A Simple and Complete Security Token Guide
It's no secret that security tokens are one of the hottest topics in the crypto space right now. Their introduction has already sparked a lot of excitement, and most crypto enthusiasts believe these tokens will revolutionise the financial industry completely. In this article, we will cover everything you need to know about security tokens.
To understand security tokens, you must understand the two terms making up the phrase, that is, securities and tokens.
So, what are Securities?
Securities are tradable financial assets like bonds, shares (stocks), derivatives, debentures, and warrants. They are issued by companies or governments and give ownership rights, debt rights, or trade options.
As a holder of, for example, a company's stock, you get ownership rights to the company's dividend payments. Every time the company makes dividend payments, you get a share.
What are Tokens?
Tokens are a representation of something in their particular environment. It could be value, stake, or voting rights. In the crypto world, tokens represent an asset or utility.
Tokens often function as transaction units on a blockchain. They give their holders a right to participate in a network. They may also perform the function of digital assets. They can, for example, represent a company's shares (Stocks).
Tokens are usually offered to the public during a sale called ICO or Initial Coin Offering.
What are ICOs?
ICOs or Initial Coin Offering is a way to raise funds for blockchain-based projects. Many startups and companies highly appreciate it as it is easier, faster, and cheaper.
As the blockchain world is highly unregulated, there are no restrictive laws when it comes to ICOs. Anyone can implement an ICO. This fact also makes it quite a risky venture.
How it Works
Firstly, the company looking to raise money issues a limited amount of tokens. Issuance of a limited amount of tokens ensures the tokens have value, and the ICO has a goal.
As an interested investor, you can buy into the offering using fiat currency or other cryptocurrencies and get the tokens. The tokens may have some utility or represent a stake in the company or project.
If the tokens have some utility, then you have access to the product or services offered by a blockchain-based company. These tokens are commonly referred to as utility tokens.
Utility tokens are designed for spending within a blockchain-based project. They are quite popular in the crypto world as they have been the reason behind the success of many startups. Their ease of production is also another reason why they are so popular.
Besides Utility tokens, there is another form of tokens. Tokens that represent a stake in a company or project, the reason why are actually here in the first place, Security tokens.
Security tokens are digital assets that represent an investment in a company. They derive their value from an external tradable asset and entitle their owners to ownership rights. As securities, they are subject to laws that govern securities.
If the ICO offering security tokens doesn't follow the set rules and regulations, there could be severe repercussions that include penalties.
Security tokens may be new to the crypto world when compared to utility tokens, but they are already turning heads. Many crypto advocates see security tokens as a way out of scalability problems facing the crypto world.
The ability of security tokens to enable the tokenisation of digital and non-digital assets makes them useful for almost any industry and application.
Examples of Security Tokens
BCAP token is a security token generated by Blockchain Capital, a venture capital firm investing in blockchain universe companies. BCAP is one of the very first security tokens in the market. The company conducted the first STO in 2017, which sold out after 30 minutes.
SCI Security Token
Science Blockchain issues SCI security tokens and is a fund and incubator focused on blockchain investment. The company has co-founded and invested in more than 70 companies, including DogVacay, FameBit, Mammoth, and Dollar Shave Club.
Siafund token is generated and issued by Sia, a blockchain-based cloud storage platform. Holders of the Siafund token are entitled to a portion of the network's fee paid by people renting the storage space.
Advantages of Security Tokens
The several advantages that come with security tokens include;
Traditional financial transactions can be pretty expensive when you consider all the intermediary services involved. These services come with fee charges that are usually not very pocket-friendly.
What security tokens bring on board is the blockchain technology and smart contracts. Smart contracts powered by blockchain technology facilitate trustless transactions that are cheaper, secure, and transparent. With blockchain in play, intermediaries are cut off, thus no more high service fees.
Speeding up execution
Traditional financial institutions are infested with plenty of intermediaries who tend to slow down execution speeds.
It's not just slow execution speeds, human-errors also emerge when a single transaction has to pass through several hands to get to its destination.
Security tokens bring automation to the table, making KYC and AML checks faster and efficient, which makes selling assets to investors faster. By eliminating intermediaries, execution speeds also become faster and more reliable.
Eliminate Illegal Activities
The highly unregulated crypto world has become home to many scammers and thieves thriving on illegal activities that put money in their pockets. It is one of the reasons why many people are wary of the market.
Security tokens open up the crypto market to regulations, which deter illegal activities. With rules, companies have no choice but to adhere to the set regulations or risk severe consequences. Besides penalties, the companies that fail to comply can also be shut down.
Exposure to the Free Market
Currently, investment transactions are extremely localised. For example, it's tough for Chinese investors to invest in private US companies and vice-versa.
Security tokens based on blockchain networks make it possible for anyone across the globe to access and trade with the tokens. The use of the internet makes the whole process easy and efficient. Global exposure also increases the number of investors on the network.
Access to Illiquid Assets
Illiquid assets like real estate, collectables, and art are usually hard to sell because of a lack of buyers or open market. From an investment point, they tend to have more risk attached to them than other tradable assets.
Security tokens reduce the risks associated with illiquid assets through tokenisation. Tokenizing an illiquid asset, makes it easy to buy and sell anywhere in the world. Security tokens also enable fractional ownership of an asset.
Disadvantages of Security Tokens
Crypto advocates look at crypto regulations as a double-edged sword. On a positive note, regulations help bring some sanity to a highly unregulated world. On a negative note, they defeat the whole purpose of a decentralised, trustless ecosystem.
Regulations usher in a strict set of laws that may lock out many potentially productive projects and companies. This can hinder or slow down technological advancements.
For example, currently, in the US, you have to be an accredited investor to invest in security tokens. To be an accredited investor, your net worth should be more than $1 million or have a yearly net income that is more than $200,000.
Regulations also give power to third parties, government institutions, bringing into the blockchain ecosystem the same problems facing traditional financial institutions.
In the US, the SEC, an independent federal government agency, is working very hard to control whatever happens in the crypto world when it comes to security tokens.
How to Identify Security Tokens
The easiest way to identify security tokens is with the Howey Test, which has two questions:
- Is the token being sold as an investment?
- Is there a person under who the investors rely on?
If the answer to both questions is yes, then the token qualifies to be a security token.
Security Token Issuance Platforms
Polymath is a blockchain-based platform that simplifies the process of creating and selling security tokens. The platform involves three layers, an application layer, a legal layer, and the protocol layer to ensure your security token is compliant and stays compliant.
Securitise is another blockchain-based platform that provides specialised tools for issuers and investors of security tokens. The company is based in San Francisco, USA, and has managed to raise more than $30 million since it started.
Harbor is a blockchain platform that is designed to launch security tokens and help them comply with existing regulations. The platform can track security token trading and investor's real-world identity in real-time, ensuring the tokens sales stay compliant at all times.
While security tokens may be a new invention in the crypto space, there's no doubt that they are the future of investments. From faster execution speeds to cost-effective transactions, security tokens have the potential to change the financial sector completely. Hopefully, this security token guide has helped you to better understand this.
What are your thoughts? Let us know in the comments below!
About the author:
Jay Jackson is a blockchain enthusiast and a freelance writer at topcryptowriter.com. He works closely with brands (people, businesses and startups) in the crypto sphere. He currently writes Blog posts, Guides, Press releases, ICO reviews, eBooks & Whitepapers. You can find him on LinkedIn.
The above references an opinion and is for informational purposes only. Do not take this as personalised financial advice or investment advice. The views expressed by the author do not necessarily represent the opinion of BitPrime.
Last updated: 27/02/2020