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Last Updated Date:
September 5, 2024
Asset Tokenization Definition
DEFINITION
Asset tokenization involves representing the ownership rights of real-world assets as digital tokens on a blockchain.
Key Takeaways:
- Asset tokenization has the potential to bring trillions of dollars of real-world value onto blockchain networks
- Tokenized assets benefit from permissionless liquidity, open access, onchain transparency, and reduced transactional friction compared to traditional assets
- Tokenized assets require high-quality offchain data from secure and reliable Chainlink oracles
“Asset tokenization” is a term for the use of smart contract and blockchain technology to represent ownership or rights to an asset as a tradable, onchain token. Though it most commonly refers to the tokenization of financial or fungible assets, such as shares in a company or a quantity of gold, asset tokenization can hypothetically refer to the tokenization of anything possessing monetary value. As such, asset tokenization is among the most promising use cases for blockchain, with the upper bound of asset tokenization market size potentially encompassing nearly all of human economic activity—a dollar number estimated to be worth well over a hundred trillion annually.
As anyone familiar with the oracle problem knows, any instance where a Web3 application needs to interact with the external world can present security risks and other complications, and asset tokenization—a process that by nature relies on information about the world that is generally offchain—is no exception. Secure oracles are key for asset tokenization to reach its full potential, as marketsneed reliable information about the underlying assets in several key processes such as minting, trading, managing, and more.
What Is Asset Tokenization?
Digital asset tokenization is the process whereby ownership rights of an asset are represented as digital tokens and stored on a blockchain. In such cases, tokens can act like digital certificates of ownership that can represent almost any object of value, including physical, digital, fungible, and non-fungible assets. Because they’re stored on a blockchain, owners can maintain custody over their assets (if owners are holding them in their own secure crypto wallet).
If the long-term promise of this use case is impressive, so too are the strides toward adoption already being made today. Major enterprises, such as Boston Consulting Group and ADDX, BlackRock, Deloitte, BNY Mellon, and EY, have studied asset tokenization and concluded that it possesses the capacity to disrupt multiple industries, including the global securities industry. Additionally, Microsoft and Vanguard have announced or gone live with projects tokenizing industrial assets and securities, respectively. By these metrics, asset tokenization is already among the most popular blockchain use cases currently achieving real-world enterprise adoption.
To understand how asset tokenization works and why it matters, let’s revisit the basics of Web3 technology: Smart contracts are cryptographically secure digital agreements created with computer code and stored on a highly secure type of database known as a blockchain. In order to issue tokens, a developer writes a smart contract on a blockchain that maps positive balances to a series of wallet or smart contract addresses, along with functions that enable users in control of those addresses to add and subtract from those balances.
Asset Tokenization Examples
- Real-world asset tokenization—Real-world assets like fiat currency, equities, T-bills, credit, commodities, carbon credits, intellectual property, and fine art can be tokenized and stored on a blockchain. Similar to gold bullion warrants and house deeds, they’re bearer assets that give the holder a claim over a real-world asset. The key difference from legacy bearer assets is that physical asset tokenization enables assets to be stored, traded, and used as collateral across blockchain networks.
- Digital asset tokenization—Tokenizing assets that only exist in a digital form on a blockchain network is critical to Web3, especially for use cases such as representing DAO governance rights and cross-chain assets. Because they’re entirely digital, tokenized assets stored on a blockchain enable the owner to hold the asset outright, rather than owning a claim on the underlying asset.
- In-game asset tokenization—A subset of digital asset tokenization, in-game assets used in GameFi projects or metaverses, such as skins, weapons, or in-game currencies, can be represented as tokenized assets.
How Does Asset Tokenization Work?
By consolidating origination, distribution, trading, clearing, settlement, and safekeeping into a single layer, tokenization enables a streamlined and efficient financial system underpinned by blockchain technology. The process of creating tokenized assets involves several steps—defining the token type (fungible or non-fungible), selecting the blockchain to issue the tokens on, selecting a third-party auditor to verify offchain assets, issuing the assets, and more. Meanwhile, the decentralized nature of blockchain networks ensures transparent safekeeping, as asset ownership records are immutable and resistant to tampering, providing users with greater confidence in the integrity of the system.
Steps to create a tokenized asset:
- Select the asset—This could be equities, commodities, currencies, securities, fine art, carbon credits, intellectual property, or another asset class.
- Define token type—Consider factors such as the token standard you want to use (ERC-20, ERC-721, ERC-1155, etc.), the number of tokens to be created, the mechanism governing minting tokens, and other custom parameters and rulesets.
- Choose the blockchain—This choice will depend on the specific requirements of the tokenized asset in question, but some aspects to consider are whether the tokens should be issued on a public or a permissioned blockchain or whether a framework for creating a custom network or rollup should be utilized.
- Verify offchain assets—Establish secure and reliable offchain connections using Chainlink services to enrich tokenized assets with essential data. This includes Chainlink Proof of Reserve to verify collateralization and Chainlink Price Feeds to ensure secure markets. As tokenized assets move across chains, Chainlink Cross-Chain Interoperability Protocol (CCIP) ensures that critical data such as price, NAV, and identity data remain synchronized and up-to-date across all blockchains, maintaining a Unified Golden Record and enabling seamless cross-chain interoperability.
- Enable secure token minting—Chainlink Proof of Reserve Secure Mint enhances the security and transparency of tokenized assets by programmatically ensuring that newly minted tokens are fully backed by reserves. This decentralized verification mechanism provides cryptographic guarantees that help prevent the minting of unbacked tokens.
If you'd like to learn more about the asset tokenization process, read How to Tokenize an Asset.
The Current Tokenized Asset Landscape
Tokenization is revolutionizing the traditional financial industry—it enhances liquidity, transparency, and efficiency, reshaping how financial products are accessed and managed. As tokenization gains traction, it drives significant advancements in creating a more accessible and efficient financial ecosystem. From fund tokenization to stablecoins, tokenized gold to real estate, the first stages of this megatrend are already underway:
- Blackrock BUIDL: Blackrock’s BUIDL allows investors to earn yields in U.S. dollars through Securitize Markets. The fund, which invests in cash, U.S. Treasury bills, and repurchase agreements, provides daily dividends and offers enhanced liquidity and transparency through blockchain technology.
- Goldman Sachs: Utilizing Digital Asset’s Canton Network, Goldman Sachs’ digital asset platform GS DAP™facilitates the issuance, registration, settlement, and custody of tokenized assets.
- Ondo Finance: Ondo democratizes access to institutional-grade financial products and services through blockchain technology. It provides a range of tokenized financial products and manages decentralized finance protocols, ensuring transparency, regulatory compliance, and robust client service.
- Centrifuge: Centrifuge is a platform for real-world asset tokenization, offering infrastructure to tokenize, manage, and invest in a diverse range of assets. It improves transparency and efficiency in asset management, providing collateralized asset pools and a DAO for enhanced governance and community support.
Real-World Tokenized Asset Examples
- Real-world asset tokenization—Real-world assets like fiat currency, equities, T-bills, credit, commodities, carbon credits, intellectual property, and fine art can be tokenized and stored on a blockchain. Similar to gold bullion warrants and house deeds, they’re bearer assets that give the holder a claim over a real-world asset. The key difference from legacy bearer assets is that physical asset tokenization enables assets to be stored, traded, and used as collateral across blockchain networks.
- Digital asset tokenization—Tokenizing assets that only exist in a digital form on a blockchain network is critical to Web3, especially for use cases such as representing DAO governance rights and cross-chain assets. Because they’re entirely digital, tokenized assets stored on a blockchain enable the owner to hold the asset outright, rather than owning a claim on the underlying asset.
- In-game asset tokenization—A subset of digital asset tokenization, in-game assets used in GameFi projects or metaverses, such as skins, weapons, or in-game currencies, can be represented as tokenized assets.
Future Tokenized Asset Use Cases
Asset tokenization is paving the way for a broad spectrum of innovative use cases. This can extend across various asset classes, significantly enhancing liquidity, accessibility, and efficiency. For instance, tokenized real estate can allow investors to buy and sell fractional shares of properties, making traditionally illiquid markets more dynamic. Tokenized bonds can simplify issuance and management, cutting down on intermediaries and transaction costs, thereby streamlining bond markets. Emerging asset classes like tokenized carbon credits promise to boost transparency and democratize access to carbon markets, enabling smaller players to participate through fractionalization. Beyond these, tokenization can open the door to digital ownership of intellectual property, collectibles, and other assets, further democratizing access and fostering markets that are more liquid, efficient, and transparent. As tokenization evolves, it holds the potential to unlock new financial products and opportunities, driving innovation and expanding access across various financial sectors.
Benefits of Asset Tokenization
In addition to offering a decentralized and trust-minimized alternative to a real-world product, investment vehicle, or service, there are many more benefits of asset tokenization. Specifically, the tokenization of real-world assets through the use of blockchain technology presents a clear path toward making numerous assets more valuable, accessible, and useful, as well as creating a vehicle by which offchain data can augment their utilization within the DeFi ecosystem.
At the heart of both the current success of asset tokenization and its long-term potential is the remarkable number of advantages and additional utility that tokenized assets provide relative to non-tokenized assets. Tokenization can allow for increased liquidity of traditionally illiquid assets; greater accessibility and ease of access for otherwise cloistered investment opportunities; greater transparency regarding ownership and ownership history; and a reduction in administrative costs associated with the trading of these assets, including management, issuance, and transactional intermediaries. Finally, tokenization allows for assets that previously could not access the DeFi ecosystem a path toward doing so, unlocking a whole new realm of potential through asset-backed composability.
Liquidity
In traditional markets, financial events are generally recorded across siloed ledgers, resulting in significant market inefficiencies, such as increased costs and lengthened settlement times. This lack of interoperability between different systems represents a significant opportunity for asset tokenization to help solve the resulting fractionalized liquidity through interoperable tokenized assets.
Tokenization can also help improve liquidity for historically illiquid assets. With tokenization, an asset can be represented as millions or even billions of tokens, creating fractional ownership, which can be subsequently listed on a variety of widely-available and accessible exchanges. This eliminates the need for costly transactional intermediaries and expands the potential buyer pool while simultaneously keeping the tokens tied to a unique asset.
Accessibility
Many of the highest-upside assets are out of reach to common investors due to financial or regulatory constraints. For instance, consider financing a big-budget movie: the upfront costs, as well as the risk of a production crew going over-budget, comfortably price out all but the wealthiest investors. However, a successful film can earn a return on the investment multiple times over in a relatively short time frame. Other low-access examples include collecting sports cars, investing in distressed foreign assets, or the purchase and renting of multifamily real estate.
In this case, the benefits of tokenization essentially become similar to crowdfunding, but within a model where the group of investors funding or purchasing an asset also reap the financial rewards of their participation. This allows a potentially broader base of investors with relatively low capital to participate in asset classes that were previously inaccessible or challenging to enter.
Transparency
Many high-value assets suffer from a lack of reliable and easily-available information regarding returns, ownership history, sale history, and other key metrics users need to be able to make informed economic decisions. This lack of information is especially acute when evaluating foreign assets, or instances where a buyer cannot personally inspect an asset prior to purchase. A key benefit of tokenization is that it allows for the open tracking and auditing of all these records due to the fundamentally public nature of many blockchains.
With tokenization, users can see a record of ownership as well as returns in interest or dividends, depending on the smart contract logic of the asset. Provenance tracking on the blockchain allows for immutable records, significantly decreasing investment security risks by minimizing record-keeping trust. These features have the potential to significantly reduce the risk of fraud across multiple industries where forgeries and knock-offs are common, such as high-priced luxuries like wine and caviar, as well as fashion and art.
Composability
One of the most promising benefits of asset tokenization is also among the least well-explored: connecting the value of real-world assets to the composability of the DeFi ecosystem. Decentralized money markets around tokenized real-world assets enable users to earn equity percentage in the interest generated from offchain collateral. This enhances the liquidity of the wider DeFi space while simultaneously giving retail investors access to an investment class that would otherwise be difficult to access.
Moving forward, asset tokenization will allow for a plethora of opportunities for smart contracts developers seeking to tap into real-world value. Whole new types of synthetic assets, indexes, and token baskets can easily be built by combining tokens tied to various assets, and the ability to turn real-world revenue streams into collateral offers another jolt of innovation for an already rapidly expanding DeFi field.
The Need for Oracles in Asset Tokenization
While asset tokenization has the potential to enhance the utility of a wide variety of real-world assets and simultaneously buttress growth and innovation within the DeFi space, it is also a use case whose functionality is highly reliant on secure oracles. In order for something of monetary value to be accurately represented and traded on the blockchain, there must be good information on the asset. This need is especially acute at four stages in a tokenized asset’s life cycle: when the tokens are created, when they are used as collateral, when users check their valuations, and when they are sold on secondary markets.
Chainlink Proof of Reserves
Tokenized asset projects can use a decentralized verification service, Chainlink Proof of Reserves, to help relay this offchain information onchain. Chainlink PoR provides unparalleled transparency into offchain collateral, helping enhance the security and verifiability of tokenized assets. By using Chainlink PoR’s decentralized verification mechanism to relay collateralization data, tokenization projects can demonstrate a new level of transparency and security. Leading tokenization projects are already utilizing or integrating Chainlink Proof of Reserves to help relay offchain valuation data onchain, including:
- OpenEden for tokenized T-bills
- Backed Finance for tokenized equities
- TUSD and Poundtoken for tokenized fiat currency
- Fortunify for tokenized credit
- Cache Gold for tokenized gold
Some tokenization projects are using Chainlink PoR in an additional way—for providing cryptographic guarantees that new tokens minted are backed by reserves, thereby helping to prevent infinite mint attacks. TUSD, Poundtoken, and Cache Gold are using Chainlink PoR Secure Mint in their minting smart contract to help ensure reserves are sufficient before minting new tokens.
Different assets will necessitate different oracle network structures and needs. Depending on the use case, Chainlink oracles can provide direct valuations to assets or serve as benchmarks for making decisions on them. Since Chainlink interoperates with any API and offchain system, Chainlink oracles are able to source this data from multiple avenues, such as professional data providers (e.g. Kelly Blue Book for cars), independent/expert appraisers, exchanges/OTC markets, or any customized aggregation of data sources to create a single trusted valuation. This can be supported by a decentralized network of independent Chainlink nodes that call offchain APIs to retrieve data or the data providers/appraisers can run Chainlink oracles themselves to relay data directly to smart contracts.
In order to further preserve the integrity of the network and maintain a high degree of data quality, unique crypto-economic incentives can be bootstrapped on to the oracle network. Methods like staking-backed service agreements and immutable reputation systems are able to track the historical quality of the valuations provided by appraisers, nodes, data providers, and more. This framework will incentivize accurate valuations as dishonest valuations will be financially penalized and their reputation score lowered, hindering their ability to earn future revenue as a data provider. It will also allow even niche and esoteric assets which rely on expert appraiser information to enter into the tokenized market while maintaining stronger crypto-economic guarantees that the valuation data is sound.
Cross-Chain Interoperability Protocol (CCIP)
Some tokenized assets need to be interoperable across different computing environments to access a broader pool of liquidity and a larger number of users across different platforms and ecosystems. The Cross-Chain Interoperability Protocol (CCIP) is designed to help eliminate the need for developers to write custom code for building chain-specific integrations and help make native cross-chain tokenized assets.
Conclusion
Though still in its early stages, asset tokenization is one of the most exciting and highest ceiling use cases for blockchain technology. However, without robust and secure oracles like Chainlink, tokenization will be limited in the value it can produce onchain and be subject to centralization risks, which cuts into the very value proposition it was designed to create. Only by deploying Chainlink decentralized oracles to access real-world information will this promising technology reach its full potential of bringing added value to any asset around the world.
Learn More
If you want to learn more about Chainlink Proof of Reserves, visit the PoR product page. If you’re a developer and want to integrate Chainlink Proof of Reserves into your smart contract applications, check out the developer documentation or reach out to an expert.
