I keep hearing a lot of hype around security tokens. I don't think they're all they're cracked up to be. In this thread, I explain why. 👇 @sbmckeon @APompliano (1/13)
Security tokens are "tokenized" traditional securities (stocks, bonds, etc.). Imagine them like ERC-20 tokens that are traded just like any other. They'd presumably encode some kind of restriction on trading, such as only accredited investors being allowed to trade. (2/13)
Sounds cool in principle. What's the problem? This: securities are a *legal* category. Securities are governed by the legal system, not by the blockchain. The blockchain does not interop with the legal system, and thus *cannot* be the ultimate system of record. (3/13)
Example: say I'm a seed investor into your blockchain company, I'm issued 20% of your equity tokens. Say my private key gets hacked. Does some 18-year-old Ukrainian kid now own 20% of your company? Of course not. So what do we do? Two options. (4/13)
1. We could let you revert the transaction or alter balances on the smart contract. But at that point the balances are entirely manipulable by you, so what's the point of the blockchain? We might as well just use your personally controlled database as the system of record. (5/13)
2. You could deploy a new contract with amended balances, and we all use that instead. But you'll have to do this every time someone gets hacked or fat-fingers. If you think about it, this is isomorphic to the previous case. You still control all of the balances. (6/13)
So the blockchain here is really just serving as an "optimistic system of record." Whenever anything goes wrong, you fork the contract or revert transactions. There's really no difference then between using a blockchain here and using a Google Doc with a revision history. (7/13)
But maybe you argue that by making it an ERC-20 token, we can do on-chain swaps with other tokens. And true, you can! But remember, these swaps are *always reversible* via legal injunction. This is a problem for your security model. (8/13)
If I give you some ETH, that's irreversible—if you give me some security tokens in return, that's potentially reversible in the ways we specified. This makes on-chain swaps risky. So where does that leave us? (9/13)
Ultimately public blockchains are useful primarily for two things: immutability and censorship-resistance. Securities transactions are by definition mutable—and who exactly has the problem that their securities transactions are being censored? (10/13)
Proponents say: but securities are hard/expensive to trade, trading is closed on weekends, you can't trade them internationally. All true! But realize, none of those are technological limitations, they're legal and regulatory limitations. (11/13)
It's not as though NASDAQ servers need to cool down on Saturdays. If you want those things to change, they have to do so from the legal and regulatory side. It's technologically cool, but blockchain is ultimately a red herring here. (12/13)
Security tokens remind me of "cloud computing" in the early 2000s. An exciting buzzword that rallies people around modernizing their infrastructure and changing the status quo. And to be honest, that part is great! Let's hope that energy drives changes in securities markets. FIN
