You know it’s a bubble when mainstream news media run stories about bitcoin profits paying for a wedding. But, in all the cryptocurrencies hoopla, what is often overlooked is the blockchain technology underlying it.
What is blockchain? It’s a distributed ledger, or database, that captures transaction data across a public or private network with each node in the network holding an exact copy. The data is encrypted as a “block,” “chained” to the records before and after it and is viewable by others in the network. Further, it cannot be altered retroactively without impacting all subsequent data and raising red flags or requiring approval from the network. The blockchain ledger can also include “smart contracts,” programmed conditions that can be automatically triggered if certain criteria are met.
Basically, blockchain is a sophisticated database technology. It has a myriad of potential uses, some disruptive, others not so much. Its core advantage is it enables information to be verified and value to be exchanged and recorded on a ledger without third-party authentication, thereby eliminating the need for intermediaries.
On the surface, it sounds like the capital markets are ripe for blockchain technology. But, the reality is more complex. There are legal-, regulatory-, and governance-related questions as well as practical matters with no easy answers.
Probably the largest non-starter is blockchain in its current iteration cannot enable efficient price discovery. Nor can it handle the trading speed and volume exchanges do today.
Utilizing blockchain for back-office processes like clearing, depositary, custody and recordkeeping services is a potentially big opportunity. Private blockchains can help consolidate multiple internal ledgers to make trade settlement more efficient. However, to maximize the technology’s effectiveness, the industry will need to establish uniform standards, processes and interfaces between and amongst the entities involved. Since this will involve brokers, clearing houses, depositories, etc., sharing and enabling access to internal data and systems, there is understandable trepidation. Today, there is minimal industry-wide dialogue on what the governance of a blockchain environment should look like.
Other hurdles to wider use of blockchain are legal and regulatory. A key conundrum is does the digitization of assets (as it would in blockchain environment) change the rights, privileges and responsibilities of asset ownership. For example, what happens to digital assets in a corporate bankruptcy? What about state escheatment laws? What happens if an asset holder forgets the secure key code to their digital wallet (in the current blockchain environment no one can unlock a digital wallet or change the key code)? The S.E.C., Delaware and other states have and are exploring such issues, all of which are solvable, but it’s not a simple process.
So, you can exhale. Blockchain may be coming but its adoption in the capital markets will initially be slow. There’s still a lot to be learned from the pilots currently in place such as Broadridge’s use of blockchain for proxy voting and Overstock.com’s Series A preferred stock which trades in the over-the-counter market. It will be interesting to watch.
Lead-IR Advisors, Inc.