Northern Trust, a traditional custodian bank, is extending its securities safekeeping and related services to the world of tokenized securities.
Danielle Henderson, Sydney-based head of market advocacy and innovation research for Asia Pacific, says the bank is providing custody services for fixed-income securities that back tokens that list and trade on BondEvalue, a digital-asset exchange based in Singapore.
The move represents another example of global financial institutions gradually moving into the blockchain-based world of digital assets – as well as claiming the first trade of a tokenized bond.
Tokenization is not the same as issuing new securities as digital assets, though. It is a hybrid. BondEvalue focuses on tokenizing fixed-income securities (as the name suggests). That means creating a digital representation of bonds already issued in the traditional manner, being traded in the secondary market.
Northern Trust is therefore taking custody of those bonds on behalf of BondEvalue, which in turn is creating tokens in units it calls “BondBlox”.
These tokens behave and trade like depository receipts in the equities world, says Henderson.
Depository receipts are secondary listings of a company’s stock: for example, Toyota might want its stock to trade in New York, so it issues DRs on the New York Stock Exchange that offer the same economic rights and benefits.
In that sense, a BondBlox is a DR-like instrument that gives tokenholders the economic benefits of a bond and its coupon or other features.
Fractionalization allows for financial inclusion and accessibilityDanielle Henderson, Northern Trust
However, there are some differences. In the equities world, a DR reflects a corporation’s strategy: DRs may be issued to raise additional funding, and are actual shares that confer voting rights.
A BondBlox is more like a derivative such as a non-deliverable forward: it is a synthetic instrument, a contract that mirrors an issuer’s security without the issuer’s involvement.
Holders of these tokens can enjoy the economic benefits of a bond’s performance – its coupon payments, its yield – but do not have governance rights. That means if there’s a default or other credit event, tokenholders won’t have a claim on, say, the issuer’s collateral or other legal recourse: they’d have to build a default scenario into the contract with BondEvalue.
Henderson says the attraction of tokenization is it allows fractionalization. BondBlox are issued in lots of $1,000, unlike the large lots typically issued by big companies, which require investors to trade in lots valued at $200,000 or more.
“Fractionalization allows for financial inclusion and accessibility,” Henderson said. “It brings liquidity to the market because these securities can be bought and traded by a new segment of investors.”
In this case, “inclusion” means private offices and wealthy individuals. BondEvalue, which operates in the sandbox of the Monetary Authority of Singapore, is licensed only for accredited investors, not retail.
Henderson says BondEvalue is drawing up a list of major Asia-Pacific-based corporate issuers whose debt it wants to tokenize for both regional and global investors.
First bond token trade
This week saw the first trade involving tokens of Olam International bonds for cash on the platform, a deal facilitated by Taurus Wealth Advisor – the first local institution that’s a member on the exchange – and broker UOB Kay Hian. Olam is a Singapore-listed food and agri-business company.
Northern Trust serves as an independent custodian, which means it safekeeps the underlying asset and provides services around the lifecycle of those bonds, including coupon processing and corporate actions on the underlying securities. In the traditional world custodians usually provide other cash-management activities, from FX to short-term lending, but those aren’t services it will provide to BondEvalue.
To operate on BondEvalue’s platform required an extra step, integrating onto its blockchain (developed under Hyperledger Sawtooth, an open-source protocol). That is to allow Northern Trust to provide settlement reporting.
“We see the development of digital assets, market infrastructure, and tokenization platforms as an extension of traditional financial markets and our securities-services capability,” Henderson said.
Some processes affiliated with custody – admin, reconciliation – may end up built into the smart contracts governing the tokens. The efficiencies of digital assets’ post-trade processing raises questions about the business models of custodians.
Henderson didn’t comment on this directly, noting smart elements will be built into token contracts: already they incorporate things like coupon terms. In future it will include things like monitoring for regulatory restrictions such as who is authorized to hold the bonds.
“It will be exciting to explore what can be done,” she said, noting Northern Trust’s goal for now is to establish a track record in servicing tokenized securities. “Blockchain-based assets can provide greater transparency, better risk management, and greater safety of the asset.”
But bigger asset owners, which are Northern Trust’s main clients, are not ready to make that jump.
Northern Trust’s custody and services business has over $12 trillion of assets under administration; its own investment arm has another $1.3 trillion of its own assets under management. “Asset owners will remain cautious around digital assets until there is regulatory clarity,” Henderson said.
But those big pension funds, insurance companies, endowments and sovereign wealth funds can already access any bond offer in the world. They don’t need BondEvalue (although at some point they will want the efficiency and other benefits of blockchain-based assets).
Instead, BondEvalue is building its own clientele of smaller investors in the private-wealth space. For now, that will require these investors to set up an account. In the traditional world, bonds trade bilaterally over the counter, warehoused by big banks – but it’s a global market.
Tokens, for now, can only be traded on the exchange that creates them: but fractionalization makes this more widely available to investors that want to trade on BondEvalue or another such exchange.
Henderson declined to detail the commercial terms of Northern Trust’s services for BondEvalue.