A large portion of crypto news of late has involved the tokenisation of real-world assets (RWA). As crypto continues to become a more integral part of everyday life, regulators are met with evolving challenges that are difficult to nail down.
Real-world asset tokenisation looks to be a major force in the near future. Though the market shows a great deal of promise, there are inherent market infrastructure, legal, and regulatory challenges that will need to be hashed out first.
What is the tokenisation of real-world assets (RWA)?
As crypto prices continue to rise, more eyes are shifting to the integration of real-world assets. Within the realm of blockchain technology, RWA refers to physical assets that have inherent value becoming tokenised assets.
Essentially, this creates a convergence of physical assets into the digital space, allowing for fractional ownership and the lowering of common barriers for crypto adoption like high prices. It also creates greater liquidity and transferability of these assets.
Because these assets are linked to physical assets, there is less volatility compared to traditional cryptocurrencies like Bitcoin and Ethereum. All of these factors converge to make digital currency adoption more enticing to more common, traditional investors.
Regulatory Challenges
Regulatory challenges are perhaps the biggest facing the tokenisation of real-world assets. Because of the global nature of cryptocurrencies, it is tough to find a unified stance across the globe when it comes to regulating these assets.
Jurisdictional fragmentation across different countries and regions has created a broad, varying regulatory framework. Because of that, cross-border transactions have become a bit complex and risky.
More often than not, tokenised RWAs fall under existing securities laws. These often have strict adherence to Know Your Customer (KYC) and Anti-Money Laundering (AML) regulations. This adds a layer of complexity and operational costs for businesses.
Legal Challenges
Perhaps the biggest challenge when it comes to the tokenisation of real-world assets is legal recognition of ownership. Digital token ownership has always been a broadly understood thing but that changes with the connection to physical assets.
Regulators and lawmakers are finding it challenging to ensure that digital tokens are being recognised as a legal claim to that underlying asset. More often than not, a more robust contractual and legal bridge is required to make the connection between off- and on-chain assets.
Market Infrastructure Challenges
There are also challenges as it relates to market infrastructure and liquidity. For instance, tokenisation may enable potential liquidity, but the trading volume for many of these asset classes, like private credit or real estate, remains low because there are fragmented platforms and a lack of market makers.
Valuation of RWAs is a major challenge as well. Things like private credit or even fine art, which have no standardised appraisal methods, make it tough to achieve price discovery. Moreover, creating an accurate “marking to market” becomes a major difficulty for investors.
Finally, there is a general issue with investor trust and education. It has been one of the major barriers in terms of cryptocurrency adoption. A lack of awareness, not to mention scepticism regarding the security of blockchain technology, continues to keep more traditional investors on the sidelines.
The 3 Biggest Challenges Facing RWA Tokenisation
Though it has become an exciting area of blockchain technology, RWA tokenisation is challenging for many reasons. The benefits – faster transaction times and cheaper fees, fractional ownership, lower adoption barriers – are certainly there but there are major issues to navigate first. These are perhaps the three biggest challenges facing RWA tokenisation.
1.) Court Acceptance
Consumer and marketplace acceptance of any asset is tough enough. Ownership and token legitimacy (more on that below) are major challenges that only become exacerbated when it comes to gaining recognition from the courts.
A common legal proceeding sees the transfer of ownership of an asset from one party to another. Judges can force transfers through traditional proof of ownership methods like a court order deed. Compelling on-chain transfers are a lot tougher.
Without that capability built into the token’s contract, which introduces security risks and layers of complexity, there is uncertainty regarding these proceedings. Judges would then need to have access to private keys or to force the account owner to perform the transfer, which can get dicey from a legal standpoint.
2.) Token Contract Security
Efficient as they may be, smart contracts – including non-fungible token (NFT) contracts – often contain vulnerabilities that can be exploited. There has been no shortage of blockchain smart contracts that have been hacked, costing millions of dollars in assets in the process.
Such a hack relating to tokenised real-world assets would create substantial uncertainty as it pertains to the ownership of that specific asset. If an attacker forces a transfer through exploitation, how will it be proven that the transfer of ownership was done under nefarious means? If so, will it invalidate that NFT and result in a new one being issued?
There are no solid processes in place within the decentralised finance (DeFi) space, which is why greater adoption of tokenised real-world assets hasn’t taken off fully. It can be difficult to tell the difference between a hack and a rug pull in the digital space, which creates major challenges pertaining to ownership and that is perhaps the greatest hurdle facing the tokenisation of real-world assets and their greater adoption.
3.) Proving Token Legitimacy
It isn’t hard to create an NFT on virtually any smart contract platform. In fact, you are likely to run into an NFT template with fewer fields to fill in that still has a functional token contract. Just a few clicks and new NFTs are born all the time.
That said, there isn’t inherent value in NFTs, especially when you consider that 95% of NFTs in existence have zero value. Because of that, it has become challenging to prove the legitimacy of these tokens. Attaching them to external sources of value – like digital art – has become the norm.
Going forward, proving ownership as it relates to NFTs remains a tough task. We have seen far too many fake NFTs created that confer ownership of art without the consent or knowledge of the original artist. Proving ownership only becomes tougher with RWA tokenisation.
For things like art, luxury goods, real estate, and more, there are processes established for transferring and claiming ownership of those assets. Without clearer regulations regarding NFTs and records of ownership, their legitimacy will continue to be disputed.
A Major Part of Crypto’s Future
Make no mistake about it, RWA tokenisation is not going anywhere any time soon. If anything, it is expected to grow exponentially in both the near and intermediate future. How countries and regions handle the aforementioned challenges will play a major role in the growth of RWA tokenisation.
The potential for greater adoption makes it one of the most enticing aspects of digital investment. Lowering the costly barriers introduced by Bitcoin and Ethereum could see an explosion of user adoption around the world.
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