Financial Asset Tokenization: Decoding Challenges and Solutions for Institutions and Fintechs

Financial Asset Tokenization - Challenges and Solutions for Fintechs and Financial Institutions
Yuvaraj Thanikachalam
Yuvaraj Thanikachalam
CEO & Founder

Imagine a world where previously illiquid assets owned by financial institutions could be freely traded digitally on a global marketplace, 24/7. As financial asset tokenization gathers momentum, this vision quickly becomes a reality. 

For Financial Institutions (FIs), it unlocks new opportunities but also warrants a thoughtful approach. We explore the dynamic landscape of financial asset tokenization for FIs and its implications, including the challenges and solutions.

The Rise of Financial Asset Tokenization

According to Deloitte, over 55% of surveyed financial enterprises feel that tokenization will disrupt their business models. 
JPMorgan estimates that tokenized money market funds could reach nearly $1 trillion in assets under management by 2025.

When people talk about asset tokenization, they usually mean taking a real-world asset—like a piece of art, real estate, or commodities—and minting it into a digital token on the blockchain. 

However, financial asset tokenization is a different ball game.

What is Financial Asset Tokenization?

Financial asset tokenization transforms financial instruments—company stocks, bonds, funds, derivatives, and more—into tokenized assets on the Blockchain or, more generally, on the decentralized network. 

Financial institutions can now fractionalize previously illiquid assets, making them accessible to investors as investment instruments. This improves asset liquidity and democratizes it for a previously untapped investor segment. 

Here’s an example.

Traditionally, bonds used to be illiquid assets, only accessible as a non-fractional instrument to large institutional buyers. But with tokenization, a $1 million corporate bond could be fractionalized into 10,000 tokens worth $100 each.

Now, retail investors can buy a fraction of a high-value bond previously out of reach. On the other hand, the institution that’s issuing this benefits a broader investor base. Trading on blockchain makes the whole process instant and efficient. 

As a result, tokenization brings the benefits of Web 3 finance application protocols to old-school financial instruments.

Financial Asset Tokenization - Traditional bonds versus tokenized bonds

However, one might ask – despite the apparent upside to asset tokenization, why haven’t financial institutions jumped onto the bandwagon wholeheartedly? 

External Barriers to Adoption of Financial Asset Tokenization

When exploring tokenization, financial institutions (FIs) face many external challenges related to adoption and fostering market confidence. These increase the complications and, consequently, the time to market. Let’s take a look at them and how they can be tackled. 

1. Regulatory Compliance and Uncertainty

The global regulatory environment around asset tokenization needs to be more cohesive. Since tokenization straddles securities and currency definitions, which regulations apply in different jurisdictions needs to be clarified. For example, in the EU, asset-referenced tokens are treated as financial instruments under MiFID II, while in the US, the regulations continue to evolve. 

This patchwork of regulations creates significant uncertainty for Financial Institutions exploring asset tokenization. The lack of clear guidelines makes achieving full compliance across different markets extremely difficult. Banks risk running afoul of regulations if they attempt to tokenize assets without completely understanding the applicable rules.

Solution: Adopting Proactive Regulatory Engagement and Compliance Strategies

  • Adopt a collaborative approach

Financial institutions must take a proactive approach centered around collaboration with regulators to map applicable regulations to mitigate risks and overcome regulatory uncertainty. For instance, building open communication channels can influence policy development to enable responsible innovation. 

We all saw how The Monetary Authority of Singapore (MAS) took a progressive approach by opening dialogues with financial institutions to co-create tokenized asset regulations. 

In 2016, the MAS launched “Project Ubin” to explore blockchain for clearing and settlement systems. They encouraged banks and firms to participate and share their feedback, which helped shape pragmatic policy for asset tokenization and DLT today. 

  • Partner with a RegTech solution 

Financial institutions should adopt a compliance-first approach when exploring asset tokenization, leveraging regulatory technology (RegTech) solutions.  It will help them implement appropriate controls tailored to each jurisdiction and streamline compliance.

When Credit Suisse was experimenting with financial asset tokenization, they grappled with tailoring compliance to multiple regulatory frameworks.

The team recognized it needed to proactively get ahead of upcoming regulatory changes and unify rule management across regions

Robert Trice, Head of Compliance Change Delivery, Credit Suisse

To aid their compliance journey, they implemented ClauseMatch’s RegTech solution. This partnership gave them more visibility into risks so issues can be rapidly mitigated. So they could move quickly and safely in the right direction.

2. Operational Efficiency and Scalability of Current Blockchain Protocols

Many current-generation blockchain networks face inherent limits in transaction throughput and latency issues. For example, Ethereum can only process 15 transactions per second – far from the volume required for enterprise-scale tokenized assets.

These performance and scalability restrictions pose adoption challenges for FIs and institutions exploring asset tokenization. Without the ability to handle high volumes efficiently, making a case for large-scale migration to tokenized systems is difficult.

Solution: Investing in Scalable Solutions and Cross-Chain Technologies

FIs should evaluate and invest in networks capable of enterprise-grade speed and interoperability to enable efficiency and scale. For example, Layer 2 solutions like Polygon built on Ethereum allow much higher transaction volumes while leveraging Ethereum’s security. 

As blockchain technology matures, scalability solutions like sharding, sidechains, state channels, and rollups will continue to enhance performance. Financial Institutions should partner with platforms providing access to these latest scalable infrastructure advancements. 

Cross-chain interoperability solutions are also emerging, allowing assets to be moved frictionlessly across multiple blockchains. This overcomes the limitations of single networks.

3. Maturity of Secondary Markets for Tokenized Assets

A significant value proposition of asset tokenization is enhancing liquidity for traditionally illiquid assets like real estate or private equity. However, if there is limited secondary market trading of issued tokens, the liquidity benefits cannot fully materialize.

Insufficient buyers and sellers in tokenized markets and a lack of integrated market maker mechanisms can constrain liquidity. This impacts asset holders’ ability to exit positions efficiently.

Solution: Tokenization to Facilitate Easier Access and Trading

Tokenizing assets can unlock access to new investor pools. However, Financial Institutions must also ensure that viable secondary market trading capabilities are in place. This requires launching tokens on exchanges that support high liquidity and trading volumes.

Decentralized exchanges can provide constant liquidity using automated market maker algorithms. 

Asset tokenization for financial institutions

Oracles can continuously feed external asset and pricing data to decentralized exchanges, allowing accurate valuation and trading based on real-world asset values.

A combination of exchange integration, liquidity incentives, and data feeds is necessary to unlock tokenization’s liquidity benefits.

4. Investor Scepticism towards Financial Asset Tokenization

As an emerging technology, asset tokenization currently faces skepticism among traditional investors. Not many understand the benefits, or they perceive tokenization as overly complex.

This lack of familiarity creates resistance to allocating capital into tokenizing financial assets versus more conventional options. Demonstrating real-world value and clear benefits compared to existing assets is critical for driving broader market adoption.

Solution: Build a Business Case 

To drive adoption, banks and FIs must build compelling business cases and educate investors on the advantages of asset tokenization. This includes benefits like improved liquidity, transparency, programmability of cash flows, and ability to trade 24/7.

Creating educational content can smooth the learning curve for prospective investors who need to become more familiar with blockchain technology. It will help you communicate the benefits in a clear and accessible way to them. Institutions can also host in-person and virtual events to demonstrate the benefits. 

A combined effort across multiple channels can accelerate knowledge and drive adoption among skeptical investors new to tokenizing financial assets.

Internal Barriers to Financial Asset Tokenization Adoption

Despite the obvious upside of adopting asset tokenization, financial institutions face some significant internal challenges. The traditional systems that financial institutions follow are rigid and lack flexibility. So, let’s look at them individually and understand how we can solve them.

1. Technological Integration Challenges

Integrating tokenization platforms with existing core banking and ledger systems is challenging for most financial institutions. Since these systems are not designed to interface with blockchain-based tokenization, there is little out-of-the-box interoperability.

This forces cumbersome manual processes and workarounds, creating friction and risk. Lack of seamless integration prevents a smooth end-to-end tokenized asset lifecycle, from issuance to redemption. Financial Institutions struggle to reconcile ledger entries between legacy systems and tokenization platforms.

Solution: Leveraging APIs and Partnering with Expert Tech Providers

To enable seamless integration, FIs should leverage modern APIs that allow tokenization platforms to connect easily with legacy backends. Standardized APIs remove the need for custom integrations.

Partnering with reputed vendors or platforms that provide pre-built connectors and APIs for mainstream banking systems can accelerate integration. For example, Kreatorverse offers modular APIs and microservices to simplify connecting tokenization capabilities with existing banking infrastructure. It is a faster and safer way to build, test, and launch tokenized financial assets. 

2. High Web3 Development and Maintenance Cost

Developing a tokenization platform from scratch is incredibly complex and cost-prohibitive for most financial institutions. This stems from two key issues:

  • Financial institutions lack readily available in-house talent with specialized blockchain and tokenization expertise. Areas like smart contract programming, cryptographic security, token economics, and compliance require advanced skills that existing staff likely lack.

    Even large institutions struggle to assemble internal teams with the full breadth of Web3 development capabilities needed for tokenization.

  • Web3 DeFi experts charge anywhere between $100,000 to $350,000 annually. So, even after you find the right people, acquiring and retaining them is extremely difficult and expensive as it is a highly competitive market. 

    Once talent is secured, the next problem is developing and maintaining a robust tokenization platform in-house. It is a prohibitively expensive and complex task costing between $100,000 – $500,000.

    On top of that, ongoing maintenance, upgrades, and integrations add significant overhead costs

Most financial institutions do not have the resources or capabilities to tackle end-to-end development and hiring costs. Attempting tokenization without sufficient expertise often leads to disappointment down the line.

Solution: Leveraging External Specialized Providers

Financial institutions can partner with specialized tokenization providers to overcome talent and capability gaps. They have dedicated blockchain developers, compliance experts, cryptographers, and other talent needed for a successful and smooth transition to blockchain. 

Established tech vendors like Kreatorverse can provide turnkey solutions, helping institutions strategize, design, and build asset tokenization infrastructure minus the overheads and risks. It is the fastest path to launch compliant tokenization products. 

Institutions can focus on their core business with this approach while leveraging purpose-built solutions and specialized teams.  

3. Security and Fraud Risks

While blockchain-based tokenization provides immutable asset records, the data feeds from enterprise systems that trigger token issuance and redemptions remain vulnerable. This creates security risks even on tamper-proof blockchains.

Bad actors could exploit vulnerabilities in interfaced systems to manipulate data that triggers fraudulent token issuance or redemptions. Without adequate controls, this can undermine trust in tokenized assets. 

This is a major reason why leadership is reluctant to explore the unchartered waters of financial asset tokenization. Especially when institutions are new to this, they are often unaware of how data can be manipulated. Hence, it prevents them from entering the market even after knowing the benefits.

Solution: Implementing Advanced Security Measures

To mitigate risks, Financial Institutions must implement robust security policies, conduct audits, and adopt emerging standards like zero-knowledge proofs and MPC technology to guarantee data integrity.

Additionally, they can also take the help of an external SME to oversee the project and help them navigate the challenges. 

Next Steps in Financial Asset Tokenization for FIs

Realizing the full potential of asset tokenization requires addressing critical challenges around multiple areas. Financial institutions must take a prudent approach and tackle each to create a smooth adoption. 

Building a solution on your own is quite expensive and time-consuming. If you want speed, efficiency, and expertise without losing money, you should buy the solution instead of building it. Here’s how you can do that:

  1. Look for a reliable partner who can provide everything your company needs to expand.
  2. Vet them to see if their values align with yours because, in the long term, company values can make or break a business relationship.
  3. Evaluate their track record in integrated tokenization solutions and their experience in the industry. What is their success rate? What do their previous clients say about them? Do they have a strong reputation in the market?
  4. Request them to send a proposal. See if your budget aligns with their quote and take a decision accordingly!

Kreatorverse provides tokenization-in-a-box solutions tailored to the needs of Financial Institutions. By partnering with us, you can leverage the advantages of asset tokenization without navigating the complexities involved on your own.

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