What are security tokens?

What are security tokens

If you follow the cryptonews a bit then you must have heard of security tokens. But what are they? And why are the expectations of security tokens so high? In this article we take a closer look at the entire ecosystem of security tokens.

Before we dive into the depth, first back to the base.

What are tokens?

Try imagining tokens. You will probably see plastic coins in front of you. Or a certain character from South Park. Ignore both images, the tokens that this article is about are digital.

These digital tokens are a representation of something with value. And everything in the physical world has value and that value can be expressed in tokens. It may sound difficult, but the basis is very simple.

Take a painting, it normally only has one owner. The owner can choose to token the value or to express the value in tokens. These tokens can then be traded on a stock exchange. Anyone with a token of this painting is then the owner. Is the painting then sold with a substantial profit? Then several people benefit.

Another example: solar panels generate energy, which is like every generated KwH a token. Then your smart meter can convert all generated, registered energy into tokens. You then receive these tokens in your wallet and you can use them again for everyday things. You could perhaps use it to pay your energy bill at the end of the year!

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These are practical applications of tokens. In cryptoland, tokens also means a branch of cryptocurrency. There is no omniscient oracle or central authority that has defined the definition of a token, but it is generally assumed that cryptotokens do not have their own blockchain. Think of tokens such as Binance Coin. It does not have its own blockchain, but runs on the ethereum blockchain.

The dream to token everything

By assigning goods, property rights can be transferred and traded on a digital platform. You actually turn something physical into a digital property, but on the blockchain. Or to describe it even more simply, you put real assets on the blockchain with the help of digital tokens. By generating tokens via a smart contract, the value of a token relative to the actual good can be determined.

This makes the world much more transparent and fairer. Everyone can become the owner. 
The benefits are better security and speed and you are less dependent on intermediaries. That is actually the promise of blockchain. In addition, it is much easier to trade property rights worldwide. You reduce administration and ensure a reliable archive.

Tokens have the potential to change the world

Okay, not entirely fair. Bitcoin and blockchain are going to turn the world upside down. Part of this revolution are tokens.

Large banks, financial institutions and other parties have the monopoly on traditional asset management. They amass a lot of wealth by collecting exorbitant fees. Will this entire system be overhauled and can everything be expressed in freely tradable tokens? This will lead to more trading convenience and digitization will reach its full potential. Acts and possessions become more democratic and fairer. It is smarter, more efficient and there are, for example, much lower trade rates.

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But what are security tokens now?

The Dutch translation of a security is ‘effect’ and that is explained by wikipedia as a collective term for tradable rights that represent a financial value.

Certain effects are subject to regulation. The Securities and Exchange Commission (SEC) is leading in America, while the Netherlands is the AFM (financial markets authority). Tokens are subjected to a test to see if these are real securities.

This test is called the Howey test. Whether a financial instrument is a security and falls within the competence of the SEC depends on whether it meets the following criteria:

  • It must be an investment of money
  • There is a profit expectation through work from a third party
  • In a joint venture

Simply put, the Howey Test wonders whether the profit from your investment comes from your own work or from that of a third party?

Every token that passes the Howey test is considered a security token in the US. The tokens usually derive their value from external, tradable value. And the tokens (and the organization behind it and the ICO) now fall under different supervisors. A security must comply with stricter rules than a regular, utility token.

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If they do not follow the rules, they can be punished. But … do they meet all the requirements?

Then these tokens have the potential to have very strong use cases.

Conclusion

We conclude with a quote from Carlos Dominguez, from SPICE Venture Capital. He summarizes it well:

“It is inevitable that security tokens will change the idea behind equity. Just as Bitcoin has the potential to transform currency. Security tokens immediately give the owner an economic interest and ensure faster returns. 
Any type of property can be linked to a token , this can become a massive billions of markets. ”

Want to know more about security tokens? Read all about it here: What are security tokens and Security Token Offering (STO).


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