Real-world assets: 2024 is the breakthrough year for tokenization

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Integrating traditional real-world assets, or RWA, into blockchain is not a new topic of discussion. Major institutional players, from Euroclear to Goldman Sachs, have turned to tokenization to reduce transaction fees, execution time and database management costs, and make proof of origin and ownership procedures much less tedious.

2023 was the year when theory finally started to turn into practice. The private credit market, shattered by the ripple effects of the Terra-Luna crash in 2022, has recovered by 60%, with the main beneficiary base shifting from crypto-native financial firms to the automotive sector (42% of tokenized private credit in 2023). But most important for the industry was the emergence of a completely new type of RWA product (tokenized treasuries). Tokenized treasuries aim to dethrone stablecoins, which currently account for the largest share of RWA. Sought after by both retail and institutional investors and experiencing sevenfold growth in volume, Treasury securities bring stability to blockchain, an integral component of maturity. It looks like we’re approaching the most important year ever for RWA tokenization.

The leading blockchain technology developments of the last few years deal with various transaction optimizations and help provide greater efficiency, security and scalability. For example, the development of layer 2 solutions such as zero-knowledge proofs or optimistic rollups has helped increase the throughput of primary blockchains, reduce transaction execution time, and significantly reduce and stabilize networks’ gas fees.

While L2 highlighted the capabilities of individual blockchains, cross-chain communication projects worked towards creating extra network value. Improving the ease and security of interoperability has brought greater usability to the web3 ecosystem as a whole.

Alongside these developments, new services have emerged that increase the efficiency of RWA tokenization. Maple, Centrifuge, Backed and others have taken well-researched concepts like defi, liquidity pools and secured lending and applied them to traditional finance. This allowed its users to invest in real-world corporate bonds across different jurisdictions, get a slice of the private credit pie, and take out tokenized debt from corporate lenders.

In early 2023, Ondo Finance launched the Ondo Short-Term U.S. Government Bond Fund (OUSG), which offers investors access to a tokenized version of BlackRock’s iShares Short Treasury Bond ETF (NASDAQ: SHV). Although OUSG rose only slightly above the $110 million total value locked in one year, it marked the beginning of a new, much more subtle trend: the rise of tokenized U.S. Treasuries.

According to the Fed’s research and data from DeFi Llama, the total share of real-world assets in defi has more than doubled from last year. While this can be partly attributed to the launch of institutionalized infrastructures such as Goldman Sachs’ Digital Asset Platform (GS DAP) and JPMorgan’s Tokenized Collateral Network, tokenized private credit and digital bonds alone cannot explain the evolving dynamic of the overall market. Instead, special attention should be paid to the issuance of tokenized U.S. government short-term debt.

Following ongoing Federal Funds Rate increases, which is a natural market dynamic, investors may have turned to short-term risk-free debt. Another part of the equation is the collapse of abnormal returns in the crypto world. According to Coinchange’s Defi return benchmarks, the minimum risk return on Defi fluctuated around 4-5%. This not only significantly compressed the spread on Treasuries, but sometimes even pushed it into negative territory.

Although tokenized asset markets show some signs of maturation in 2023, many unanswered questions still hinder the transparent development of the RWA industry. The most important of these is, of course, regulation: unless there is a clear normative framework or precedent for bankruptcy in one of the major jurisdictions, one cannot be sure that tokenized assets represent the same claim of seniority to the underlying asset. from a legal perspective. Another degree of freedom is how the infrastructure will evolve to provide efficient access to tokenized asset markets.

Still, the rise in broader adoption of RWA is expected to continue into 2024, with tokenized treasuries becoming the biggest beneficiary of the revived interest. I see this asset class as a perfect product market for risk-averse defi investors: unlike stablecoins, tokenized treasuries are immune to trust jolts, absolutely safe as long as the underlying smart contract is diligently audited and generates returns. In fact, we have already seen the beginning of the overhaul. As of April 2024, capital allocation to tokenized U.S. Treasury securities exceeded $1.09 billion; This is an almost tenfold increase from $114 million at the beginning of 2023.

In my opinion, such a warm welcome calls for an urgent expansion of the scope beyond the most obvious solution; especially since tokenized Treasuries are not a one-size-fits-all instrument. Sukuk, an almost trillion-dollar market growing at a compound annual rate of 19.1 percent and the closest analogy to bonds in Islamic Finance, will be the next market to emerge in the chain. Islamic Law prohibits investments in interest-bearing securities as these are considered usury (a haram activity), so conventional bonds are not available to devout Muslim market participants. Instead, Sukuk gets around the ban by providing partial ownership of the asset and claiming a portion of the cash flow generated. I think the potential tokenization of Sukuk will offer the Muslim community a safe transnational halal on-chain investment opportunity and take digital Islamic Finance to a new level. With the gradual rise of regional crypto markets in MENA and the continued participation of corporate and governments in infrastructure investments, I think a potential on-chain Sukuk will have a well-matched target audience.

Predicting the rise of digital bonds does not mean that stablecoins are extinguished yet. On the contrary, 2024 could finally bring competition and diversity to a market that has long been effectively divided between Tether and Circle. From controversial concepts like USDe to new entrants to trusted models like the Ripple stablecoin, the sleepy stablecoin market is experiencing a shakeup. In this context, given that gold has been in the media spotlight after reaching an all-time high price level, I think the most overlooked opportunity here and deserves special attention is gold-backed stablecoins. While not a brand new concept, its previous realizations lacked technical excellence and liquidity and attempted an ill-timed market penetration. In a turbulent reality where Costco’s gold bars are being swept off the shelves, I think it’s only a matter of time before the promising idea evolves into a new version.

Overall, tokenized real-world assets appear to have successfully passed the initial stage. In my opinion, 2024 will bring wider adoption of existing instruments, especially tokenized Treasury bonds, and will drive competition and innovation, especially in the Sukuk, fiat and gold-backed stablecoin markets.

Alex Malkov

Alex Malkov is the co-founder of HAQQ, an ethics-first blockchain platform that emphasizes real-world assets. He brings extensive legal advisory experience gained from his work with leading blockchain and fintech companies, including AAVE, Bequant, Scalable Solutions and Nebula. Its legal and regulatory knowledge ensures HAQQ is compliant with wider legal frameworks. Having worked in the legal field for over a decade, Alex spent seven years focusing on web3 projects. His expertise is crucial to navigating the complex legal landscape of blockchain technology.