Much has changed from the days I was writing about security tokens, over one year ago. There has been a bull run, a boom bust, several startups went belly-up, and a few people are still marveling, trying to find their way in the maze of Securities Agencies' legal enforcement.  

Admist the excitement of being involved in a new technology, I too made some confunsion between Security Tokens and Tokenized Securities. At the time I was busy advising a startup which accoplished the feat of actually managing to incorporate a Tokenised Company, with equity being represented by ERC20 tokens on the Ethereum mainnet. Exciting times!

Regulators around the world were looking at events unfold under their nose, billions raised with ICOs, and Agencies were plagued with very little understanding of the technology involved.  

Fast-forward 15 months.

The investment landscape has changed. Startups in the space boldly skip angels, and are now mainly relying on VCs or Crypto Edge Funds, rather than on retail investors' money. Many hail at the "professionalization" of the crypto investments space. According to the narrative pushed forward by mainstream crypto investors and the people they invest in, this is a good thing. "The space is maturing", "institutional investors are showing interest"... what the heck, even JP Morgan came up with a blockchain.

But is this really a good thing? One and a half years ago we were in a limbo, lots of projects were looking for some sort of legitimization. Some called out to the Regulators, even went on to educate them. Some others though, tried to develop on what they thought was Satoshi's original plan, cutting off the banks, the regulators, developing decentralised exchanges and better privacy coins.

Because of the easy money aura around the folks chasing VCs, semantics began to blur, and "Security Token" more and more was understood to mean "Tokenised Security".

Actually a tokenized security is just a plain vanilla equity, bond or other kind of security, wearing new clothes, just like a Beatles's song delivered on MP3 rather than on LP. The LP is more cumbersome to play and to move around, but the sound quality is much better. A Tokenised Security is an extremely illiquid asset, secondary trading of tokenised private securities requires various middlemen (brokers, custodians, exchanges, etc.), tracking trade activity is manual and costly because of regulators' involvement, there is a huge legal and financial cost on issuers to safeguard against potential regulatory risk, and all these limitations, which are regulatory requirements, not at all inherent to the technology,  force issuers to impose trade restrictions (e.g. excluding US persons or folks from other jurisdictions), making tokenized securities just as illiquid and cumbersome as traditional private securities, except that they also have the disadvantage of being traded in young and illiquid marketplaces, prone to manipulation.

Because of the lack of liquidity, the value of tokenized private securities is discounted, preventing issuers from capturing the full value of the asset. If you don't believe me just look at the few STOs on the crypto security exchanges. On average the tokens plummet 90-95% shortly after issuance. Tokenized securities enjoy the double wammy of being a young assett class with the same contraints of traditional securities (the real thing), and also be shun by the largest marketplaces dealing with traditional securities. But even if they did graduate to the NASDAQ or similar venues, they would still be shredded into pieces by speculators, just like penny stocks. Thare's got to be a better way.

Most projects running after VC money fall into the "Tokenized Security" trap, i.e. pursue an ICO-like process, trying to apply the relevant securities legislation. This would typically result in filing under regulation Crowdfunding,  A, D and/or S with the SEC, or filing with one of the European Countries (Lichtenstien, Switzerland, Malta, Latvia, etc.) The main problem of most of these  rules is that the cost of preparing a securities issue could reach over 700,000 EUR. Once the new EU rules are in place, public offerings up to 8m EUR (depending on the European country) can register under a simplified scheme. But European rules have several limitations, e.g. the exemption threshold of 8m EUR is applicable only to offers within the same country. 

To cut a long story short, issuers will be limited by jurisdictions, geographies, many different sets of rules. That is, if they do want to follow the securities rules.

Is there another way? Well, in the past year many projects just fell prey to VCs and their lawyers, were scared into playing the big boys game of public offerings, or trying to concot a whitepaper smelling security and collective investment scheme left right and center, but repeating to the nausea: we are a utility token. 

Most projects were not bold enough to leverage the opportunity provided by the technology to raise money privately via smart contracts. Smart contracts today can do decentralized price discovery, custody, white listing and many of the other things securities middlemen do, better, smarter and cheaper. New decentralised liquidity paradigms can be experimented, radically different from how things are done today. Smart contracts open new opportunities to raise money privately, safely and in a decentralized way. I hope the coming bull run will usher Security Token 2.0, something different, faster and better than tokenised securities.