tokens backed by real estate assets.
This way, anyone from 200 euros can passively invest in the real estate sector and liquidate their investment at any time by selling their stake in a secondary market.
The blockchain ecosystem provides valuable elements for digital asset management by standardizing mechanisms and user experiences.
The ability to represent stakes in a financial asset (a share, a fund participation, etc.) as a token on the blockchain means leveraging the entire surrounding infrastructure and, as a result, benefiting the asset.
For all of this to be possible, Security Tokens must behave in a standardized manner; and for that, regulation needs to consider the creation of a technological infrastructure that allows for the development of all the advantages mentioned in this article.
In short, and referring to what  Sergio Navarro, CEO of Domoblock " the real estate tokenization of assets allows any type of asset to be converted into a "financial instrument" by potentially transforming it into a medium of exchange that is easily tradable and convertible."
Are we aware of what this means?
Let us know in the comments.
Convento San Francesc, 5
Funded
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€676,972.00
Target
€676,972.00
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