Central securities depositories (CSDs) face an existential crisis in the face of the emergence of a new financial system powered by decentralised finance (DeFi)
Monica Singer CA(SA) Blockchain Evangelist for Consensys
All the functions − settlement, registration, custody, and asset servicing − performed by a CSD in a transaction can now be performed using blockchain technology. And the aspect of blockchain technology that underpins these functions is the digitalisation of securities, or tokenisation. To remain relevant in this new era of finance, CSDs need to adapt to tokenisation of securities.
What is tokenisation?
Tokenisation simply refers to the digitalisation of securities. The ownership of the security is associated with a digital token on a distributed ledger technology (DLT), and ownership can only be transferred with the transfer of the token of securities and cash.
We have come a long way from securities being traded through the exchange of a physical certificate, to a process where the exchange happens directly through accounts at the CSD, custodian banks and other intermediaries. Tokenisation is the next obvious step in the evolution of the way securities are cleared and settled.
Where we once placed our trust in the intermediaries such as CSDs and custodian banks to keep a record of the transaction, the trust function has now moved on to code. The transparent nature of the DLT, which powers DeFi and tokenisation, ensures that transactions can now be traded, cleared and settled directly between a buyer and seller.
This facilitation of peer-to-peer transactions without an intermediary to facilitate the exchange is the beauty of tokenisation. The exchange is facilitated in real-time, without any walled garden, using the Internet of Value without the use of legacy technology that relied on SWIFT messages.
You cannot build the future of finance on legacy infrastructure. We all remember the era of CD-ROMs for music, taxi services for transportation, VHS tapes for movies. They all gave way to newer technologies that built the Spotify, Uber, and Netflix of today. This is what Ethereum, the platform powering DeFi, is doing today for finance.
How can CSDs be the leaders of change?
The paradigm shift in the financial markets from legacy systems to the new DeFi ecosystem presents CSDs with a great opportunity to be the leaders of this change.
CSDs have the ability to disrupt their current business model by for example being an actor that holds a node, or supervise the nodes being kept by the actors that participate in the shared version of the truth being the register of investors in a DLT protocol.
Many CSDs are relying on the fact that the current legislation protects their monopoly. However, for example many European countries are taking the lead in bringing in new regulations to ease the path to tokenisation. Countries such as France, Luxembourg and Switzerland have been introducing holistic frameworks or ‘Blockchain Acts’ covering DLT activity in markets.
Exponential change
The changes in the way that listed and unlisted securities are traded are exponential. It took over 10 years for the transition from physical share certificates to dematerialised share certificates. CSDs did not have any competition, as they are natural monopolies. This allowed them to take all the time they needed to change and to keep up with any technological changes that were needed as a result of the dematerialisation of securities.
In the current reality, CSDs have many competitors that are waiting for no one and are creating this parallel financial market infrastructure using the Internet of Value.
