With the introduction of Bitcoin in 2009, blockchain technology has become widely accepted. Cryptos and other blockchain-related financing have a reputation for being unpredictable and speculative. However, investors widely acknowledged the value of blockchain technology and other kinds of distributed ledger technology in finance.
JP Morgan, Square, and Facebook, among other large banking and technology companies, have already entered the blockchain field. As blockchain continues to play a larger role in payments systems, such as CBDCs and stable coins, and the context of liquidity, such as asset tokenization through security token offerings, we’ll see more names.
The term ‘tokens’ conjures up images of initial coin offerings (ICOs), a technique of obtaining funds for crypto ventures that became popular in 2017, and this is where we’ll start our adventure.
The acronym STO refers to a security token offering. It’s a similar approach to an ICO in which an investor trades money for coins or tokens that reflect their investment. The security token offering (STO) is the next phase in the evolution of tokens. But what exactly is it, and why does it matter?
What Exactly is An STO?
The acronym STO refers to a security token offering. It’s a similar approach to an ICO in which an investor trades money for coins or tokens that reflect their investment. Unlike ICOs, however, STOs go a step further and distribute tokens that are classified as securities. Stocks, bonds, real estate investment trusts (REITs), and other funds are all connected to an underlying investment asset.
As a result, security token offerings (STOs) are used to distribute securities. Tokens are fungible, negotiable financial objects with a monetary value attached, similar to a piece of property or a firm.
Regular token exchanges do not trade security tokens. Exchanges that intend to enable security token trading must inspect token listings, data sharing, and investors. Therefore, investors can trade security tokens on specialized exchanges only.
What are STO’s Advantages?
During the 2017-2018 ICO craze, many token issuers sold investors bags of tokens with no economic rights, value, or regard for existing securities rules.
Security token offerings aim to have more regulations alternative to traditional token sales. They aim to address perceived investor disparities by giving security token holders rights to dividends or other predetermined revenue streams.
Issuers benefit from STO tokens as well. There’s no need to declare tokens to have no fundamental economic worth, and they usually come with well-stated shareholder obligations for token distribution, issuance, and secondary transactions.
Security tokens also provide the following advantages
The ICO space is in shambles. Many people are duping, and businesses have failed to deliver on their promises, leaving most investors with worthless tokens. On the other hand, STOs adhere to all regulations and allow blockchain and cryptocurrency to regain some credibility.
2. Traditional finance is being improved
Security tokens facilitate services at a cheaper cost than traditional securities, which are slow and expensive because of their antiquated infrastructure and layers of intermediaries.
Smart contracts can enforce security tokens that developers can program.
4. Free Market
Borders or local rules do not restrict security tokens.
5. More investors
Traditional security deals only involve local people, whereas security tokens are accessible to everyone with an internet connection.
6. Institutional manipulation is less prevalent
In theory, a free and open market with fewer intermediaries should reduce market manipulation.
7. More liquidity
You can trade security tokens on specialized security exchanges, allowing investors to liquidate their assets quickly.
Most crucially, security tokens and STOs enable businesses to create new stakeholder groups with a unique debt, equity, and contributor roles. As a result, investors widely believe that security tokens are superior to ICOs. They fix the shortcomings in utility token sales and can improve traditional security.
What is The Best Way To Tell If A Token is A Security?
The Howey Test is the most prevalent approach for distinguishing securities from utility tokens. Its title alludes to a 1946 US Supreme Court lawsuit concerning the Florida-based Howey Company. In short, the corporation leased half of its land to speculators because they would profit from someone else’s labor. But the US SEC did not register the transaction.
When the case reached the Supreme Court, it was unprecedented, causing the creation of a fresh approach to determining what makes up security. As a result, the Howey Test was born.
According to the test, a transaction is secure if it fits the following conditions:
- It is a financial investment.
- The money will go into a shared venture.
- Profit will come from the work of the promoters or a third party.
When a token passes the Howey Test, it will become a security token.
Security Tokens vs. Tokenized Securities: What’s the Difference?
It’s easy to confuse security tokens with tokenized securities. The key distinction is that security tokens are new securities that operate on a distributed ledger. While tokenized securities are just tokenized versions of existing financial products. A security token is essentially a new financial instrument that has security features. A tokenized security consists of a token encasing an existing asset.
Issuing security tokens has nothing to do with tokenized securities, despite their similar appearance and language.
Can You take part in an STO?
STOs are only available to accredited investors in the United States. If you live outside of the United States, however, the accredited investor rule does not apply to you, and you can take part in most STOs. However, there may be other restrictions that apply, so verify with your local authority before investing.
The most significant difficulty that STO platforms confront is increasing regulations.
This increases their administrative costs since mechanisms for custodianship, monitoring the ownership, exchange approvals, Know Your Customer (KYC), AML, and other requirements must ensure compliance with applicable securities laws. Although the procedure is less expensive than a typical IPO, the added upfront labor makes it more expensive and raises the barrier to entry when compared to utility ICOs.
Furthermore, by eliminating some intermediaries such as banks, brokerages, and attorneys, the duty of executing these activities now lies squarely on the shoulders of the organization, adding to the administrative load. Certain nations’ restrictions may also limit who may invest in the Security Token Offering, reducing the entire investor pool.