Commodity tokenization: The advantages over traditional derivatives

Commodity tokenization creates a number of advantages over using traditional methods of trading, including security, improved cost efficiency, and more flexible trade finance options. Simply said, the advantages of tokenization are the same as the advantages of utilizing a cryptocurrency instead of traditional money, assets, or commodities. A cryptocurrency provides increased liquidity, substantially faster transaction settlement times, and security in all of these scenarios. The same can be said of “tokenized assets” in general or “tokenized commodities” in specific.

For centuries commodities like precious metals have been used as a store and multiplier of value and remain an attractive investment class today. Also, many industrial commodities are popular speculative markets. While popular metals such as gold are easy to access though come with a high premium on the market price when purchasing physical gold in relatively small quantities, other, in particular those commodities that have not been made available to speculators by issuers of derivatives are practically inaccessible to the common investor. Commodity tokenization can make such assets more accessible to the broader public by reducing costs and infrastructure needed to make them tradeable securely.

Content
What is commodity tokenization?
What are MBX E-Commodities?
The top five advantages of tokenizing commodities:
1. Fundamentally improved operational efficiency
2. Using smart contracts and decentralised applications (dApps) to eliminate counterparty default risk
3. Fraud-proofness and IT security
4. Democratization and increased liquidity
5. Transparency

What is commodity tokenization?

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Tokenized commodities (or crypto commodities) are accounting units (or tokens) administered on the blockchain that represent ownership of physical commodities or rights to physical commodities. Tokenization is the process of legally “attaching” ownership of real-world assets like metals to a crypto token. These tokens can represent any type of paper instrument used to trade commodities, such as CFDs, Options, Futures, or as in the case of MBX E-Commodities, Digital Warehouse Receipts.

What are MBX E-Commodities?

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MBX E-commodities are tokens on various blockchains that represent digital warehouse receipts and are fully backed by physical commodities. They give the holder full ownership of and can be exchanged for the underlying physical commodity. While non-standardized MBX E-Commodities can be used in decentralized trade applications in off-market industrial trades and as collateral in debt financing, standardized tokenized MBX E-Commodities can additionally be traded on crypto-exchanges.

A notable difference of MBX E-Commodities to other popular financial instruments in relation to physical commodities, in particular such as Options and Contracts for Future Diference (CFDs), is that holders of MBX E-Commodities do not face the risk of a defaulting counterparty, typically the issuer of the derivative. This is because as Warehouse Receipts MBX E-Commodities are fully backed by the underlying physical commodity which is directly owned by the holder of the MBX E-Commodity tokens.

To learn more about MBX E-Commodities click here!

The top five advantages of tokenizing commodities:

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1. Fundamentally improved operational efficiency

Handling tokenized assets makes the market more efficient and improves the way assets and services are traded. Transaction costs are greatly lowered by streamlining IT systems, sharing infrastructure among all participants, and avoiding the involvement of a central third party to keep track of and verify transactions. Blockchain offers a single IT layer of trust, allowing various players in an ecosystem to engage with the same digital representation of an asset, increasing efficiency across the value chain or industry and allowing for new forms of cooperation. For example, in the trade finance business, we enable companies to communicate information about assets being transferred throughout the world, automating and simplifying the process for large volume trading using smart contracts

Inefficiencies can also be reduced by the digitalization and automation of manual work, as well as the reduction of a portion of the reconciliation/compliance work. Simple send/receive transaction settlement and clearance can be automated, allowing transactions to be completed in seconds rather than hours or days. Using a DLT/Blockchain to create a digital token allows diverse companies to collaborate, allowing for the aggregation of previously fragmented data into a single digital token. Furthermore, all parties can update and check information in a seamless manner.

Furthermore, blockchain and our MBX Chain and the ecosystem around it in particular also rids the supply chain and market of intermediaries that become unnecessary when using the blockchain. Transactions can be handled without intermediaries via decentralized applications and almost everything is p2p.

2. Using smart contracts and decentralised applications (dApps) to eliminate counterparty default risk

The ability to use smart contracts and dApps when transacting with tokens is likely the most revolutionary element of tokenizing commodities. Such smart contracts are essentially agreements between parties that have been programmed on the blockchain as a decentralized software that executes itself, e.g. acting like banks guaranteeing the payment of the price once the commodities have been delivered, thus making costly banks in international transactions between untrusting parties void.

3. Fraud-proofness and IT security

Blockchains are famous for their technical security. Digital assets can not be forged and so market participants can be sure that every unit is real. Blockchain Mercantile Company thoroughly inspects the physical assets with the help of various third parties before taking them into safekeeping further ensuring that every digital unit is backed by what it is supposed to give ownership to.

4. Democratization and increased liquidity

Tokenization makes access to financial markets and a variety of different types of assets possible independent of an investor’s location and with far reduced minimum capital requirements. Investors can now participate in investment opportunities that were previously unavailable owing to regional or infrastructure constraints or high minimum investment requirements. By cutting down barriers to access, a wider range of people can trade/invest in these markets. In traditionally rather illiquid markets tokenization can help sellers to find more easily a counterparty to perform a transaction. It also promotes inclusive finance by allowing a broader spectrum of investors to participate in the investment market.

5. Transparency

Considering that commodity markets are notoriously manipulated, transparency is an important benefit for commodity markets. Because all transactions taking place on a Blockchain infrastructure are visible to all participants (limited to the perimeter of a DLT/Blockchain, meaning that everyone can see it on public Blockchains but only authorized participants can see it on private Blockchains), DLT/Blockchain introduces transparency by default. All tokens representing assets on the Blockchain acquire this attribute. This transparency enables for greater traceability and trust in the provenance and origin of physical assets by allowing any user to evaluate the whole history of activities conducted on the asset. Ownership of a given object, as well as the chain of ownership that goes with it, may thus be clearly identified.

On the other hand, transparency is not universally accepted and might even be adversarial to the objective of some use cases, such as in the asset management sector or when rivals share infrastructure. Particularly on MBX Chain, privacy-enhancing technologies are being developed and will be employed in these situations to avoid leaking sensitive information to other network members.