What You Should Know

You’re currently reading Crypto Long & Short, our weekly newsletter that covers insights, developments, and analysis essential for professional investors. Sign up here to receive it every Wednesday.

Tokenization holds the potential to revolutionize capital markets, offering real-time settlement, broader investor access, and enhanced programmability throughout financial infrastructure. Despite this progress, existing models for tokenized equities are still disjointed and lack transparency, deviating from the protective measures characteristic of traditional securities markets.

Two main approaches dominate the field today:

• Wrapper Model: This model provides synthetic exposure to existing equities through tokenized IOUs instead of direct ownership. Holders of these tokens do not possess governance rights or enforceable claims on the base shares, and transactions are usually confined to internal ecosystems with restricted liquidity.

• On-Chain Issuance Model: This creates a digital share class directly issued via blockchain. While this aligns more closely with legal definitions of security, it complicates operational matters and scalability. Effective engagement from issuers is required for participation, yet liquidity remains scattered between tokenized tokens and conventional securities.

A critical need exists for a tokenization model that fuses the benefits of tokenization with the structural and protective attributes of traditional capital markets. Fortunately, such a model exists in the form of Depository Receipts (DRs).

For more than a century, American Depository Receipts (ADRs) have facilitated the trading of foreign equities in the U.S. through a regulated, custody-secured mechanism. This framework can seamlessly connect traditional securities with tokenized infrastructure, providing a scalable and legally robust foundation for contemporary equities.

The Case for Tokenized DRs

Leveraging blockchain technology in conjunction with DR operational frameworks allows market players to enhance participation and offer real-time asset servicing while maintaining investor protections.

Additional Benefits include:

• Preservation of shareholder rights, allowing token holders to benefit from dividends and governance rights.
• Clear duties separation by employing a regulated custodian bank to safeguard underlying shares.
• Regulatory acknowledgment, as ADRs are classified as securities under U.S. law, enabling fractionalization of shares.
• Full fungibility and market access, ensuring ADRs can be converted for underlying shares on the same day.

As tokenization evolves, introducing the ADR structure to tokenized equities is a logical and necessary advancement.

Note: The perspectives mentioned here reflect the view of the contributors and may not correspond to those of CoinDesk, Inc. or its affiliated entities.