With the SEC promising to issue “plain English” guidance on security token analysis and the industry waiting for the first SEC-approved security token offering (STO), could 2019 be the year that security tokens become the fundraising tool of choice?
Security token offerings are well on their way to becoming a secure and stable method of fundraising. Last year as the number of initial coin offerings (ICOs) began to taper off, STOs were already taking over as an acceptable way of raising money.
Unlike utility tokens, where there are normally few (if any) rights accruing to the token holder, security tokens can offer investors ownership over a company’s tangible assets in a similar way to stocks and bonds, and they can represent the right to receive dividends, profits and voting rights.
In short, security tokens can be structured in accordance with securities regulations so that token holders’ rights can be very similar to what they would have if they had bought shares in a publicly traded company.
STOs in numbers
It’s no wonder then that last year more than 1,200 STOs were launched globally, according to a report published by InWara Research. In the U.S., despite the SEC not having approved a single STO, the number of launches grew by 60% from 174 in 2017 to just under 300 STOs by Q4 2018.
Although investments and trading STOs are still the most popular according to InWara, there are so many other use cases for security tokens. Security tokens that are held on the blockchain can be fractionalized, and this makes it possible for retail investors to put very small amounts into offerings from cutting-edge venture capital projects such as healthcare and gaming, to impact investing or real estate.
Working towards a legitimate new asset class
Many of us in the industry are working hard to develop security tokens, and the infrastructure that supports them, to be firmly in line with securities and regulatory requirements. With sound infrastructure in place security tokens can offer a wider range of investment opportunities to the investing public, with the possibility of secondary market liquidity.
In the U.S., security tokens can be issued under either Regulation D, Regulation S, Regulation A+ and Regulation Crowdfunding exemptions, all of which operate under different criteria. For example, the Regulation D exemption is usually used for accredited investors only and involves a minimum period that investors have to hold their tokens before they can be sold. Regulation A+ offerings, which have to be qualified by the SEC, allow non-accredited investors to invest and there are far fewer restrictions on resale. Nevertheless, all the regulations specify that token issuers must be accountable for their actions.
It is a nascent industry, but it is evolving quickly. A move to create quality investment products can already be seen from the increasing number of SEC filings for security tokens, and the foundations are being laid for an institutional-grade secondary market. Institutions are developing their own digital products. For example, Intercontinental Exchange (ICE) is about to launch Bakkt, a digital asset exchange.
Using trusted market infrastructure and creating high quality tokenized equity solutions for early stage companies will revolutionize the way we invest.
Waiting for the green light from regulators
Yes, we are still waiting for further guidance from the SEC, but there is pressure from all sides to bring regulations in line with more dynamic markets such as Switzerland.
Late last year, a bi-partisan bill was introduced to Congress which attempts to modernize the U.S. securities laws. The “Token Taxonomy Act” bill, introduced by representatives Warren Davidson and Darren Soto requests the removal of digital tokens from the definition of a security and requests that cryptocurrencies receive their own set of rules.
The aim is to provide light-touch regulatory certainty for businesses, entrepreneurs, and regulators in the blockchain economy and encourage innovation in the sector.
The Token Taxonomy Act is by no means a quick solution-it will certainly be some time before we see a vote. However, the discussion and clarification that emerges as a result will encourage excellence in innovation within the industry.
Security tokens can provide a valuable investment tool to tap into a growing number of alternative investment opportunities in global markets, with the very real possibility of secondary market liquidity.
We are all looking forward to the moment when the SEC qualifies the first STO offering, as that will indicate that the necessary market infrastructure components to support the burgeoning STO markets are now in place.