waves Securities on blockchain by sasha ivanov





  • Securities on blockchain

    I’ve been attracted to blockchain technology mostly because I was interested in instruments beyond simple monetary value tokens. Bitcoin is cool but it’s just money. Blockchain is a database though, so it’s kind of natural to have not only money but some more fancy stuff there. The most obvious thing is to have some tokens that can be similar to real-world shares, stocks, or bonds. So you just can issue your own shares, and raise funds for your project, for example.

    There were many platforms who tried to offer that, starting from cryptostocks.com or mpex.com (which was pretty famous because of SatoshDice ICO there and SEC asking questions about it) to fully decentralized platforms such as NXT, Bitshares, Ethereum, Waves platform that we’re building now. Were they successful? To a certain extent yes. Did people really need them? Yes they did. But the platforms could not really meet the users demand.

    Blockchain securities is not only technical but also a legal and administrative issue. Technically custom blockchain tokens are quite easy to implement, the question is how they can be integrated into the existing business and legal reality.

    Basically one can issue three types of custom tokens that can be used somewhat similar to “real world” stocks and shares (for example can be traded at exchanges)-

    Native token.

    Open blockchains need native tokens to exist, it’s pretty hard, if possible at all, to create a stable blockchain without a system token. It is used in the two major blockchain consensus schemes (POW and POS), you incentivise miners and prevent spam using it. As long as a blockchain is valid its network token has some value. It is similar to company shares or stock, but at the same time it is also similar to a digital product, you buy a token in a value transfer system, and are able to transfer value with it.

    If the system is growing its token should grow a value too. This is a logic behind hundreds of cryptocoins trading at cryptoexchanges. You don’t get any interest payments for just holding the coin, but it can grow in value and you can make profit. How do such things correspond to existing securities laws? It would be an overstatement to say that they are fully compliant with them, but at the same time it is not easy to classify them as securities — they don’t pay dividend, there’s no voting rights (as a rule), etc.

    People invest in them hoping that their value will rise, but it does not make them securities, people also buy gold or art objects hoping to sell them with profit in future. This is a unique scheme that was borne out of the blockchain tech, in my opinion this is nothing else but a whole new class of securities. Regulators don’t seem too eager yet to clamp down on them, since legal perspectives are not so clear, and probably they understand that these types of instruments are too hard to fight with, and they might be actually here to stay

    Real “shares”

    Another type of blockchain securities mimics the real world ones — let’s just use blockchains as a transactional layer for “real” securities — they can pay dividend or might even offer their shareholders voting rights. Quite a number of projects like that have been started, some were scams, some were legit, what they all had in common is they all broke existing securities laws.

    If you want to issue “real” shares, that pay dividend and represent equity in your company there’s a procedure for this — you have to register your offer with securities and exchange commission in your county. It’s especially important in US but most other countries have similar securities laws. They might be not so keen on clamping down on your unlicensed securities but it does not mean that you don’t break the law, it’s just you probably stay below their radars.

    Can blockchains be used for “real” securities? Absolutely, you just have to register your securities offering. Many big stock exchanges are working on the blockchain platforms, blockchains would be a good settlement layer for certain types of securities (that don’t require high-frequency trading).

    Don’t try to trick the system, if you create a blockchain token that works like something that does not pass the Howey test and offer it at ICO to the general public you’re clearly breaking the law. Can the law be changed in future? Hopefully yes, especially if smart contracts provide trustless and transparent environment that mimics existing KYC/AML anti-fraud measures provided by SEC’s worldwide. But we’re clearly not there yet.

    Custom value tokens

    Custom tokens representing certain value but not real securities per se. For example, you want to raise funds for launching a product. You issue tokens on blockchain that can be redeemed for your product when it’s ready. Immediately after you’ve issued them a secondary market emerges, people can buy and sell your token, evaluating the probability of success of your project. If your product is not moving forward people will be dumping your token, if the product is looking cooler and cooler each day they will be buying it.

    Project backers can’t do it on Kickstarter, but they can do it on blockchain, since trading blockchain tokens is a very natural thing, as proliferation of various cryptocurrency exchanges shows.

    Another example — you launch a game or social network with intrinsic currency. Do it on blockchain, and you can sell it to users who think that your token can grow in value if your project is successful. If the token can be used for product payments in your system and your system grows it might be quite reasonable to think that the tokes will grow in value too. This approach allows your to fund your project selling no equity in your company and not breaking any laws.

    What you sell is a voucher for your future product, nothing more and nothing less. Other similar strategies can be developed — for example you can connect your token to work hours, or loyalty tokens. Basically you can tokenize a pretty wide class of fungible value, if you use your imagination a little. In my opinion this is the way to go with blockchain “securities” at the moment, issue digital tokens representing some value but don’t connect it to equity or promise any dividend, if you don’t want to jump through the hoops of securities offering registration. You still can go the usual venture fund road and sell some equity in your company, if you need to. Blockchain makes certain things very natural and streamlined, custom blockchain tokens can go a long way, and as a matter of fact they haven’t been tapped into yet.