Q&A: How Blockchain Adds Efficiency To Global Capital Markets

Posted by Polymath

It’s no secret that capital markets are beset with inefficiency that slows down global trade and limits accessibility. At the heart of this inefficiency is a legacy financial system reliant on a chain of intermediaries, including central securities depositories (CSDs) that appear to be digitized but in fact run on antiquated manual processes. Blockchain technology provides the means to find digital solutions.

Polymath sat down with Mike Kessler, CEO and Founder of Tokenise, to dive into how blockchain can improve the efficiency of capital market infrastructure, what this could mean for the future of CSDs, and which asset classes can benefit from security tokenization.

Tokenise operates a node on the Polymesh blockchain.

Polymath: How does blockchain improve the efficiency and accessibility of global capital markets?

Mike Kessler (Mike): Blockchain in itself does not increase efficiency or access; what it does is increase the transparency of data so operations can be made more efficient and accessible. The immutability of blockchain records makes it far easier for regulators, investors and issuers to access reliable information.

The problem I see with capital markets and blockchain at the moment is that people associate blockchain with cryptocurrency, rather than just the recording of any transaction. When we overcome that, we’re going to see more and more things move to blockchain. Also, some blockchains are going to be far more suitable than others for capital markets operations. It's important that the wider investment community sees blockchain not as a separate environment but as a way to make the existing financial and capital markets infrastructure more relevant and useful.

Blockchain in itself does not increase efficiency or access; what it does is increase the transparency of data so operations can be made more efficient and accessible.

Polymath: What asset classes stand to benefit the most from tokenization of securities?

Mike: Almost all asset classes can benefit, but the more elements and restrictions there are, the more the asset stands to benefit. For example, a bond has a certain yield and distribution dates that can be automated. Equities and FX markets may also see benefits from the immutability and the instant recording of transactions.

Beyond that, there are certain assets like real estate that can benefit significantly from the fractional ownership enabled by blockchain. It’s prohibitively complex to divide up assets like this and manage records of beneficial ownership manually—whereas blockchain makes it feasible at scale.

 Transaction Settlement CTAPolymath: What about blockchain makes these traditionally cumbersome processes more scalable?

Mike: I work closely with someone who always says that in today’s capital markets, inefficiencies are the exchange’s friend and often the broker’s friend, because each additional step allows them to add charges to transactions. If we can achieve instant settlement on the blockchain through automation of these processes, that could reduce the need for intermediaries and the charges involved. This brings down the infrastructure costs, which will eventually bring down the costs for both issuers and investors.

In addition to the automation efficiencies, being able to share data with the relevant parties, be they the regulator, the issuers, the CSD or the actual investors, also makes a huge difference in terms of the infrastructural cost. The blockchain-enabled world enables all parties to have greater confidence in the financial system, and so fewer costs are required to provide those layers of trust.

Polymath: Do you see financial intermediaries going away as blockchain technology becomes more pervasive?

Mike: For all the talk of disintermediation through blockchain, financial intermediaries still play an integral role. CSDs, for example, are a critical piece of the legacy financial system in large part because there are several jurisdictions, including throughout Europe, in the US, and the Caribbean, where you have to use a CSD if you're trading on a regulated securities exchange.

That’s not to say that their operations don’t stand to benefit from blockchain technology. Today, CSD processes are manual and broadly inefficient, both in terms of transaction processing and compliance verification. CSDs also keep a changeable (rather than immutable) record and that changeable record, obviously, is subject to potential interference.

There are currently no CSDs that operate on a blockchain, and if there were it could drive huge efficiency across the market and hopefully encourage wider adoption of digital securities.

What’s interesting is that as CSD processes become more efficient and transparent, they also become more suitable for a broader swath of asset classes. I see no reason why any physical asset that has some form of registration requirement cannot be recorded in a CSD on the blockchain. But the implications there are enormous, in terms of having a golden source  of truth held by a regulatory agency.

There are currently no CSDs that operate on a blockchain, and if there were it could drive huge efficiency across the market and hopefully encourage wider adoption of digital securities.

Polymath: When it comes to financial services, are all blockchains created equal? 

Mike: Depending on what you’re trying to accomplish, there are major variances in quality and cost. Initially we were looking at using Ethereum, but for our purposes, gas fees can become prohibitively expensive, to the point where it can cost more for an exchange or a participant to make the transaction than a low value transaction is worth itself.

It's really important that the blockchain of choice not only has all the relevant security protocols, but also that it operates on a low-cost basis. If transaction fees start escalating because of mining costs or an entity that controls the network becomes too expensive to use, that will stifle demand and potentially make it less financially inclusive.

Polymath: How do you expect the adoption of blockchain technology to change society in the coming years?

Mike: I don't necessarily think every security, or even every asset, will be managed on the blockchain. I do, however, think the reporting should be– it would be really useful to have that single record of truth on who bought and sold everything. It’s true that governments could use that against people in collecting taxes, but it could also help us create a more open and transparent society.

I believe it also lends itself to the emergence of the sharing economy. People, especially those in Gen Z, are less into ultimate ownership and more into shared ownership. Blockchain can help us to properly record when people have a share of something by properly recording that share and giving people certain rights to certain things.

The efficiency of the market will be greatly improved with the advent of blockchain technology. It’s a tool for the future, and as time goes on we’re going to see more and more use cases.

Mike Kessler

CEO and Founder of Tokenise

The Tokenise team is lead by Mike Kessler, bringing his extensive experience in asset management, corporate development, start-ups and trading to the project. Mike has over 20 years’ experience in the financial services sector and is an experienced FCA principal (Kingsley Asset Management, Kession Capital Limited). Previously at MSS Capital, JP Morgan, UBS and ING, Mike has spent his career in securities trading, hedge funds and private equity. He has founded and run regulated businesses since 2008 and continues to create new solutions for the securities industry to enable a fairer and more accessible marketplace.

All views expressed or claims made above solely belong to Mike Kessler and do not reflect those of Polymath. Polymath does not endorse or recommend any product or service provided, or to be provided, by Mike Kessler or Tokenise.

The information in this document does not purport to be complete and has not been independently verified. Polymath gives no undertaking, and is under no obligation, to update this document or provide any additional information or to correct any inaccuracies which may become apparent.

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