The definition of STO and its difference from asset securitization and token.
What is a STO?
New financing method based on the concept of Bitcoin, blockchain had become the biggest thing in 2017. The “A coin, a villa” dream was given by senior player in the investment game. But even more people ranted about the mess that ICOs caused. Projects that based on ICO are endless, scamps and fraud are everywhere. In view of the confusion caused by ICO to the market and the lack of regulation, governments have ordered the prohibition of financing activities in the form of ICO.
However, technology or so do “player” will find its way out, that’s how STO (Security Token Offering) are born. STO is gradually becoming an effective alternative to private asset securitization and venture capital financing.
STO, which stands for Security Token Offering, refers to a movement taking place at the Initial Coin Offering (ICO) stage. Nisebank introduced the concept, which features a new business model that mitigates risks for investors. With an ICO, investors can purchase tokens during an offering and such tokens can be traded, sold, or held. Further, the security tokens are essentially financial securities and therefore, they are backed by tangible assets, profits, or company revenue.
Seems similar, but its not the same. Wait…what?
In another words, ICO used as payment or a transfer medium within an ecosystem for the purchase of goods or services in blockchain. STO is more like a “bridge” between traditional financial and the world of blockchain.
STO is in the between of IPO and ICO. STO accepts the supervision of securities regulatory agencies of the government because it recognizes its securities characteristics. Although STO is still based on the underlying blockchain technology, it can be interfaced with the regulation through technical updates. While compared to the complex process and time-consuming of IPO, STO is more efficient and easier to distribute.
What is the essence of the token economy?
There is no doubt that ICO and STO both are one of a kind in the token economy. The innovative outcomes of token economics and blockchain are evolving blockchain product categories, as well as the growing difficulties in the development of blockchains. It will be solved with the relevant concepts of token economy. Therefore, a variety of blockchain innovations such as stable currency and STO have emerged. In fact, token economy is the theoretical basis of blockchain.
But what is Token, what does it stand for?
Token are like the “rights” in the blockchain world. Coin are one of the forms of its expression. In the world of blockchain, both Bitcoin and Ethereum are widely known. Both are classified as a practical pass due to their wide acceptance and high liquidity characteristic. There are a lot of cryptocurrency out there, trying their best to “become” either Bitcoin or Ethereum, such as Litecoin and Dogecoin, have not yet reached the applicable standards recognized in the industry. According to the SEC (Securities and Exchange Commission) preference, it is convinced that under the classification of the utility certificate and the securities certificate, all tokens except Bitcoin and Ethereum have securities characteristics.
Token economy is not sharing economy. Sharing economy often used to describe economic activity involving online transactions[i]. Originally growing out of the open-source community to refer to peer-to-peer based sharing of access to goods and services[ii], the term is now sometimes used in a broader sense to describe any sales transactions that are done via online market places, even ones that are business to business (B2B), rather than peer-to-peer(P2P).
Token economy is the creation of a community with a token incentive system that inspires everyone to join and create value, to build an ecosystem, rather than exchanging values but creating new values (trough mining). Token economy is a new economic model based on the stranger and the temporary transfer of the right to use the item for the purpose of obtaining certain compensation.
Each block of the blockchain project is trying to use the issued currency (Token) as an economic incentive tool to promote the cooperation of various roles in the ecosystem. The more your contribution, the more coins you will get. The better of cooperation, the higher the price of the coin goes. Each of the blockchain projects is trying to design a token economic system. The design of the general economic system is to use economic incentives to make everyone play their roles in the entire ecosystem.
What are the extensions and risks of STO for asset securitization?
The expansion of STO to asset securitization
As a major expansion point of STO development, asset securitization is the key node in the future how to become a landing application. STO has a wide range of applications, which can tokenize traditional assets and increase its liquidity.
Take private equity financing for example: after the equity of the company’s stock, more investors can easily participate in the purchase of smaller trading units, in a short period of time to complete the financing.
From the specific application field, STO has brought many changes to the asset securitization industry. However, its application areas must meet the following characteristics:
- Have intrinsic value
- Automatic compliance and quick liquidation
- Ownership can be constantly split
- Venture capital can be democratized
- Assets are interoperable
- Its circulation can increase liquidity and market depth
Projects with the above six conditions are most suitable for STO operations.
For example, company shares, profits, real estate, these company have real assets or income as a value support. If assets are securitized, they need to obtain approval and permission from the regulatory authorities to automate the KYC/AML mechanism and achieve instant clearing settlement.
Similar to the characteristics of cultural property exchanges and stock exchanges, assets after STO will accelerate the division of asset ownership and lower the barriers to entry of high-risk investment products, such as real estate and art. Once they are STO, they can broaden their model of raising funds and make their products available on the Internet for sale. They enable many different types of software to exchange and utilize information (TCP / IP, SMTP, FTP, SSH)., HTTP). The standardization of assets will facilitate the exchange of different quality assets.
However, technology is by no means omnipotent. The free flow of trade and capital depends not only on technical factors, but also on international politics, financial policies and institutional arrangements. On the other hand, securitization is not a new proposition for finance. For financial innovation, it is more important to control risk than to improve efficiency.
Risks that may cause by STO
Excessive asset liquidity can lead to huge price fluctuations
Both ICO and STO have accelerated the pace of startup financing for startups. STO may allow a start-up to become a publicly listed company directly, with many ST holders. Due to the uncertainties of startups, these uncertain signals may cause the price of the certificate to fluctuate drastically. Most start-ups will close down within five years. Many founders even hope to re-privatize the company.
Financial innovation leads to investor losses
Both ICO and STO face difficulties in identifying qualified investors. In the financial markets, the core function is to provide investors with more investment channels than financing. Various investments in the blockchain sector have led to heavy losses for investors.
So… it’s possible that STO will be another new type of financial innovation to accelerate investor bankruptcy.
Analysis of the Prospects and Development Bottlenecks of STO
In general, STO is to meet regulatory requirements, essentially the replication and optimization of existing applications in the blockchain.
It has the following advantages: better liquidity, automated management at the protocol level, 24-hour trading, smaller trading units and overall better liquidity.
In fact, these changes that STO can bring to digital asset investment are obvious to all. Frist is to purify the market environment, reduce the risk of market investors, and avoid the frequent occurrence of bad money to drive out good money. Second, STO will accelerate the democratization of venture capital, and the securitization token can be used as a financing tool. More importantly, it has opened up an effective and broad capital financing shortcut for the company. Finally, the traditional illiquid assets are flowed, and the securities tokens allow the issuer to determine part of the ownership.
STO has the following advantages
1. Easy to regulate
The project STO usually has the following characteristics: the project code is supervised to prevent the loss of investors due to serious loopholes; the project conducts compliance review to see if the industry involved in the project complies with local laws and regulations; There is a false team background; after KYC anti-money laundering investigation; the issuance of the certificate requires endorsement of physical assets, company profits, etc.
After the project STO is screened, it can filter out some of the inferior blockchain projects, reduce the risk of investors suffering losses, and at the same time purify the current chaotic market environment, avoid the emergence of bad money to drive out the good money, and make the project more convenient. Regulation and supervision.
2. Broaden financing channels
The threshold for investment usually is very high. The breakthrough development of STO securities-based pass technology will break this situation.
STO can accelerate global capital flows. Anyone can invest in securities-type products that he or she believes to be valuable at any time and in any territory, which increases the global liquidity of quality assets. In the future, quality assets can be in the form of a certificate. Distributed accounting can mark other illiquid assets like real estate and art. A token allows the issuer to have partial ownership. For example, even the most expensive property, as long as it is marked as a token, can be divided into a portion that anyone can afford.
3. Reduce financing costs
You can put it this way, STO is an upgraded version of IPO in the era of blockchain, its financing efficiency, financing time, financing cost, information symmetry, financing region are all better than IPO.
STO eliminates the need for intermediaries, which simplifies procedures, saves time, increases speed, and reduces costs. As the number of intermediaries has decreased significantly, the possibility of corruption and manipulation of financial institutions has fallen dramatically and may even be eliminated from the investment process. The removal of the intermediary results in the transfer of responsibility in the transaction to the buyer or seller. Creators may not be able to successfully perform transaction underwriting, marketing material preparation, investor interest collection, high level safety insurance and compliance monitoring.
The IPO process involves restructuring and setting up joint stock companies, due diligence and counseling, financial auditing, legal opinion preparation, pricing and issuance. With the development of blockchain technology and smart contracts, there is the possibility of transforming traditional IPO. By reducing IPO costs, process costs after securities listing, clearing settlement costs, and listed corporate governance costs. For example, some financial auditing processes can be deployed to the blockchain through smart contracts. As long as the collected data is transmitted to the smart contract under the chain, the report can be automatically generated, so that investors can openly and transparently query financial affairs of the enterprise in anytime. In addition, the legal opinion production process can be a lawyer’s selection of some options in the Excel form. This part can also be intelligently contracted, so that the lawyer’s opinions can be clearly and intuitively presented to the relevant parties.
Different from a traditional stock, in the process of STO, once the transaction is completed and cashed out to the wallet, it will have completed the delivery. Traditional stock exchange needs to be settled by the accounting center, which may take several days.
STOs are registered with the Securities and Exchange Commission (SEC) and they take advantage of securities exemption such as Reg A+. They, therefore, have a lot of similarities to shares. For example, tokens issued in STOs give investors some rights to the firm or organization issuing them. The registration with the SEC is one of the ways in which STOs promise to offer more security to the investor. This is because the registration with the regulator discourages fraudulent individuals, thus allowing only the projects that are legitimate and serious about their pursuit. The registration process is also similar to the registration process for Initial Public Offers (IPOs) and this not only a positive step for investors, but it should also eliminate government concerns.
In addition to the United States, the European Union has also implemented certain regulations for the issuance of securities. States within the EU make their own specific rules based upon directives, which is someone similar to the United States’ federal and state-specific securities model.
Back to the United States — regulations require that those interested in issuing a security draft and file a prospectus and get it approved by a securities regulator. There are also certain exemptions that may apply and that users should look into when it comes to their security.
The solution to STO development
It is undeniable that any new things will undergo a tortuous development process, as is STO. The compliant STO trading platform is still in short supply. A series of standards and restrictions on securities-based tokens need to be formulated and improved. The regulatory policies of government are uncertain. There are still many problems and challenges in the popularization of STO. The blockchain itself is an unknown social experiment. STO is still in its early stages, and its still has a long way to go.
1. Establish a government-backed Chinese STO market
Government support and promotion are essential to the development of STO. In order to ensure that STO can play its role in China’s economic construction, the Chinese government has adopted a series of measures: refer to foreign cases, STO and the asset securitization market will be effectively integrated. A series of legal provisions need to be promulgated, and the construction of the regulation system need to be continuously strengthened, and the market safety standards of STO have been continuously improved and improved. In order to attract more investors, relevant departments have continuously improved the development environment through macro-control methods. At present, there are some obvious drawbacks in terms of asset management in China. The lack of management capacity and the fact that the poor are indisputable, so if commercial banks want to launch new industries, the risks may be higher, but they are vigorous in the government. With the support, investors will inevitably increase their confidence in STO and will eventually achieve the stability of China’s financial market.
2. Improve asset securitization and STO legal system
At this stage, there are some shortcomings in the legal provisions of STO, and there are some contradictions between relevant regulations and STO. If the relevant laws and regulations still can’t keep up with the pace of STO, it is easy to cause asset disputes.
•If they want to improve the development of STO, they must not only do their best to develop the securities of STO, but more importantly, improve the laws and regulations of relevant STO. The China Banking Regulatory Commission’s policy for investment companies allow them to carry out STO, but the laws and regulations related to other infrastructure income such as housing rents are still blank. Therefore, the primary measure to improve STO laws and regulations is to formulate laws and regulations that clearly regulate business operations and operational responsibilities.
•In view of the uncertain situation of STO, special assets should be considered to establish securities regulatory authority or institution. Financial enterprises are directly attribute to the central bank, and conduct professional ethics assessment and training. With reference to relevant laws, policies and regulations, they are committed to securitizing transactions for STO sponsors. Under the guidance of the trading entity, participate in relevant policies, fair public supervision and strengthen supervision of the securitization market.
•The laws and regulations of SPV need to be further improved, the conditions for entering or exiting financial markets are strictly regulated, and the laws related to this aspect need to be standardized.
•Add or modify legal provisions to allow SPV to become a major issue bond and commercial bank income bond, SPV clear responsibility and rights which based on asset purchase plan.
•The promoters of the expansion of STO are more attractive to investors.
3. Improve the STO information disclosure mechanism
The measures taken to manage the underlying asset pool are through the SPV law enforcement of asset pools, the bankruptcy of asset-backed securities. The purpose is to support the payment of principal and interest by cash. For the current loan business of financial institutions such as commercial banks, relevant departments require financial institutions to establish corresponding databases and implement strict control and supervision. This database needs to integrate all the information related to the loan business, including default rate and cash flow value related to the loan repayment. By mining the information hidden by these data. It can effectively supervise the financial institutions in order to achieve the purpose of reducing the probability of occurrence of the risk.
4. Improve the legal supervision of China’s STO special purpose vehicle (SPV)
The goal of setting up SPV is to isolate risks to ensure investor returns. SPV has independent legal personality, the control of the intermediary is actually controlled by the SPV promoters. The unexpected risk posed by SPV allows the sponsor to manipulate the carrier to deviate from the intended or unrelated business. Therefore, in order to avoid such unexpected risks, it is necessary to take restrictions on the establishment of SPVs, while simplifying the process of setting up, reducing costs, and adopting mandatory measures through legislation to ensure that promoters cannot make investments by manipulating SPVs. For example, it can be clearly stated that only financial institutions have the right to set up SPV, and the initiator of SPV cannot be the enterprise associated with it.
In the development of blockchain technology innovation and application ecology, token plays a very important incentive role. However, there is more debate between regulation and market for token issuance and circulation. Regardless of how blockchain technology develops, token regulation is an inevitable topic. How to supervise tokens involves not only project sponsors, teams, exchanges, investors, retail investors, government regulators, third-party regulators, but also laws and regulations, national policies, administrative regulations, etc. The problem involves how to deal with the connection of real-world assets and digital assets on the chain, it will be involving financial stability, industrial development, and deficiencies, involving the use of science and technology. Traditional financial management ideas and methods have been difficult to adapt to the management of new financial services which based on the blockchain technology. This requires regulators to innovate and break through their thinking and ideas. In another word, STO is more likely to be a sociological experiment.