During yesterday’s Digital Securities and Tokenization event in Frankfurt, several banks including BNY Mellon and HSBC discussed what they learned from digital securities issuances. One of the key takeaways was the need for interoperability, particularly with legacy systems.
While digital securities and tokenization offer huge potential efficiencies as well as new business models, there’s still a way to go to make that happen.
The need for DLT-legacy integration
The European Investment Bank (EIB) is the most prolific digital bond issuer and they previously spoke about the need for more custodians that support DLT natively. Failing that the DLT platform needs to support Swift.
“A client only wants one statement and on that statement, they want their traditional assets and their digital assets,” said HSBC’s Chris Jones. The bank was involved in one of the EIB digital bonds. “You now have to get your nice shiny new DLT to talk Swift. While we knew we were going to have to do that, we didn’t realize quite to what extent.”
BNY Mellon’s Benjamin Duve highlighted that investors want to buy an asset and get the yield while minimizing their touchpoints for servicing. “DLT is never the driver. It’s just an enabler,” he said.
The lack of integration of digital securities with existing infrastructure can impact the returns. For example, Siemens pointed out that digital securities cannot be used as collateral at the European Central Bank. Earlier this year Siemens issued a €60m digital bond on a public blockchain.
“(If) you buy a Siemens bond you might want to use it somewhere else,” said Duve. He noted the European Investment Bank (EIB) has issued multiple digital bonds which would make good collateral in the triparty system. That’s if they were compatible. However, there’s fragmentation because each security is issued on a standalone DLT ‘island’ and there’s also fragmentation from a legal perspective. As a result, the bond can’t be used as triparty collateral or for securities lending.
“I’ve never heard that a technology gets adopted if the client pays more or gets less,” observed Duve.
He also pointed out that liquidity pools take years to develop. The implication is that one needs to take advantage of existing exchanges. An example not mentioned was the issuance of the CHF 375m UBS digital bond on the SIX Digital Exchange (SDX) platform. That linked the SDX CSD to the conventional SIX CSD, allowing investors to interact with the digital bond in a conventional manner.
Other tokenization learnings
Ramin Ghafari of Siemens Treasury continues to be upbeat about digital securities. He highlighted that the number of digital securities issuances in Germany has almost doubled to 43 since the Siemens bond launch in February.
His list of areas that need work includes on-chain settlement and developing secondary markets. Currently, there’s still a legal requirement for a central securities depository, despite a blockchain sometimes providing that role. And while Germany has supportive laws, they differ significantly between jurisdictions, even within the EU.
One final lesson was from HSBC’s Chris Jones on the massive amount of internal education that’s needed. It was “much more than we ever thought we’d need to do,” said Jones. The teaching extended across all departments involved, but particularly compliance and legal. He added, “A bond is a bond, is a bond. But when it’s on a distributed ledger, a DLT, they think that suddenly the risk has increased tenfold.”
