The impact of tokenized real world assets on everyday retail investment portfolios

The tokenization of real-world assets addresses this issue by providing a way for retail investors to invest in these assets through tokenization.

Tokenizing real-world assets as several advantages including lowering minimum investment thresholds, improving operational efficiencies, and providing access to an even wider range of investment options. However, it also raises new considerations regarding regulatory issues, liquidity, and investor protection.

Why tokenization matters now

The real benefit here is practical rather than flashy: quicker settlements, less administrative burden, clearer title records, and the potential to have a piece of your own.

Access to the investment world that was once limited to institutions or high net worth individuals is now possible through tokenized assets. That’s why tokenization has moved out of the crypto-centric bubble and has begun to be recognized by numerous other players; such as large institutions, regulation bodies, and press as part of the future of finance.

The premise is if assets can be broken down into little parcels and transacted then, you will have the ability to construct a real diversification portfolio that consists of more than just publicly traded equities and bonds.

What it could change in a retail portfolio

Tokenization will have the biggest impact on everyday investors through decreasing barriers to access. For example, the ability to purchase a tokenized private credit fund, real-estate interest, or commodity exposure in smaller amounts than typical structures provide can provide a way for investors to build their portfolios without having access to large funds typically reserved for wealthy investors. The CFA Institute points out that operational efficiencies resulting from tokenization will provide short-term benefits to private market participants, as lockup terms, minimum investment amounts and challenges associated with secondary trading have historically prevented many investors from accessing this asset class.

This is important to everyday investors because many are now designing their portfolios around multiple objectives rather than just investment return objectives. Many investors are seeking to include an investment in their portfolio that generates income, protects against inflation and downside market fluctuations, and has a different risk/return profile than traditional stocks. Therefore, tokenizing an investor's portfolio may simplify the process of adding private-market sleeves or commodity products to their portfolios, without requiring a significant amount of capital or working with an intermediary.

The upside is real, but not magic

Settlement times can be shortened; there is greater potential for automation in compliance; there is a more accurate way of tracking ownership of assets. For asset managers this means less cost and improved service. Retail investors benefit indirectly but still significantly from the lower friction that may result in lower fees and more access to a variety of product options, as well as access to newer asset classes.

However, just because a product is tokenized does not mean that it is necessarily a good product. A tokenized asset can still be expensive, risky, poorly structured or difficult to understand. The token might be new, but the economics will still be the same. Therefore, while the quality of the asset itself and the quality of the platform are always more important than whether or not it exists on the blockchain.

The risk side is easy to overlook

One of the most significant obstacles facing retail investors today are the complexities of tokenization, which are often minimized in the tokenized asset marketplace. Retail investors tend to believe that listed assets have greater liquidity and transparency than they do. Retail investors also believe that all tokenized products will have the same protections as traditional public market investments. While the CFA Institute has provided a clear description of how to achieve a successful tokenization strategy it does not address the issues of fiduciary duty and suitability, which are very important when dealing with retail funds.

In addition, there is an infrastructure problem with tokens. The requirements necessary for a successful token market include secure custodianship, standardized interoperability, clear legal ownership and strong cybersecurity. Without this infrastructure, a retail portfolio could contain tokenized assets that appear revolutionary in nature, but will not provide the same results due to lack of supporting infrastructure. Most retail investors will overlook the importance of these factors and focus on the mere existence of a token.

What everyday investors should watch

Curiosity with discipline is the most effective retail strategy at this time. Tokenizing actual assets may provide an additional diversification strategy for investors looking for exposure to alternative investments in private markets and hard assets or alternatives sources of income; however, potential investors should evaluate all tokenized products as they would any other investment: Understand what the underlying asset is, how liquid the asset(s) is, who regulates it, what the associated fees are and what the rights of token holders are.

Tokenization could lead to more modular forms of investing than have been previously available through traditional investment options. Investors would have the opportunity to build their own portfolios using smaller amounts of building blocks rather than only having limited choices based on standard packaged investment products. This could shift the way investors view their ability to create wealth through investment; however, this will not be significant or meaningful to investors unless investors can understand the risks and potential returns of the various products, have access to transparent pricing information about those products and have those products properly regulated.

Tokenizing actual assets will likely increase the ease of use and flexibility of retail investing; however, tokenized real-life assets will never replace traditional investment strategies. Tokenized assets will provide retail investors additional diversification opportunities that were not otherwise available in the past. Therefore, tokenizing actual assets will represent a major advancement in providing retail investors easy access to wealth. However, the real issue going forward will be to ensure that investor innovation does not outpace prudent portfolio design fundamentals.