Tokenised Securities
A Roadmap for Market Participants and Regulators
November 2019

Disclaimer
The information and opinion commentary in this ASIFMA – Tokenised Securities – A Roadmap for Market
Participants and Regulators (Paper) was prepared by the Asia Securities Industry and Financial Markets
Association (ASIFMA) to reflect the views of our members. ASIFMA believes that the information in the
Paper, which has been obtained from multiple sources believed to be reliable, is reliable as of the date of
publication. As estimates by individual sources may differ from one another, estimates for similar typesof data could vary within the Paper. In no event, however, does ASIFMA make any representation as tothe accuracy or completeness of such information. ASIFMA has no obligation to update, modify or amend
the information in this Paper or to otherwise notify readers if any information in the Paper becomesoutdated or inaccurate. ASIFMA will make every effort to include updated information as it becomes
available and in subsequent Papers.

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ASIFMA is an independent, regional trade association with over 125
member firms comprising a diverse range of leading financial institutions fromboth the buy and sell side including banks, asset managers, law firms andmarket infrastructure service providers. Together, we harness the sharedinterests of the financial industry to promote the development of liquid, deep
and broad capital markets in Asia. ASIFMA advocates stable, innovative andcompetitive Asian capital markets that are necessary to support the region’s
economic growth. We drive consensus, advocate solutions and effect changearound key issues through the collective strength and clarity of one industry
voice. Our many initiatives include consultations with regulators andexchanges, development of uniform industry standards, advocacy forenhanced markets through policy papers, and lowering the cost of doing
business in the region. Through the GFMA alliance with SIFMA in the US and
AFME in Europe, ASIFMA also provides insights on global best practices andstandards to benefit the region.

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TABLE OF CONTENTS

A. Introduction

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B. Setting the scene: what are tokenised securities and why are they important

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B.1. Defining tokenised securities
B.2. Advantages of tokenised securities
C. Comparing traditional securities and tokenised securities
C.1. Issuer Onboarding
C.2. Deal Structuring
C.3. Primary Market
C.4. Secondary Trading
C.5. Regulatory treatment
D. Building a benign, enabling environment for tokenised securities
D.1. Regulatory framework and legal considerations
D.2. Technology roadmap
D.3. Driving liquidity
D.4. Educating investors
Annex: Buy-side Checklist of Key Issues in Tokenised Securities Offerings

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Authors

Laurence Van der Loo
Director – Technology and Operations
Clement Kwan
AnalystVictor Alexiev
APAC Head for Citi Ventures Programs & StrategicPartnerships for ICG, Citi
Deepak Mehra
APAC Head for Markets & Securities Services
Investments and Electronification, Citi

Rocky Mui
Partner
Jason Hitch
Registered Foreign Lawyer (NSW, Australia)

Hannah Cassidy
Partner, Hong Kong
Natalie Curtis
Partner, Singapore

Urszula McCormack
Partner
Jack Nelson
Associate

Simon Hawkins
CounselKenneth Hui
Associate5Sumit Indwar
Partner, Hong Kong
Jonathan Horan
Partner, Singapore

Robert Woll
Partner
Steven Khong
Associate

Olivier Dang
COO, Wholesale Digital Office
Paul Ridley
Vice President, Wholesale Digital Office

Etelka Bogardi
PartnerAmy Chung
Associate

Lucy Gazmararian
Associate Director, FinTech & Crypto Advisory

Jatin Badiani
Senior Manager, Technology and Innovation
Regulatory Change
Zhu Kuang Lee
Product Innovation Director

Gwenda Ho
Partner, Tax

Strategy, Innovation Technologies

ASIFMA would also like to extend its gratitude to all the individuals, member firms and external
stakeholders who reviewed the Paper and contributed to the development of this Paper.

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A. Introduction
According to proponents, tokenised securities (as defined below) are the next big megatrend of theblockchain 1 revolution and will disrupt the financial world completely. A lot has been written and said
about tokenised securities, but scepticism abounds and such offerings are yet to be adopted mainstream
by issuers. Tokenised securities bring the benefits of blockchain into the securities lifecycle, to create aninnovative new financing and capital raising model that can bring efficiencies, is scalable and could provide
liquidity and compliance opportunities that are evolutional to traditional finance.
Whilst it is at an early stage and the extent and timing of future adoption is still uncertain, we believe thattokenised securities will impact traditional finance and act as a bridge between legacy finance and the
new digital world, taking benefits from each.
In this paper, we explain what tokenised securities are, why market participants will need to be aware ofthis development and key aspects of the end-to-end tokenised security lifecycle (i.e. structuring, issuance,
distribution, primary listing, secondary trading, custody, portfolio management, advisory and market
making) and how this compares to traditional securities. We outline how tokenisation could impact
market participants (including incumbent financial institutions (FIs) and issuers) and present areas theyneed to consider in the various stages of the securities lifecycle.
To ensure a focused approach, the paper primarily concentrates on tokenised securities that are intended
to constitute/represent traditional regulated securities such as shares and bonds, but also considers
factors relevant to tokenised securities that constitute / represent other types of securities such as
interests in collective investment schemes (funds) and structured products. 2 The paper also focuses on
considerations of the securities leg of the tokenised security transaction – understanding that for the full
benefits of tokenised securities to be realised, a functional form of blockchain-supported digital cash (e.g.
stablecoins 3, Central Bank Digital Currency (CBDC) or some other blockchain-based digital asset (digitalasset) is needed for smart contract-enabled Delivery versus Payment (DvP).
Subsequently, we consider what a benign, enabling environment for tokenised securities requires from a
regulatory, tax, technology and liquidity perspective.

1 We refer to “blockchain” in this paper to include other types of distributed ledger technology.
2

A number of factors are also likely to be relevant to payment and utility-type tokens with features that may classify them as securities in certain
markets, but this is not the focus of this paper.

3 A 'stablecoin’ can be defined as a crypto-asset designed to maintain a stable value relative to another asset (typically a unit of currency orcommodity) or a basket of assets. These may be collateralised by fiat currency or commodities, or supported by algorithms. The term is used todescribe a particular set of crypto-assets with certain design characteristics or stated objectives, but the use of this term should not be construed
as any endorsement or legal guarantee of the value or stability of these tokens. (Source: Financial Stability Board: ‘Regulatory issues ofstablecoins’ 18 October 2019 (https://www.fsb.org/wp-content/uploads/P181019.pdf).

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This paper aims to a) act as a roadmap for incumbent FIs who wish to understand how a tokenised offering
can be executed b) inform issuers about the key considerations that will be relevant to their stakeholders,
including incumbent FIs and buy-side firms with whom they will need to work, and c) articulate what isneeded from a regulatory and technology perspective (and otherwise) to build a strong enabling
environment.
This paper is jurisdictional-neutral but provides examples of certain issues and pain points that apply incertain jurisdictions.
This paper does not provide and should not be treated as legal advice on regulatory compliance or any
other matter. It is up to readers to obtain their own legal, tax and other professional advice.

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B. Setting the scene: what are tokenised securities and why are they important
B.1. Defining tokenised securities
A token is a digital representation of rights to any tangible (financial or otherwise) or intangible assets.
Tokenised securities and security tokens are two different concepts. Tokenised securities are generally
thought of as traditional, regulated securities, but with a digital wrapper. For the purposes of this paper,
we are focusing in particular on shares and bonds which are issued, traded and owned with proof ofownership recorded on a distributed ledger.
On the other hand, security tokens can have a broader scope and intrinsic features that are designed torepresent assets typically of an underlying financial type, such as participation in companies or earnings
streams, or an entitlement to dividends or interest payments, or a combination thereof packaged into
one. Depending on their economic function and terms, these tokens may be classified as equities, bonds,
collective investment schemes or derivatives. Isolating specific economic functions can lead to new socalled “alternative assets” (e.g. tokenised cash flows from real estate, royalty cashflows from a work ofart) which are increasingly being discussed as potential candidates for security tokens due to the increased
process efficiency and the ability to access global liquidity pools. 4
Despite these differences, the two terms are often used interchangeably, and both are used in this paper.
Nonetheless, the regulatory and operational differences between tokenised securities and security tokens
should be kept in mind throughout. We can also contemplate a future scenario where security tokens(blockchain-native securities) are the norm. The differentiation between the two types might blur andfade over time.

Definition

Tokenised Security
A tokenised security represents asecurity that exists outside of a
blockchain, and can be described as
being ‘blockchain-embedded’.

Security Token
A security token represents a security
that does not exist outside of a
blockchain (DAO 5 , collateralised cryptoloan, etc.), and can be described as
being ‘blockchain-native’.

4 Source: Global Digital Finance Code of Conduct Part VII – Principles for Security Token Offerings & Secondary Market Trading Platforms(https://www.gdf.io/docsconsultations/part-vii-code-of-conduct-principles-for-security-token-offerings-secondary-market-tradingplatforms/)

5 A Decentralised Autonomous Organisation or DAO is an organisation that operates autonomously in accordance with preset rules, utilising a

blockchain and coordinated through a distributed consensus model (Source: Latham & Watkins Book of Jargon: Cryptocurrency & Blockchain
Technology)9NatureTokenisedsecurities
represent
traditional securities on a blockchain inorder to benefit from the potential
efficiencies
arisingfromusingblockchain to register ownership andtransfers.

Security tokens largely imitate thefeatures of traditional securities,
although there is potential for
disruption when structured products
are layered on top. Potential efficiencies
are vast.

Other features can also be built on topof a tokenised security, but
consideration must always be given tounderlying security and its terms.

Not only can ownership and transfers be
registeredautomaticallyonablockchain, but payments (such as bondcoupons) can also be automated.

Potential for payments automation (inDvP) exists, to the extent that
integrations can be built between theblockchain registering the tokenised
security, and blockchains / payment
networks that represent some form ofdigital cash.
Similar to

Depository receipts

Bearer assets

Table 1: Tokenised Security versus Security Token

The intent of this paper is to focus on tokenised securities, but not to adopt (nor necessarily advocate for)a technical approach in delineating between these two categories for legal or regulatory purposes. In thisrespect, much of this paper can apply to both.
B.2. Advantages of tokenised securities
The link between traditional financial products/instruments and blockchain technology offers
stakeholders the reliability of a regulated instrument, combined with the benefits afforded by a blockchain.
Because they are generally regulated as securities, they have the opportunity to bring more trust andsupport to the digital asset marketplace.
With the transparency, security and accuracy that blockchain technology can deliver to enhance efficiency
throughout the value chain, as well as the opportunity to leverage smart contracts (that can build incompliance), issuers and FIs can also manage a larger number of investors with an expanded geographic
reach. There could also be more efficient secondary market operations which helps issuers to access newcapital and investors that require liquidity.

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As tokenised securities pursue regulated use cases, enabled by blockchain as the foundation, the types ofcompanies / entities that could be interested in issuing tokenised securities will have overlap with theexisting issuer landscape (e.g. corporates). To the extent that benefits / efficiencies of tokenised securities
can be realised, there is potential for the issuer base to expand further (e.g. into the middle-market, SMEs).
FIs should pay attention to developments in the tokenised securities markets, as there is a potential for achange in the operating model that enables new business opportunities and improved ways to service
clients. Tokenised securities can help FIs streamline processes, reduce costs and service smaller deal sizes
that were previously economically not feasible from a cost/benefit perspective.
More specific examples of tokenised securities' potential advantages include the following (next page):11

Speed of settlement•Whilst the settlement process has shortened over the years, it generally takes 2 days for a security to settle. Much ofthis delay relates to a need for sequential steps to happen in a chronological manner, the purpose of which is toprevent counterparty risk since the buyer of a security does not interact directly with a seller. With smart contracts
and information symmetry in real time, much of these processes can be automated and happen in parallel.
Automated compliance•Because tokens are programmable, compliance with regulations can be programmed into smart contracts, reducing
and automating the regulatory compliance burden. The smart contract will be able to execute, regulate and govern
the token. For example, during a transfer of asset, tokens can be programmed only to be transferable to certain
wallets and therefore restrict transfer of the token to ineligible counterparties.
Globalise markets•Tokens have no physical form – they exist only in a digital form and can be accessed via the internet. Accordingly,
tokens can be issued and traded globally via the internet, subject only to specific restrictions that are programmed
into the token’s smart contracts (e.g., in order to comply with applicable legal and regulatory requirements) and theavailability and restrictions of any relevant intermediaries (e.g. exchanges and custodians).
24/7 trading•Traditional securities have strict trading hours on business days only, so investors cannot trade on news anddevelopments over the weekend. They also are subject to the operating hours and procedures of clearing andsettlement systems. Tokenised securities can trade and settle 24/7 which eliminates these inefficiencies. This needs to
be balanced against any operational requirements that 24/7 trading might bring with it.
Transparency•Provides a single source of information for all market participants, which also facilitates the recording of ownershipand makes beneficial ownership transparent throughout the lifecycle to permitted persons.
Programmable features•e.g. automating dividend payouts, easing voting processes, automating vesting periods etc.
Immutability•Transactions on the blockchain are immutable and are therefore an excellent infrastructure to record ownership ofsecurities.
Increased efficiencies and cheaper fees
• Blockchain and smart contracts lead to increased internal efficiencies for FIs, some of which will be passed on to end
issuer or investors.
• Potentially FIs can now serve smaller size deals which was previously infeasible. i.e. bond origination are traditionally >USD300m.
• Lower trading costs.

Figure 1: Benefits of blockchain in tokenised securities

12C. Comparing traditional securities and tokenised securities
In what follows, we compare the lifecycle of a traditional shares/bond offering with the life cycle/value
chain of a tokenised share/bond offering to help compare their similarities and differences in astraightforward manner. Adopting blockchain can help reshape the value chain in that it can allow us tomove away from the sequential central model, to a distributed ledger model where market participants
can access information at the same time. This will impact the roles and responsibilities of existing players
and create new roles. Whilst the process of integrating tokenised securities into the value chain will likely
be phased, i.e. focusing on a specific instrument or part of the value chain, we envision what the lifecycle
might look like from an operational and regulatory perspective for tokenised securities issued and tradedin a blockchain ecosystem.
The lifecycle is divided into four main stages:

1. Issuer
onboarding

2. Dealstructuring

3. Primarymarket

4. Secondary
trading

We have listed the typical activities carried out in a share or Eurobond offering in each stage and havecompared it to a tokenised securities offering, indicating the benefits and challenges of the latter as wellas the differences in execution. The following sections discuss some of these differences in greater detail– focusing on shares and bonds – and set out some key considerations for market participants in pursuing
tokenised securities offerings.

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C.1. Issuer Onboarding
This section discusses key considerations driving differences in the onboarding of issuers for tokenised
versus traditional securities. For FIs, the extent to which issuer onboarding for tokenised securities
differs from traditional securities relates to the risk profile of the issuer and the form of the transaction
proceeds.
Issuers whose business model involves activities that are associated with higher risk business activities,
and where proceeds are raised in a non-fiat form of payment, will diverge more from existing
onboarding processes. Those simply seeking to use a blockchain/smart contracts to replace the existing
infrastructure will face less material differences. In some cases, blockchain-based know-your-customer(KYC) solutions may be utilised to reduce / address issuer onboarding challenges, and also to provide
greater efficiency through automation.
Considerations for FIs
For FIs, where the envisaged use of tokenised securities is to replace existing technology platforms andworkflows with blockchain and smart contracts, the standards applied to issuer onboarding are largely
the same as in traditional processes. Standard KYC and anti-money laundering (AML) rules still apply. All
else equal, issuers who otherwise would have met risk appetite requirements for the FI, do not necessarily
carry higher intrinsic AML/KYC risks just because a different technology is used. Increased risks may still
be present, though these generally relate to later stages of the security lifecycle (see Sections C.3 and C.4
on Primary Market and Secondary Market).
For FIs looking to use tokenised securities as a way of expanding beyond their conventional client base(e.g. changing their risk appetite) and/or are raising proceeds in non-fiat form of payment (e.g.
cryptocurrencies), the divergence in the onboarding process becomes greater. This is especially true, if
prospective issuers of the tokenised security are engaging in business activities that touch newer areas ofthe digital asset ecosystem where regulatory requirements locally and globally are still evolving. In these
instances, issuers engaging in these areas may carry elevated risks (e.g. depending on their nature of theiractivities any other third parties involved), and therefore would require additional steps in the onboarding
process that are either self-imposed by the FI to meet internal standards, or prescribed by regulators intheir jurisdiction.
To help identify and assess any areas of elevated risk, FIs should approach the onboarding process of
issuers with proper due diligence to develop a full understanding of the issuers and the tokenised
securities to be offered. Generally, the scope of due diligence should at least cover:•the background and financial soundness of the issuer and the broader development andmanagement team;

•
•
•
•
•
•
•

the source of wealth and funds;
the reputation of the token and its exchange(s);the assets which back the tokenised security;
the rights attached to the token;
the involvement of any politically exposed persons;the perception of potential risks associated with criminal activities; andthe existence and effectiveness of AML and other controls put in place by the issuer.

Lastly, FIs need to consider reputational risk i.e. could advising on/selling a particular tokenised security
somehow suggest that the FI is endorsing the functionality of the relevant blockchain/smart contract
platform and/or service provider involved? Reputational issues could stem from cybersecurity,
performance of the product, potential fraud, and failure of the tokenised security.
Managers will need to manage this by focusing on the following areas:
Issuance quality•Commercial drivers for the issuer and the reasons for the proposed securities issue.
Enhanced due diligence on the tokenised security•Enhanced due diligence where necessary (e.g. new technical features, issuer risks).
Investor representations and undertakings•Additional protection would also be available from investor representations and undertakings – either
as part of the investor purchase agreements or as separate investor representation letters, which may
be required at the onboarding stage of new clients (see further below).
Documentation•Additional disclosure in the offering document and appropriate disclaimers, documenting and obtaining
acknowledgements of suitability of the tokenised securities from investors, extended investor educationin the marketing process
Trial issuance•Perform "trial" issuances to satisfy themselves of the feasibility of a tokenised security
Obtaining advise from experts•Expert (e.g. whitehats, tech experts) feedback on the blockchain and associated smart contract for thetokenised security

Figure 2: Managing reputational risk

16Considerations for issuers
Similar to the considerations for FIs, where the issuer seeking to raise capital sees tokenised securities asa different technology basis for the issuance and lifecycle management of their securities, the degree ofadditional considerations beyond existing expectations / standards is limited. To the extent that issuers
have business activities that touch higher risks areas, and/or are seeking to raise proceeds in non-fiat
forms of payment, there will be additional onboarding requirements.
It is recommended that for these issuers, AML/KYC considerations are strongly embedded in theirprocesses. This helps to improve the credibility of the issuer in the eyes of banks, payment gateways andfund managers, which will assist such regulated entities to comply with their own AML/KYC obligations.
Furthermore, having strong AML/KYC compliance measures in place can help enhance investors'
confidence in the issuer and therefore its tokenised securities while convincing different stakeholders,
including FIs, that there are effective controls to safeguard against any relevant AML risks posed by theoffering.
Apart from the AML risks to which certain issuers may be exposed, those engaging in higher risk activities
often face much difficulty in opening a bank account. In general, the fear of banks dealing with cryptorelated businesses remains strong due to their lack of understanding of digital assets and the developing
regulatory landscape.
Even where an issuer already has a bank account, issuers may still face similar problems to when they are
seeking to open a new bank account. An FI is required under its own AML obligations to monitor its clientson an ongoing basis, so when it is alerted to the fact that a client is issuing tokenised securities in a way,or involving a new business line, that changes its risk profile, the FI will have to reassess the AML risks
posed by that client and may require additional information and/or documentation. Some FIs are more
prepared to handle more complex scenarios than others, so this may take time and can in some cases
challenge the relationship, depending on the precise facts.
Note: It is important to be clear that issuing tokenised securities may involve no / no material change tothe issuer’s AML risk profile. For example, a regular corporation in a low risk business that issues bonds
recorded on blockchain through a regulated FI that collects fiat proceeds from KYC-cleared purchasers in
the usual way for a traditional bond offer, may still be low risk. On the other side of the spectrum, anissuer that plans to issue tokenised securities directly to non-KYC-cleared purchasers from anywhere in theworld, in return for digital assets converted through an unregulated exchange, in order to fund a newcasino, would likely be high risk.
Even though the relationship with the bank may not change per se, an issuer whose account is now used
for proceeds of issuing of tokenised securities may face other issues when operating its bank account.
Firstly, it is not uncommon that the bank may require use of its own custodian to hold the tokenised
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securities raised. This is obviously a problem if the bank’s preferred custodian does not have the expertiseor technical infrastructure to hold tokenised securities. Secondly, issuers may face difficulties in banking
fiat currencies converted from digital asset proceeds received from tokenised securities offerings,
depending on how the issuance is managed and any third parties are selected. Also, banks generally facedifficulty in accepting digital assets themselves on behalf of the issuing clients.
This may change as CBDCs or private commercial bank money on the blockchain become more widelyadopted and used. Ultimately, an early discussion and cooperative approach between the FI and the issuer
can assist in building an appropriate risk-based approach to the offering and distribution of proceeds.
C.2. Deal Structuring
This section discusses key considerations for the design of tokenised securities and the relevant token
economy. As is the case with the traditional securities markets, initial deal structuring for tokenised
securities will involve a consideration of the key commercial drivers for the issuer and the reasons forthe proposed securities issue.
Digital technologies, including blockchain, provide greater flexibility for issuers including aroundselecting the underlying technology, the trading platforms and digital exchanges and the ability to build
unique terms into their tokenised securities. Issuers should consider these variables carefully with theiradvisors to ensure they are heading in the right direction from the outset.
With this in mind, some key structuring considerations are set out below. These examples are notintended to be exhaustive and most are covered in more detail in the following sections of this paper.
Issuer purpose
A fundamental initial question is whether blockchain technologies are required, or are beneficial for theparticular transaction or, alternatively, if the traditional approach may be adequate for the particularissuer. There will remain many situations where shares or bonds issued in traditional, documented form
will be sufficient. Issuers need to carefully consider the pros and cons of adapting digital infrastructure to
their capital markets programs. Advantages include a more efficient fundraising process (in terms ofspeed, reach), lower origination fees, cap table management and real time reporting and ownership
structure. Potential disadvantages include potential increases in legal fees, regulatory uncertainty and asmaller pool of more specialist potential advising FIs. Advisors will play an important role in setting out
the key considerations and associated risks with adopting a digital fundraising approach.
Issuing entity

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Determination of who is best placed as the entity to be the issuer of the tokenised securities will follow
similar considerations as in the traditional process – for example:••

Where is the issuers business located?
Are there tax or other benefits for a particular issuer location?

Additional considerations relevant to the digital economy include:••

Issuer business footprint: For issuers operating digital businesses that are borderless in nature,they may not be constrained by physical location or a ‘home’ jurisdiction and so there can be
more flexibility to select the issuer entity and jurisdiction to best fit its needs.
Jurisdiction-based regulation: Given jurisdictions are taking different approaches to thedevelopment and regulation of digital assets, some jurisdictions will provide a more certain andsupportive regulatory environment. This will include both licensing requirements, availability ofbanking services and securities law regulations and controls. For example, Singapore, the Hong
Kong Special Administrative Region of the People’s Republic of China (Hong Kong) and
Switzerland are established traditional finance centres that have been open to digital assets
innovation.

See ‘Section 5 – Regulatory Treatment’ below for further discussion on the regulatory considerations.
Target investors
An initial structuring consideration is to consider the target investors for the proposed transaction. This
includes the following:•

Different pool of investors: One potential aim for issuers would be to access a separate classof digital investors. Those investors able to purchase and trade in tokenised securities
potentially include individuals and entities that are different to the typical securities market
investors. A relevant consideration in deal structuring and target investors will be thedenomination of the security and any amounts payable under a non-fiat form of payment.
Whilst most tokenised securities offerings raise funds in fiat currency, it would be possible tostructure a tokenised share or bond with payments payable in an established digital asset (i.e.
bitcoin or ether) or a digital asset unique to the issuer. Such a payment selection may exclude
more established participants who would be interested in holding a tokenised security but are
not yet ready or able to accept such assets. Alternatively, this choice would attract digital-savvy
investors who already hold or are interested in digital asset-denominated financial instruments.
One other consideration to take into account is that many jurisdictions limit tokenised securities
to professional/accredited investors only.

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•

•

•

Location of investors: The location of target investors is very important for any issue of
tokenised securities. As above in relation to issuer location, the regulatory impact of investor
location is essential to understand and deal with from the outset.
Trading/liquidity: A further consideration relating to potential investors is the availability ofliquidity and access to digital asset exchanges. A key role for advisors will be to identify theavailable trading venues and advise on appropriate steps to ensure liquidity of the tokenised
security, if that is a goal. Fungibility of the tokenised security in case of trading on multiple
exchanges is another key consideration.
Different tranches: Consideration needs to be given on whether or not the entire tranche ofissuance should be conducted in a tokenised way from a risk perspective. In case of multiple
tranches (tokenised and traditional) arrangements would need to be made for interactions
between the two different tranches. There would be pricing differences due to perceived
benefits/costs of the tokenised security.

See Section D.3. ‘Driving Liquidity’ below for a discussion on liquidity and digital exchanges.
Underlying Platform / Technology
A key early consideration for any issuer of tokenised securities is the selection of the underlying
technology – including both the blockchain itself and also the associated issuing platform.
Relevant factors include security, speed of transfer, the ability to adjust and amend the tokenised
securities and the access availability (i.e. permissioned or permissionless).
See Section D.2 ‘Technology Roadmap’ for further details on different technology considerations.
Structuring Token Terms
A key issue for deal structuring will be the legal terms of the tokenised securities. These will include theusual variables for a traditional security (for example, currency denomination, ranking on insolvency, rate
and nature of dividends or interest payments). For a tokenised security, there is greater opportunity andflexibility to design unique terms. Additional considerations will include the following:••

Form of distributions/dividends: As mentioned above, it could be possible to denominate thetokenised securities and any distributions/dividends in digital assets instead of traditional
currencies.
Voting: There is flexibility to determine the voting rights and other controls that may beprovided to tokenised security holders. Some considerations for voting control include whether
to have different classes of tokenised security identical in economic terms except for numberof votes attached to a tokenised security.

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•

•

Trading restrictions/lock-ups: The availability of smart contracts on blockchain further allows
for enforcement and facilitation of trading. For example, restrictions such as locking up private
securities for one year post-issuance, or preventing a private company from going beyond a
fixed number of investors (wallet holders) can all be enforced.
Convertibility: convertible debt instruments exist for a variety of traditional capital fund raisingneeds. With smart contracts, various other use cases could be applied towards areas such asmortgages, shifting away from debt financing towards a hybrid debt-equity based homeownership.

Key Participants
Key participants and their potential roles are set out below. Many of these actors are consistent with a
traditional fundraising process. However, for tokenised securities, all parties need to consider how theirtraditional roles and responsibilities will need to change to match the new technology and market
structure.
Participant

Role

Issuer

The entity that issues the tokenised security.
See Section C.5. on Regulatory Treatment below for a discussion on the use of‘issuer’ in the digital assets market.

Digital Advisor
Underwriter
Manager/ The professional advisor that assists with the offer structuring and manages the/ offering for the issuer. The advisor’s scope will need to be broader than in a
traditional role as they will also need to provide advice in relation to otherfactors, including technology/blockchain selection and digital asset exchange
availability and preferences. The breadth of the role means that there mayneed to be more than one advisor.
Underwriting of tokenised securities is not yet commonly provided. However,as the market develops and more established FIs become involved, it is possiblethat underwriting will develop in the same way that it is essential to many
traditional fundraising options.
A manager may be able to assist in ensuring that the tokenised security is issued
and administrated on an ongoing basis in a compliant and efficient manner.
An increasing number of tokenisation platforms and service providers are
acquiring licences themselves to provide regulated functions such as advice,custody, corporate / agency services etc.

21Technology Provider

The specialist that provides the blockchain platform technology and creates thetoken/smart contract on the platform.
These may be professional firms that are hired for a particular transaction by
the issuer.
Other issuers who are more involved in the digital market may prefer to build
this capability in-house.

Technology Auditors

The specialist to audit the blockchain platform and any smart contracts andassess cybersecurity risk.
We expect that as the market becomes more established, a more formal
process of audit and verification of the underlying technology will be expectedby investors and regulators.

Accountants

To provide tax and accounting analysis as necessary.
This will involve advice and opinions on the classification of the tokenised
securities and may also evolve to include support for advisors, such as theprovision of comfort letters and opinions (as is the case in the traditional
securities market).

Lawyers

Lawyers with the necessary skills to work on the deal structuring, regulatory
analysis, documentation and compliance. This may also involve opinions.

Custodian / Trustee

Custodians and Trustees will still be required for certain tokenised security
structures. However, their roles may be different to the traditional format.
For example:••••

Tokenised securities may still need custodian and/or trustees to holdunderlying physical assets for the benefit of token holders;
It is also possible for tokenised securities to be linked to security ofphysical assets;
Investors may also require custodians to securely hold their digitalassets;
The tokenised securities themselves would be held in digital wallets,
which are solutions for private key management in various forms.
These may or may not involve a third-party custodian.

22

Central
Securities The role of CSDs will be impacted. Tokenised securities with multiple parties
Depositories (CSDs)
recording ownership on a single register will call into question many of thecurrent operational requirements that are driven by regulations (e.g. physicalcertification of bonds, and the requirement for securities to be recorded on aregister by a 3rd party registrar, depending on the market). While the nominee
and registrar could be replaced by blockchain and smart contracts, in manycases, law and/or regulation will need to change to allow for that to happen, so
the process must be very clearly mapped out to ensure it can work.
Ancillaryprovidersservice As the digital market continues to develop there will be other parties thatemerge, including as examples:
•
•
•
•
•
•
•

Financial auditors/surveyors with blockchain experience to verify thelink between the asset and the token;
Sponsors, depending on the requirements of relevant exchanges;
AML/KYC providers who will verify investor identity and source offunds;
Entities that facilitate integration with traditional banks for payments
or traditional funds or exchange of cash for digital assets (or vice versa);
Providers that deal with “off-chain” rights associated with tokenised
securities such as voting, redemptions and events of default;
Primary market platforms and distributing brokers;
Secondary market venues and brokers.
Table 2: Tokenised security transaction participants

Tokenised Securities – specific tax and accounting considerations
As with any deal structuring, potential tax implications should be carefully considered. This is particularly
true for transactions involving tokens, given their relative novelty and variety, the lack of specific tax rules
governing these types of new transactions in many countries, and the lack of an abundance of precedents.
Besides, international tax rules are evolving in light of actions taken by the Organisation for Economic Cooperation and Development (OECD) in recent years to tackle international tax avoidance, which may giverise to additional considerations in structuring offerings of tokenised securities or security tokens. In thiscontext, we point out the following tax considerations:
Location of entities in the structure:• Issuing entity: In determining the locations of the issuing entity of the tokenised security andthe operating entities (i.e. entities making use of the proceeds from the issuance), it is importantto understand the tax regulations and environment of the relevant jurisdictions. In the past few
23•

years, substance has become a key focus of the OECD and tax authorities in designing andadministering tax rules. Most recently, a number of no or only nominal tax jurisdictions, suchas the Cayman Islands, the BVI and Bermuda, have enacted economic substance legislation as
required by the OECD and European Union. The use of entities in tax neutral jurisdictions as
issuers, which has historically been common in traditional securities issuance, will need to becarefully considered in light of the new developments.
Operating entity: Likewise, in determining the locations of the operating entities, it is important
to appreciate that an entity may not only be taxed in its place of incorporation, but also where
it actually operates.

Tax characterisation of the tokenised security / security token:• Accounting characterisation: From an accounting perspective, the token may be characterised
as either debt or equity, and the regular payments thereon would be either interest or dividends.
• Tax law: Depending on the tax law in the specific jurisdiction, the tax characterisation may notnecessarily be the same as the accounting characterisation. For instance, Hong Kong, the tax
authorities would look at the legal form rather than the accounting treatment or substance ofan instrument in determining whether it is a debt or equity for tax purposes. The assessment
is important as the tax treatment of interest and that of dividend can be very different.
Indirect tax considerations: Evolving tax rules: Traditionally, businesses have placed more focus on direct tax (e.g. corporate
income tax), but recently laws on indirect tax (e.g. value-added taxes (VAT), Goods and Services
Tax (GST)) are becoming much more sophisticated, especially in the increasingly digital
economy. As far as tokens are concerned, various countries have come up with new rules or
proposals on the indirect tax treatment of the exchange or use of tokens. For instance, theInland Revenue Authority of Singapore (IRAS) has recently released a draft guidance on digital
payment tokens (as defined by the IRAS) which proposes, inter alia, that the exchange of digital
payment tokens with other digital payment tokens or fiat will be exempt from GST from 1
January 2020 – which also means that at the moment they are not exempt. 6 On the flipside,certain jurisdictions such as Hong Kong already do not apply VAT/GST.
 Multi-jurisdiction: Given that a tokenised security is likely to involve various jurisdictions, itwould be important to understand the indirect tax rules in the relevant jurisdictions in order toavoid non-compliance.
The concept of tokenised securities is still relatively new in the accounting and tax world. Current
accounting standards have not specifically catered for it. Similarly, traditional tax rules were not designed
6 Source: IRAS e-tax Guide (Draft) – GST: Digital Payment Tokens (https://www.iras.gov.sg/irashome/uploadedFiles/IRASHome/GST/Draft%20e-

Tax%20Guide%20_GST_Digital%20Payment%20Tokens.pdf)

24

with this novel concept in mind. While some jurisdictions have come up with certain specific tax rules inrelation to transactions involving tokenised securities / security tokens, the rules are evolving, and there
are still jurisdictions (e.g. Hong Kong) that have not developed such specific rules. In certain jurisdictions,tax implications may also depend on the accounting treatment. Therefore, in many situations one would
have to consider how current accounting standards and tax laws may apply in token-related transactions.
All this requires the accounting / tax professional having in-depth understanding of how the industry andbusiness models work.
Professionals specialised in this space should no doubt be able to provide their professional advice toindustry players based on their best judgement. Yet, the lack of clear regulations, precedents andexperience of tax authorities in this area sometimes make it challenging for industry players to obtaincertainty easily. FIs and issuers should look out for advisors who can demonstrate a strong understandingof this topic area.
C.3. Primary Market
This section discusses key considerations regarding the primary market issuance of tokenised securities.
Issuing tokenised securities can provide benefits for issuers and investors alike. It can increaseautomation as it removes the need for nominees and registrars and the need for reconciliation as all
participants share the same record of ownership on a blockchain platform. Given that the ledger is theregistrar though, it is crucial that the roles and responsibilities around maintenance, data privacy, proofof records, distribution etc. are clearly defined. Contract terms can also be coded into the smart contract,which drives further automation.
To realise these benefits, corresponding changes in process may be required with regards todocumentation, disclosures, marketing, advertising, bookbuilding and settlement.
Documentation
Key documents for the initial primary issue of tokenised securities and their brief description are set out
below. Many of these documents have equivalents in the traditional fundraising process. However, thecomplete list for any issue will be transaction-specific.
Document

Description

Token Purchase / The purchase agreement or underwriting agreement will largely follow theUnderwriting
approach used for traditional securities.
Agreement
However, the forms will differ depending on the particular transaction. It may
be a direct subscription with the end purchasers or a subscription/underwriting
agreement similar to the traditional capital markets approach:

25

•

•

Direct purchase agreement: Direct purchase agreements entered intowith each purchaser of the tokenised securities. This could include
different versions for pre-sale purchasers, cornerstone investors and aform that public investors would sign at the time of a public offering. It
may also be made available in digital form only and signed
electronically through the platform portal/website.
Manager subscription agreement: Similar to a traditional subscription
agreement, it sets out the terms on which the issuer agrees to issue
the tokenised securities, for which the managers agree to subscribe (orfind subscribers). Managers will need to consider whether the issue of
tokenised securities is to be hard underwritten, and whether
syndication of the offering is required. In this situation, managers
would need to have the ability to hold the tokenised securities in thesituation where the underwriting obligation is triggered.

Tokenised Security Similar to a document that creates a traditional security, such as a
Creation Deed / Memorandum and Articles, Deed of Covenant or Trust Deed, this document
Terms of the Token
would constitute the tokenised securities to be issued. Although digital assets
are created through the issue of tokens on the relevant blockchain, a distinct
enacting/enabling deed or set of terms can provide greater clarity and legal
certainty for the enforceability of the tokenised securities.
This document should set out the terms and conditions of the tokenised
security, including any rights and/or obligations built into the instrument. It
would also need to confirm the link between the token and the asset it
represents.
A consideration in preparing this document is the extent to which its contents
may be expressed or incorporated in the smart contract, as well as the legal
relationship between the smart contract of the Tokenised Security and thisdocument.
This document can be integrated into the one in the row above as part ofissuance, but should be capable of standing alone.
Custody Deed

There may still need to be a separate custody arrangement established if
traditional assets back the tokenised security, or if any other assets will be heldin custody (such as distributions). This would follow a traditional form custodyagreement with adaptations as required.

26

Technology
If a third party is providing the blockchain and platform technology, thisImplementation/ agreement will set out the agreed scope of work and split of liability in the caseof technology failure. It may also deal with ongoing support and coverage.
Support Agreement
If third parties, such as arrangers or market participants, need access to a digitalplatform to assist with market operations, liquidity etc, this agreement may
also deal with the technical aspects of integration.
Offering Documents See discussion below.
/Information
Memorandum
Table 3: Tokenised security short-list of documentation requirements

Investor Disclosure
An important structuring question for any primary issuance will be the requirements around investor
disclosure which will depend on various considerations such as (a) jurisdiction-specific rules, (b) the legal
classification of the tokenised securities and (c) the target investor base (for instance, sales to retailinvestors are likely to require more detailed prospectus-style disclosure, which may even require
regulatory approval in some cases).
Issuers will need to be clear on the intended use of proceeds, the business description, the token
economics design and what the security will provide to both the issuer business and investors.
For any offering of tokenised securities, the following areas should be considered:
•

•
•

•

Whether an offering document is necessary is an important first consideration. If the sale oftokenised securities is undertaken on a private basis with selected investors, formal disclosure
may not be needed. In such instances, as is the case in the traditional markets, additional issuer
protections, such as investor representation letters, may be required.
The offering document should provide a description of the terms of the tokenised securities andmaterial information on the issuer, including financial information if available.
Issuers should consider robust risk disclosure, in particular in relation to the new technology
and uncertain nature of some of the features of tokenised securities. Even if disclosure is not
required under relevant regulations, clear disclosure to investors can help reduce risk for theissuer and managers.
Multiple documents can be used as the ‘disclosure package’ as long as they describe thematerial information correctly and are equally available to all investors. Depending on thetransaction, technical papers may also be relevant in combination with disclosure on the issuer
and its business.

27

In a traditional fundraising exercise, managers and/or investors are accustomed to receiving various
conditions precedent, including auditor comfort letters, due diligence reports and legal and tax opinions.
So far, given the infancy in the digital assets space and the absence of established underwriters/managers,
these requirements are not being regularly maintained.
However, as the market develops, managers and other stakeholders may expect to receive similarprotections. Some considerations include:• The form of these documents will have to be adapted and agreed with counsel and advisors
given some of the current lack of certainty around the status and classification of tokenised
assets.
• Any due diligence and verification exercises will have to also consider theblockchain/technology element of the tokenised securities. For example, reports from thirdparty technology auditors or consultants or platform live-testing may be needed to test the
integrity and security of the system.
Smart contracts for the tokenised securities
This is the relevant code that governs the technical aspects of the tokenised securities and comprises
certain essential functions to enable their trading and transfer, as well as additional functions relating to
the token economics, where supported by the chosen blockchain and issuance platforms. In some cases,
this may be developed by someone for the issuer in a completely bespoke manner, whilst in other cases,
an established third party “tokenisation platform” (or similar) may be used with minimal tailoring.
Marketing and advertising
Please also refer to Section D.1. (Regulatory framework and legal considerations) for further discussion
on the proposed regulatory framework for sales and marketing of tokenised securities.
The requirements around marketing and advertising will depend on the same factors set out above in
relation to investor disclosure. Issuers will need a structured and legally compliant marketing process andshould explore whether there are any stricter regulatory requirements for marketing of tokenised
securities.
Any marketing of tokenised securities will need to be conducted in a legally compliant manner and it islikely that the existing process of marketing conventional shares and bonds will often be applied.
Protections applied should include the following:• At the initial stages of the transaction, confidentiality and insider trading concerns will beparamount and care will have to be taken to ensure that access to material non-public
information (MNPI) is restricted.

28

•

•

•

In the lead-up to the official launch of the transaction, the issuer and deal team should adhere
to strict processes in the conduct of pre-deal investor education and wall-crossing to ensure
minimise the risk of any leaks of MNPI.
As part of transaction launch, the issuer and deal team should ensure that all MNPI is disclosed
in the offering document(s) to ensure information symmetry amongst investors, followed by aroadshow to market the tokenised securities.
Bookbuilding, pricing and settlement then follow. See also “Bookbuilding below”.

If a retail offering of tokenised securities is contemplated in any jurisdiction, the marketing and advertising
requirements will be more expansive and will need to take into account local regulatory requirements andthe likely needs of the investor base to make an informed investment decision. Disclaimers and risk
disclosure will need to be more detailed and care will need to be taken that all material information on
the platform and the tokenised securities will need to be clearly described. Education may also need tobe considered.
Bookbuilding
Blockchain has the opportunity to simplify the bookbuilding process as it could be almost real-time andtransparent if offered on public infrastructure. There could be one master book i.e. the ledger for allparticipants including the bank and syndicate members. Reconciliation would not be required which
would reduce manual efforts speed up the bookbuilding process. The extent of information dissemination
will need to be considered (i.e. permissioned versus permissionless).
However, bookbuilding may not need to happen on-chain. This could remain an off-chain process, with
only the final sale of digital assets being recorded on-chain. The precise approach depends on the need
and appetite of relevant parties to adopt blockchain technology into multiple aspects of the issuanceprocess.
Settlement
Traditional securities settlement is complicated and involves many intermediaries, leading to long clearing
and settlement cycles (generally T+2). Substantial manual intervention is currently also needed, whichmakes the traditional securities settlement cycle prone to errors. The various intermediaries (banks,
custodians, clearing houses etc.) work on various systems, increasing complexity and reducing
transparency.
Token settlement on the blockchain can bring various benefits including efficiencies, reduction ofcounterparty risk and decreased settlement risk, leading to shorter settlement cycles. Clearing andsettlement are in fact merged. Some regulators too are convinced of the value blockchain can bring topost-trade processes. For example, the European Securities and Markets Authority in its February 201829

report on “The Distributed Ledger Technology Applied to Securities Markets” states that clearing andsettlement could theoretically become almost instantaneous with blockchain, as trade confirmation,affirmation, allocation, and settlement could be combined into a single step and reconciliations would
become virtually superfluous. Certain major exchanges are integrating blockchain technology into theirown processes.
However, rules regarding settlement finality and other matters must be addressed. It is important tofinancial markets that transactions be considered “final” to ensure they cannot be unwound. The
operational finality of transactions on the blockchain needs to align with the applicable legal finality
requirements of the applicable legislation. 7 To the extent that existing legislation is irrelevant, this should
be addressed in contract.
Token platforms will need to provide similar levels of safety, soundness and risk mitigation as found in the
traditional post-trade processing system in order to attract institutional investors. We recommend thatthe platforms use the Principles for Financial Market Infrastructure issued by the Bank of International
Settlement as guidance. Relevant transaction documentation should also be very clear about settlement
finality – for example, the number of confirmations required for the parties to agree that a digital asset
has been transacted.
Technically irrevocable DvP can be achieved on blockchain networks or tokenisation platforms but only if
both the securities and payment tokens are available for immediate delivery, which necessitates prefunding of accounts. Pre-funding increases the costs of cash, credit, capital and collateral. It also makes it
difficult to accommodate techniques, such as market-making, short-selling, securities financing andnetting of transactions between the same counterparties, that enhance liquidity in the securities markets,and the implication of their absence requires further research. Whilst technically DvP can be done on T+2(as with traditional securities), this would decrease the advantage of near real-time settlement. A balanceneeds to be struck between lowering counterparty and settlement risk on the one hand, and liquidity
preferences on the other hand. There have also been preliminary conversations around the usage ofcredit/margin lending as an alternative to pre-funding which would allow for a new revenue stream forFIs, especially for market makers.
Atomic settlement implies near real-time settlement of trades, in lieu of the industry standard of
multilateral netting and settlement of trades, which are often on a T+2 or T+1 basis. This is because it canenable the simultaneous peer-to-peer exchange of one digital asset for another. For atomic settlement,
trades may still have to be pre-funded, in the sense that they may need to be pre-positioned by theinvestor to be transacted. However, the pre-funding process and settlement process itself could besignificant swifter – for example, a smart contract could enable the tokenised security to be issued to the7

Source:DTCC,
Guiding
Principles
forthe
Post-Trade
Processingof
Tokenised
Securities,
March
2019
(file:///C:/Users/lvanderloo/AppData/Local/Packages/Microsoft.MicrosoftEdge_8wekyb3d8bbwe/TempState/Downloads/Crypto-AssetWhitepaper-2019%20(1).pdf)

30

investor automatically upon the receipt of a digital asset (say, bitcoin or a central bank digital currency)
to a pre-approved address of the investor.
It is true that atomic settlement models could add to operational complexity and overheads to custodians,
CSDs and any prime brokers of buy-side clients, who would have to gear themselves up to handling acompletely different end-to-end workflow even for fungible securities. However, once established, thismodel could drive significant efficiencies and could even allow certain disintermediation to occur.
In a cross-border context, atomic settlement will require pre-funding of the FX transaction before having
the guarantee of execution. Currently, it is possible for market participants to execute FX after knowing
their net exposures. Further, in order to minimise credit risk, updates to country-level Real-Time Gross
Settlement systems and cross-country integrations may be required to instantly fund cash legs of atransaction. Another possibility to fund the cash leg is to make use of CBDCs or stablecoins to settle thetransaction.
Tax considerations for investors
Investors may be concerned about the tax implications to them as holders of the tokenised security. Thesemay include the following:
Tax characterisation of the token• Regular income: As in the case of the token issuer, investors need to understand the tax
characterisation of the tokenised security, and accordingly the regular income, if any, to be
derived therefrom (interest or dividend), in order to understand the potential tax liability thatthey may be facing.
• Fair value changes: In addition to regular income, institutional investors may need tounderstand the tax treatment of any fair value changes of the tokenised security held by them.
Indirect tax considerations• Issuer versus investor: As noted above, the issuance of tokens may give rise to indirect tax
implications depending on the tax laws in the relevant jurisdictions. While indirect taxes, if any,
would generally be collected by the token issuer, normally the liability is passed on to andtherefore borne by investors.
Common Reporting Standard (CRS) / Foreign Account Tax Compliance Act (FATCA)• Automatic exchange of financial information: Under the CRS, a global reporting standard forthe automatic exchange of financial account information (AEOI), financial institutions (asdefined) are required to collect and report certain financial account information to their tax
authorities for automatic exchange with other jurisdictions. The US has similar rules under
FATCA.

31

•Additional compliance burden: Whether the tokenised security being issued falls within thescope of CRS / FATCA will require a detailed analysis based on the specific facts of the situation.
If it is in scope, the issuer, if considered a “financial institution” as defined, may have theadditional administrative burden to ensure compliance.

It is worthwhile noting that in many jurisdictions the tax treatment may depend on the accounting
treatment. Therefore, it is key that the accounting treatment of tokens is established first.
C.4. Secondary TradingThis section considers key considerations regarding the secondary market trading of tokenised
securities. Secondary trading is essential to ensure a secondary market that allows investors to enter
into and exit investments 24/7, if that is relevant to the success of the particular tokenised security inquestion. Digital asset exchanges listing tokenised securities will form an essential part of the ecosystemby providing access to tokens and liquidity. To date, there are very few live regulated security token or
tokenised security exchanges though there is growing interest in the setup of these capabilities fromboth incumbents and start-ups.
Existing regulated securities exchanges and automated trading platforms are well placed to support thetrading of tokenised securities given their regulatory status and operational infrastructure covering
securities trading and many of them have started digital transformation projects to embrace
blockchain. However, such regulated exchanges and trading platforms still face various regulatory andoperational issues such as investor restrictions, technological standards, and balancing the interests ofexisting stakeholders. New market entrants are also facing various regulatory and operational
challenges looking to operate a regulated tokenised security exchange.
It is also important to identify which are the operational processes that need to be migrated onto theblockchain. For instance, pre-trade processes such as trade matching and confirmation are alreadyefficient as they are on centralised matching systems. Furthermore, there are often many cancellationsin pre trade matching as member firms consolidate orders to find the best pricing. Hence, theseprocesses are not suitable for migration onto the blockchain. Instead, it is likely that an API feed post
trade confirmation will be sent to the blockchain, such that the clearing and settlement post-trade
processes will be done on-chain.
To support the ecosystem, ASIFMA in 2018 issued Best Practices for Digital Asset Exchanges. The goalof these best practices is to guide the digital asset exchanges towards international best practices andhighlight points for consideration in several key areas including listing process, AML/CTF, custody,
cybersecurity and market manipulation. Global bodies including the International Organisation of
Securities Commissions (IOSCO) and jurisdictions in the region, including Hong Kong, are now
considering regulating digital asset exchanges.
32Market conduct considerations
Tokenised securities are considered "securities" and may be traded over-the-counter (OTC) or over digitalasset exchanges or brokerages and potentially vulnerable to market misconduct which could adversely
affect the integrity of the market.
In general, existing securities market misconduct laws and regulations are more focused on securities
listed on recognised stock exchanges and/or licensed trading platforms. Accordingly, existing laws andregulations may not necessarily extend to securities traded OTC or unlicensed trading platforms leading
to a potential gap under existing regulatory frameworks, incumbent FIs' internal compliance policies andprocedures and/or issuers' expected practices and conduct. However, a range of general market integrity
principles apply to FIs, which would extend to appropriate market conduct controls for tokenised
securities.
In light of the above, the following key principles would be essential to further enhance the developmentof the overall tokenised securities ecosystem:••

Secondary market trading platforms should be subject to regulatory authorisation and oversightthat could preserve the integrity of the market; andRegulations and practices should be put in place that are (i) designed to detect and avoid market
misconduct and other unfair trading practices and (ii) promote transparency of trading.

We have set out below the considerations and practices for FIs and issuers to implement the above key
principles.
FIs and issuers – due diligence on trading platforms
FIs and issuers should implement procedures to assess the reliability and integrity of the trading platforms
before trading the tokenised security on such platforms, for example, taking into account the following:Considerations
ExamplesExperience and capabilities of the trading• Geographic coverage
platform• Operational history• Technology capabilities• Reporting capabilities• Team size and experience• Market makers
Regulatory status of the trading platform• Whether it is regulated in a reputable andestablished jurisdiction
33

Compliance and surveillance systems for thecontinuous monitoring of trading to preserve
market integrity•

Cybersecurity risk management measures••
Credit assessment•

Market transparency••

Rules and compliance programs toprohibit, detect, prevent and deter
market misconduct and other unfair
trading practices
Any previous hacking incident or
cybersecurity breach and, if so, how such
incident was addressed
Cybersecurity audit
Whether the trading platform has
sufficient financial resources andinsurance covering credit and operationalrisks
Pre-trade transparency – such as orderbook
Post-trade real-time / close to real-timetransparency – such as order timing, tradesize, trade reporting

Table 4: Considerations for incumbent FIs and tokenised security issuers during implementation

FIs – treatment of tokenised securities under internal compliance policies and proceduresFIs have existing compliance measures to address the risk of market misconduct and other unfair trading
practices; for example information barriers, restricted lists, personal dealing policies and conflicts ofinterest policies. Depending on the nature of a particular FI’s business and/or local requirements, theinstrument coverage of the measure above may be different. For example, private shares (as opposed toshares in a listed company) may be carved out from restricted list / personal dealing policy of such FI andinstead covered under a general conflicts of interest policy. By analogy, if a tokenised security is issued byan unlisted company and such token is traded on an OTC basis it could be subject to the same carve-out
from such compliance measures.
In this respect FIs will need to determine how tokenised securities fit into their established policies,
controls and measures. The more robust approach will be to treat such tokenised securities in the samemanner as "listed securities" for the purposes of interpreting existing internal compliance measures toprevent the misuse of material non-public price sensitive information when dealing with such tokenised
securities.
FIs dealing with tokenised securities will also need to follow general business conduct principles applicable
to regulated FIs with the common principles including the duty to act in the best interest of clients, actingwith due skill, care and diligence and to avoid conflicts of interest.

34

Issuers – listing conduct and market transparency
Issuers of tokenised securities should model their conduct in the market on how listed companies are
required to act, in particular when structuring the issuance of tokenised securities and to assist inproviding ongoing market transparency for investors. Issuers should clearly outline to potential investors
the risks of investing in the tokenised security, as well as clearly outline who can invest in them (e.g. interms of location, professional investor versus retail investor).
In this respect potential issuers should:• ensure fair treatment to investors – for example, unless otherwise duly justified, there should
be no preferential allocation or price offering to any particular class of investors; the same levelof information disclosure should be provided to all investors for such investors to make an
informed investment decision;• on an ongoing basis, disclose material non-public price sensitive information to the market assoon as reasonably practicable to avoid unfair market practices;• if possible, suspend trading of its tokenised securities in order to protect investor interests, forexample, pending further announcement of material non-public price sensitive information;and• implement appropriate internal controls relating to conflicts of interest, staff dealing and othermarket integrity standards.
Tax considerations
In the secondary market, the following tax considerations may be relevant to the various stakeholders:Tax considerations to exchanges:• Tax structure and transfer pricing: Exchanges may need to appropriately structure theirbusiness models taking into account the regulations in the relevant jurisdictions. Oftentimes
this would involve cross-border related party transactions, in which case transfer pricing would
be relevant. Transfer pricing rules set by jurisdictions seek to ensure that transactions between
related parties are conducted on an “arm’s length basis”, i.e. as if they were conducted between
independent third parties.
• Other direct tax issues: Other potential direct tax issues that may be faced by exchanges include
the source (and hence taxability) of profits, withholding tax on cross-border transactions anddouble tax relief.
• CRS / FATCA: Besides, exchanges may also need to observe CRS / FATCA requirements if theyfall within the definition of financial institution.

35

Tax considerations to investors:• Capital gains: Investors (both institutional and individual) would most likely be concerned
about the taxability of transfer of the tokenised securities. In jurisdictions where taxability
depends on the source of the profits, or where capital gains are subject to a different tax
treatment (e.g. different tax rate or exemption), investors would wish to understand how thesource rules apply to tokenised security transactions and/or how to qualify as capital gains.
Indirect tax considerations:• Exchange of tokens: The exchange of tokenised securities to another token or to fiat may giverise to indirect tax such as value-added tax and/or transfer taxes such as stamp duty, dependingon the tax laws of the relevant jurisdictions. Both the seller and buyer as well as the exchange
platform need to observe their obligations.
C.5. Regulatory treatment
This section considers key considerations regarding the role of regulation throughout the lifecycle oftokenised securities. Regulatory acceptance and approaches to tokenised securities vary acrossjurisdictions, therefore making it an important dimension. From a regulatory perspective, the generalview is that the status of an asset should arguably not be affected by the mere fact that it is tokenised,save that it may add complexity that is relevant to things like disclosure and investor eligibility. If theunderlying asset is regulated, the tokenised representation of that asset should be regulated as well.
However, the nature and structure of the blockchain ecosystem may impact the extent to which
regulations are applicable.
Regulatory liaison
For FIs that want to venture into the space of tokenised securities, it is important to understand theregulatory framework that will apply. Liaison with the relevant regulators is likely to be key in manymarkets. Generally, regulators would expect the FI to engage in preliminary consultation to discuss the
proposed new business before submitting a formal application (if required) for approval.
The extent of communications with the regulator for obtaining an approval (if required) would also
depend on the regulatory acceptance in respect of marketing or offering securities tokens in the relevant
jurisdiction.
Anti-commingling rules
Banks are generally prohibited/ discouraged from engaging in any business other than the "business ofbanking", unless authorised by the relevant regulator.

36

For example, Singapore has in place an anti-commingling policy to segregate financial and non-financial
businesses of banks i.e. banks are restricted to conducting banking and financial businesses andbusinesses incidental thereto, unless otherwise exempted or authorised by the Monetary Authority ofSingapore (MAS).
In September 2017, MAS published a consultation paper proposing to refine the anti-commingling policy,
which, amongst other things, aims to provide greater flexibility for banks to conduct certain non-financial
businesses that are related to their core business and to allow banks to operate digital platforms. The
initiative by MAS to refine the anti-commingling policy shows that MAS recognises the evolving landscapein the banking sector due to the rapid technological advancement, and the need for regulatory changes
to accommodate such development. Changes to the anti-commingling policy would allow greater
flexibility for banks to compete in payments more effectively against other non-financial players, e.g. bypermitting banks to operate as funds service transfer or token platforms.
Other regulatory considerations for market participants
Unlike traditional securities offerings, tokenised securities could potentially raise novel issues in respectof determining who the issuer is. The UK’s Financial Conduct Authority’s (FCA) published in January 2019a Consultation Paper on Cryptoassets 8 in which the FCA notes specifically that the term "issuers of tokens"covers a number of entities "including developers, designers, firms who issue tokens and certain
intermediaries, since determining precisely who the issuer(s) are is not always easy or possible".
Referencing the FCA's paper, below is a table setting out examples of potential tokenised security issuers
and the possible regulatory requirements applicable to them.

8 Source: FCA Guidance on Cryptoassets, Consultation Paper, CP19/3, January 2019 (https://www.fca.org.uk/publication/consultation/cp19-

03.pdf)37

Issuers

Activities

General Regulatory Requirements/Obligations
Capital raising activities by offering securities of a company are normally subject to local rules andregulations, or require a regulatory license/ approval, unless exempted. Generally speaking, if atoken falls within the meaning of "financial instrument" or "securities" under local law andregulation, it is likely that issuance and offer of such tokenised securities would be subject to thecommon law and regulations governing the issuance, offering to public and/or any selling
restrictions, such as:•••

Legal issuer ofRaise capital fromthe securities(Entrepreneurs investors via
issuing tokens/ Start-ups /
SMES)

•

the requirements for regulatory approval and registration for prospectuses;
legal and regulatory requirements relating to money laundering or terrorist financing;if the offer is made available internationally, local laws in each jurisdiction where theoffer is available; andrules of the relevant trading exchange or platform.

Exemptions• Issuers of tokens should consider whether any exemptions from the prospectus
requirement are relevant. For example,
 the offer is small (personal) offer that does not exceed a certain amount within acertain period, (note: different jurisdictions may have different exemption
thresholds); or the offer is a private placement offer that made no more than a certain number of
persons within a certain period (note: different jurisdictions may have different
exemption thresholds); or the offer is made to institutional investors; or the offer is made to accredited
investors. 9

9 Source: MAS, A guide to digital token offerings, April 2019 (https://www.mas.gov.sg/-/media/MAS/Regulations-and-Financial-Stability/Regulations-Guidance-and-Licensing/Guide-to-Digital-

Tokens-Offering-last-updated-on-5-April-2019.pdf)

Issuers

Developers /Designers

Activities
Build tokenised
security according
to the specificneeds, client typeand investment
requirements

General Regulatory Requirements/Obligations
The developers/ designers are less likely to be subject to any licensing requirement. It is more
likely that the onus is on the legal issuer or the intermediary to ensure that thedeveloper/designer is competent and the tokenised security they built (which is thenissued/marketed/offered) complies with the relevant regulatory standard.

Develop smart
contracts

Exchanges andtrading
platforms

Regulated
Intermediaries

Facilitate thebuying, selling andtransferring of
tokenisedsecurities
May also provide
custody service as
wallet providers
Provide advice tocustomers
regardingdifferent tokens
and / or facilitate
the purchasing of
tokensDepending on the operation/scope of the exchange, permissions may include, but are not limitedto:• operating a multilateral, or, organised trading facility;• dealing in investments as principal;• dealing in investments as agent;• arranging deals in investments;• safeguarding and administering investments; and• making arrangements with a view to investments.

The roles of intermediaries would normally include:• advising on investments;• dealing in investments (whether as principal or agent);• arranging or facilitating deals in investments; and• making arrangements with a view to investments

39Issuers

Activities

Conduct
requirements

General Regulatory Requirements/Obligations
In most jurisdictions, intermediaries carrying out the above activities would have an existing
licence and registration with the local regulator. The main regulatory requirements andobligations would therefore mainly be conduct requirements as a licensed and registeredintermediary under local law and regulation.

Tokenised security suitability for intermediaries’ customers:• Ensure that customer recommendations and solicitations with respect to tokenised
securities are reasonably suitable for the particular customer, given the information about
the particular customer of which the intermediary is or should be aware through theconduct of due diligence;• Conduct customer due diligence and anti-money laundering checks on their customers;• Ensure the client is provided with sufficient information on the key nature, features andrisks of the tokenised security to understand it before making an investment decision; and• Ensure the client is provided with risk disclosures and clear warning statements about thepurchase of the tokenised security.
Due diligence on the offering, which should cover:• The background and financial soundness of the management, development team and theissuer of the tokenised security; and• The existence of rights attached to the tokenised security and any assets which back the
tokenised security.
Licensed/ registered intermediaries should also study all relevant marketing materials and otherpublished information, to ensure that information provided to their customers in respect of atokenised security offering is accurate and not misleading.
Table 5: Regulatory considerations for market participants40

D. Building a benign, enabling environment for tokenised securities
As mentioned above, tokenising securities has the potential to increase efficiencies and drive down costs
substantially. The industry is still nascent and there are some uncertainties. In what follows, we lay out
the regulatory, technology and liquidity considerations that will need to be addressed for tokenised
securities to reach their full potential.
D.1. Regulatory framework and legal considerations
Tokenising securities will require innovative solutions that go beyond technology. In some cases, legal
reform will be required. In the table below, we outline the key legal and regulatory considerations formarket participants as well as the regulatory success factors, issues and risks that regulators should
consider for a robust enabling environment across the value chain, from token creation to token transfer
and sales as well as custody. As mentioned previously, the mere fact that the asset has a tokenised
representation should arguably not impact the regulated status. However, there are gaps and issues
that are raised by the blockchain model which should be considered by regulators in the future.
Addressing these gaps and creating clarity will be key to attract institutional players and helping theecosystem evolve. Areas suggested for focus by regulators are provided in grey colour.

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

Token Creation
Nature of rights created•Tokenised securities represent traditional securities on a •blockchain e.g. shares in a company which are issued and tradedon a distributed ledger. In addition, tokenised securities and theirassociated smart contracts can offer certain rights, such as voting
rights or revenue distribution.

Periodic guidance from regulators that provides examples of
emerging token structures should be provided, particularly
for more complex tokens such as stablecoins, which may besecurities, structured products/derivatives, trust instruments
or stored value facilities.

•

These rights are defined by the terms of the tokenised security,
which may be express or implied.

••

It is important to remember that although security tokens purport
to confer rights, and these rights may be enforceable by way ofthe specific blockchain applications, there are still unresolved
legal issues regarding what these rights represent and whether
any rights can be transferred along with the token [see transfer
considerations below].

•

In some markets, it may not be clear whether tokenised securities
are a form of property (or what precise type of property they are).
Much depends on this categorisation, including the ability toassert proprietary claims when tokens are misappropriated, andthe ability for the tokens to be the subject of a trust or a
proprietary security interest.

Providing clarity on the regulatory environment for tokenised
securities by, for example:
 Clear guidance as to how tokenised securities fallwithin the jurisdiction’s existing legal as well as
regulatory/securities framework. This includes
providing clear statutory definitions for classes ofregulated products. These definitions should betechnology-neutral and capable of being interpreted
when blockchain is used.
 Periodic guidance on the regulator’s stance should be
issued to provide clarity on the regulatory position of
emerging token structures and more complex token
products.
 Issuing best practice guidelines to assist market
participants.

•

From a policy perspective, striking a careful balance between
the appropriate regulatory scrutiny is in place to protect theKey legal and regulatory considerations for market participants••

Depending on the nature of rights created, the tokenised security
may fall within the definition of “securities” or other regulated
financial instruments and may be governed by the relevant
jurisdiction’s securities laws. For example, it may be treated as aregulated product in the jurisdiction in which it is issued,
marketed, held, listed, sold or exchanged. As the relevant laws
(and any exemptions) in each jurisdiction can vary significantly, it
will have a bearing on where the issuer decides to launch, market,
list or sell the tokenised security.
The FI / issuer should ensure that the tokenised security remains
compliant with the laws/ regulations of all applicable jurisdictions
including:o Domicile of the issuer – i.e. place where the token issuer
is incorporated;o Marketing/ sale of the tokenised security – jurisdictions
in which the tokenised security is marketed or sold. Careshould be taken to understand what constitutes“marketing” in the relevant jurisdiction as the thresholdmay be low;o Platform – location of the exchange/platform where thetokenised security is traded;o Exchange location – any jurisdiction in which thetokenised security is exchanged (if different from above);ando Location of any custody providers.

Regulatory considerations and success factors for a robust
enabling environment
investing public whilst ensuring the legal framework is
conducive to token creation.
•

Internationally, working towards regulatory alignment acrossjurisdictions.
This will ease compliance burden andencourage token economy.

•

Opportunities for token creators, exchanges and otherinfrastructure providers to work with regulators to test
solutions should be provided, akin to sandboxes that allow
participants to join on an unregulated basis for a defined
period of time in a controlled environment.

43

Key legal and regulatory considerations for market participants•

Regulatory considerations and success factors for a robust
enabling environment

Persons carrying on a regulated activity will usually need to belicensed. Consider the scope of any such rules and potential
exemptions prior to/ during token creation.

Register formalities••

Certain types of securities require a formal register to be •maintained of rights holders (e.g. a register of shareholders,which is evidence of title). In a permissioned blockchain world,the ledger is the register and responsibilities aroundmaintenance, data privacy, proof of records, distribution etc. •need to be clearly defined. There are still legal question marks onwhether a blockchain asset registry can validly establish legal
ownership beyond proving that the correct private key was used
to initiate a transfer. In particular, question marks arise overwhether a distributed network with multiple participants
providing consensus over a registry, constitutes a single third
party maintaining the ledger.

The legal framework should provide for the recognition ofblockchain-based electronic registers in a technologicallyagnostic manner.
Continually monitor the sufficiency of the legal and regulatory
framework to support secure electronic transactions.

Register requirements may be prescriptive and should be checked
for any rules that suggest that a physical register is required as
the primary or secondary register.

Documentary formalities•

The issuer should have in place all documents required to support •its legal structure, for example, articles of association,
shareholders’ agreement, director agreements and the applicable

Establishing clear disclosure standards for fundraising/offering documents and any additional disclosure

44Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

registry filings. In addition, issuers may also need the following
documents in place: Token purchase agreement which outlines the rights ofinvestors and the tokenised security offering details;•
 Tokenised security creation deed/terms of the token;
 Smart contract (code); Custody deed (if applicable);• Disclosure document(s) including technical papers (ifapplicable); Underwriting agreement; and Third party agreements with advisors, developers etc.
••

Each jurisdiction will usually have specific rules concerning
offering/ fundraising documents. For example, an issuer may berequired to make certain disclosures in the offering/ fundraising
documents and seek the relevant regulatory approvals before any
such documents can be issued to the public. Exemptions may beavailable.

•

For execution of documents and provision of informationelectronically, it would be important to check the extent to which
the law permits this in the relevant jurisdictions and whether any
specific formalities need to be complied with.

requirements which may apply to virtual assets classes suchas tokenised securities.
Clarifying conduct requirements in relation to tokenised
securities, including suitability, cooling off periods etc.
Legal framework providing for recognition of decentralised
identities and electronic records and signatures, and ensurethat they have the same legal status as their papercounterparts.
Continuing to monitor the sufficiency of the existing legal
framework to ensure that it continues to facilitate a digital
economy and that laws are adapted to respond to evolving
technology.

Token Transfer Fundamentals
Transferability and formalities for assignments
45

Key legal and regulatory considerations for market participants•

Regulatory considerations and success factors for a robust
enabling environment

Consider what exactly is being transferred when a tokenised•
security is transferred. For example, a token may carry with it legal
rights and obligations, or it may represent a beneficial interest.
•
The relevant documentation should clarify this point, as well as
any relevant notice procedures / processes, deemed assignments
and other transfer mechanics. This can also be automated when•
the token is generated through an issuance platform.

Digitise paper-based systems.
Encouraging the adoption of interoperable standards fortokenised security transfers.
Consider issuing (or supporting industry-generated) standard
form provisions that address assignment.

Stamp duty / taxation• In some jurisdictions, tokenised security transfers can attract •stamp duty.

A completely electronic and automated stamping facility, with
API access and 24/7 availability.

In some jurisdictions, tokenised security transfers may also attract •value-added taxes.

Clarification by the tax authorities of how any value-added
taxes are supposed to be applied to tokenised securities (andvirtual assets more generally).

•

Electronic contracts•

Electronic contracts are typically the subject of specific legislation.
•
But much of it was drafted in the “pre-blockchain” era. It may not
be suitably broad to apply to all blockchain transactions and may
have certain carve-outs and exclusions.
•Electronic transaction legislation should be reviewed, and if
necessary, revised, in light of new technology. Further, carveouts and exclusions should be assessed to determine whether
they are still necessary.
Relevant certification schemes should be expanded, andconsideration given to providing regulatory guidance or

46Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment
assurance regimes with respect to the validity of digital
signature technologies (e.g. DocuSign).

Selling / Exchanging Tokens
Licensing•

The marketing and sale of traditional securities, like shares and •bonds, is typically a regulated activity that requires a licensed
financial intermediary to facilitate this process. The reason for thisis that one of a securities regulator’s key objectives is to protect
investors in its local market. One of the ways in which a regulator •seeks to achieve this objective is by implementing a licensing
regime for entities and individuals that interface with local
investors. Licensing requirements are aimed at ensuring that thelicensees are financially sound, competent and otherwise ‘fit and •proper’ to effectively perform their functions.

• The legal consequences for conducting a licensable regulated
activity without holding the correct license can be severe, evenattracting criminal liability in some jurisdictions. Accordingly,
ambiguity in licensing requirements is an area of legal/regulatory
risk for regulated financial institutions.
•• With traditional securities products, it is relatively straightforward
to determine, firstly, the category of the relevant product and,secondly, whether/what kind of regulatory license/authorisation •is required to market/sell the product in that jurisdiction.

Clear statutory definitions for classes of regulated products.
These should be technology-neutral / sensitive and capable ofbeing interpreted in light of the use of blockchain.
Regulatory feedback on proposed transaction and compliancestructuring (either through existing Fintech ‘contact points’ orthrough new channels established for this purpose).
Publication of FAQs, ‘best practices’ and other regulatory
guidance to keep market participants updated regarding
compliance developments and appropriate transaction
structures (e.g., publication of ‘case studies’ or worked
examples of certain transaction structures and a descriptionof their treatment for regulatory purposes).
Furtherance of regional cooperation and / or standardisation
or equivalence would be desirable, in particular aroundtaxonomy.
Implementing standards for tokenised securities is alreadybeing considered by several jurisdictions to facilitate the47

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment• There are established procedures for marketing and sellingtraditional securities across multiple Asian jurisdictions, typicallyusing an international investment bank or syndicate of banks to
run the process through its/their network of locally licensed groupcompanies/branches/affiliates (or by engaging appropriately
licensed third parties to act as agents in certain jurisdictions).

incorporation of such digital assets into the regulatory
framework. For example, a guidance paper from the German
Bundesbank written in July 2019 recommends the adoptionof common standards for Tokenized securities acrossEuropean markets, in view of the Capital Markets Union.

• However, the characterisation of tokenised securities can be lessstraightforward in some jurisdictions. A tokenised security that
represents a share could also be characterised as another type of
regulated financial product, like a collective investment scheme orderivative. Moreover, for regulatory purposes a tokenised
security may be characterised in different ways across a numberof jurisdictions, making a multi-jurisdictional marketing and sales
process a regulatory minefield. The characterization of thetokenised security determines the licensing requirements for theFIs involved in its marketing/sale, and also the category of investor
to whom the tokenised security can be sold (and dictates thenecessary risk disclosures, etc, that are required).

Offering requirements•

Where tokenised securities are being publicly offered, the offering•
document will typically be vetted by a regulatory authority. While
there may be established rules and guidance in relation to theoffering documents of traditional financial products, there may be

As tokenised securities have certain different characteristics
to traditional securities, guidance from regulators on the levelof disclosure expected of public offering documents fortokenised securities.
48

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

some ambiguity in relation to the disclosures that are applicableto tokenised securities (for example, in relation to the underlying •technology involved) additional to those of traditional securities.
Issuers and FIs acting as arrangers would therefore need tocarefully consider the disclosures and contents of a tokenised
security offering document.
••

Where the tokenised securities are offered in reliance of a public
offer exemption (e.g. the offer is only to accredited/professional •investors only), a public offer document is typically not required.
However, typically speaking, offering documents would still be
prepared for such privately offered financial products (e.g. private
placement memorandum for privately offered funds). Issuers andarrangers would need to consider the disclosure required for suchoffering documents.

As market practice has not yet developed in respect of thecontents of public or private tokenised securities offering
documents, industry groups could provide guidance/bestpractices on matters such as risk factors and selling
restrictions (to be endorsed by regulators).
Please see Section C.3 “Primary Market”
Where there are known areas of law/regulation with
commonly identified ambiguities, these ambiguities should
be clarified to establish greater regulatory certainty.

Where the tokenised securities are offered in a number ofjurisdictions, there could be some ambiguity as to how the tokens
should be described in the offering document. For example, thetokens could be viewed as securities in one jurisdiction but could
be treated as an additional type of financial product in anotherjurisdiction. In such case, labelling the tokens as “tokenised
securities” in the offering document could result in confusion forsome investors.

Purchaser limitations
49

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment•

In certain jurisdictions, the acquisition of voting control in an•
entity that is listed or admitted to trading on an exchange or aregulated entity may trigger regulatory approval or otherrequirements if certain thresholds are met. Purchasers should be
mindful that the acquisition of certain types of tokenised
securities (e.g. those that may be converted into voting shares ofa company) could trigger such regulatory requirements.

•

Please also see the discussion in “offering requirements” aboveand “suitability and other pre-sale procedures” below which
examine other limitations on the types of purchasers that may
acquire tokenised securities.

Please see the discussion in “suitability and other pre-saleprocedures” below.

Suitability and other pre-sale procedures•

Since the distributors of tokenised securities will typically be •regulated/licensed persons, they will likely need to ensure thatthe security tokens are suitable for the target group of investors.
For example:
 Are the tokenised securities, in general, too complicated tobe suitable for retail investors?
 Are they classed in a certain way by the relevant regulator(s)– for example, as “complex products”?
•
 How to ascertain the various risks when assessing thesuitability of a tokenised security vis-a-vis a client (e.g.
product risk, concentration risk)?

To promote and facilitate the sale of tokenised securities,
specific guidance outlining distributors’ obligations andfactors to be considered when ascertaining the suitability ofthe tokenised securities to clients would give market
participants a better indication on how to fulfil their
obligations.
Instead of a blanket ban on distribution to retail investors, atiered approach could be adopted to distinguish between
investors with different risk characteristics. For instance, if atokenised product was considered too complex for mass
market retail, could it be sold to ultra-high net-worth clients50

Key legal and regulatory considerations for market participantsRegulatory considerations and success factors for a robust
enabling environment

How to identify whether an investor has sufficient experiencein dealing in tokenised securities (or analogous products)?

on an advised basis or to high net-worth clients provided thatspecific risk warnings are included during the sales process.

AML / CTF considerations•

In 2019, the Financial Action Task Force (FATF) provided useful•guidance on the AML/CTF standards that jurisdictions should
adhere to in relation to virtual asset service providers (VASPs)(“FATF Guidance”). As this is a recent development, jurisdictions
may not have implemented the FATF Guidance yet under theirlocal laws and regulations. Market participants that are VASPs•
should consider whether they should start complying with theprinciples set out in the FATF Guidance, notwithstanding that suchguidance have yet to be implemented.

• Under the FATF Guidance, VASPs are required to be licensed orregistered in the jurisdiction where they are established. While
the FATF has clarified that a VASP does not need to be so licensed
or registered if the VASP is already licensed or registered as an FI(see the section on “licensing” above) to avoid overlapping
regulation, market participants that are VASPs may find it difficult
to identify which regulatory framework it is subject to.

In light of the potential overlapping regulatory frameworks
and potential ambiguities with existing regulatory guidance,
consulting with market participants on how the FATF
Guidance will apply before implementing such guidance.
Unlike regulated FIs, VASPs often operate at a smaller scale
and are more reliant on outsourcing than traditional financial
market participants. Additional guidance from regulatory
authorities on the outsourcing of AML/CTF functions may be
helpful.

• FATF has also provided useful guidance on risks that are relevantto the sector that can be taken into account by FIs, issuers andadvisors alike.

51

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

Consumer protection and market integrity standards•

Market participants would need to consider whether general civil•
or criminal laws (such as fraud, misrepresentation and otherconsumer protection rules) could apply in respect of tokenised
security transactions on exchanges, and such considerations are
not necessarily apparent nor straightforward.

•

Tokenised securities may fall within the scope of traditional
market misconduct rules and this would depend on the precise
scope of the market misconduct rules in a particular jurisdiction.
For example, in Hong Kong, the insider dealing rules capture
securities that are listed on a recognised stock market andtokenised securities may not be listed on traditional exchanges.
The regulatory status of the venues through which the tokenised
securities are issued and traded therefore becomes an importantconsideration.

•

Market participants that are regulated intermediaries may alsoneed to consider how tokenised securities fit into the existing
regulatory framework they are subject to, and this assessment
may not always be straightforward. For example: If a tokenised
security is characterised as an OTC derivative contract, there is aquestion as to whether the OTC regulatory framework (e.g. theOTC derivative reporting rules) could apply.

•

As discussed above, the introduction of a specific regulatory
framework for tokenised securities may provide market
participants with greater certainty as to the requirements(e.g. market misconduct rules) that may apply.
In relation to ambiguities as to how the existing regulatory
framework applies to tokenised securities, periodic guidancefrom regulators (e.g. in the form of frequently asked
questions).

52

Key legal and regulatory considerations for market participants•

Regulatory considerations and success factors for a robust
enabling environment

In most jurisdictions, there are public disclosure of interests
requirements for listed securities, in order to identify substantial
shareholders and directors who transact in securities of thecompanies of which they are directors. If a tokenised security
represents an underlying security in a listed corporation, there isa question as to whether such token would need to take into
account for the purposes of a person’s holdings in the listed
corporation.

Custody of Tokens
Licensing considerations•••

Custody licensing often depends on the nature of the •arrangements between the custody provider and the client, as
well as the nature of the asset.
•
Securities are often subject to a specific licensing regime, withother custody services being regulated as trust providers.
Distinction between custodial and non-custodial arrangements,
pay attention to multi-signature rights (for example, if custodian
has signing rights).
••

Tokenised security custody providers should generally be
regulated and insured.
But there should be recognition that custody providers fortokenised securities will not necessarily “look” like othersecurity custody providers – rather than being large FIs, they
may be technical businesses with a strong focus on
cybersecurity.
Consider how deep insurance and reinsurance markets can be
fostered for custody providers.
Other considerations include loss coverage, custodian
liabilities, and resolution of a defaulting counterparty.

53

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

Indirect obligations•

Some business (such as fund managers) are required to custody•assets under management with qualified custodians and inaccordance with certain prescribed standards.

Clear guidance on whether requirements for separate
custodians apply equally to tokenised security custody and/or
additional standards should apply.

AML / CTF considerations•

Custody providers will need to perform their own AML/CTF checks•
on both the entities they are providing custody for, and the asset
that they are holding.

•Tokenised securities can include, in their underlying smart
contract, dedicated AML/CTF controls, including whitelisting andasset control mechanisms. Custody providers will need to ensurethat they can interface with these systems.

Clear technology-neutral AML/CTF guidelines and bestpractice.

Legal considerations•

Legal clarification on who owns the tokenised security and howthat is ensured.

•Consideration needs to be given to whether smart contracts
or regulations can clarify this.

Tax
General tax considerations•

Choice of location of issuer and operations.

•

Clear tax laws or guidance in this regard.

•

Tax characterisation of tokenised security being issued.

•

Availability of a system or mechanism to allow taxpayers toseek clarification / advance ruling from tax authorities.
54

Key legal and regulatory considerations for market participants•

Regulatory considerations and success factors for a robust
enabling environment

Direct tax considerations to exchanges including transfer pricing,withholding tax and double tax relief.
••

Direct tax considerations to investors on the holding / transfer oftokenised securities.

•

Indirect tax considerations.

•

CRS / FATCA considerations.

A platform that allows taxpayers, professionals and tax
authorities to exchange views on these new commercial
developments and the related tax impact.

Other Key Items
Privacy and data protection•

Nature of the data: A token generally comprises three key types •of data: first, the identity of the token itself (usually a number orcode); second, the information that is needed to describe theunderlying asset or security that the token represents (which may
or may not be stored as part of the token); and third, any
registration data held as part of the token (usually comprising theowner name and some form of evidence of chain of title). If thedata relates to an institutional or incorporated entity, it will not
typically be considered “personal” data and will not be subject togeneral privacy regulation in many jurisdictions. If it however
related to an individual, including if it contains information that
identifies the individual representative of an institution, then it
will be personal data. It is important therefore to understand if

Building the platform with “privacy by design” integrated at
the beginning: building in administrative controls and structuring thetechnical platform to ensure that data subject rights canbe managed;

contractually framing the relationship to ensure it is clear
who is responsible for controlling the use of personal
data; and

implementing best-in-class compliance procedures andtraining and encouraging the same on an ongoing basis
throughout the securities lifecycle, including privacy

55

Key legal and regulatory considerations for market participants
any of the aforementioned categories contain personal data and,if so, identifying what specific information that is.
•Consent: If personal information is contained within one of thecategories associated with the token described above, thenappropriate consent will usually (though not always) need to beobtained from the affected individual in order to validly process
the personal data. This will usually be an obligation placed on theentity responsible for issuing the token (although it may be theentity that interfaces with the individual, if that entity is different
to the issuer).

•

Territoriality: Individuals may be located in a variety of different
countries. Privacy laws vary across jurisdictions, and therefore
understanding which specific laws apply will be critical tounderstanding what rights certain individuals may have and thecontracts that need to be put in place between various entities
throughout the securities lifecycle.

•

Understanding the controller: In some (but not all) data privacy
regimes, the law distinguishes between a controller of personal
data and a processor. Controllership may be standalone or inpartnership with other entities. The controller is typically theentity responsible for making decisions about how the data isused. Throughout the securities lifecycle, the controller may
change as ownership of the token, and management of theplatform, changes. Understanding which entity at any given time

Regulatory considerations and success factors for a robust
enabling environment
impact assessments, incident response planning and data
subject rights procedures.

56

Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environmentis the controller will be essential to determining which institution
or entity is responsible for complying with privacy laws.
•

Dealing with data subjects: In many jurisdictions, individuals havethe right to access their data, change it (if there is an error), obtaina copy of it, delete or restrict the way it is used. The issuer willneed to enable these rights to be complied with – for example,
the ability to delete or change personal data that is embedded aspart of a token or associated with that token. In persistent
blockchain technologies it can be difficult to delete or remedy
errors in information once they are coded, meaning the platformneeds to be developed from the ground-up with theseadministrative privileges embedded.

•

Transferring data across borders: It is unusual for nodes to belocated in a single jurisdiction. If personal data is stored in
multiple jurisdictions, and is intended to flow freely acrossborders, then the law usually imposes that certain contractual
controls and enforcement guarantees be put in place to ensure
personal data is not stored where data subjects are unable toenforce their rights.

•

Understanding the processors: Some entities will only beprocessing personal data on the instruction of the controller (whomay be the issuer, the agent responsible for platform
management, or another entity that is directing the operation of
the platform). Contractual controls will need to be in place to57Key legal and regulatory considerations for market participants

Regulatory considerations and success factors for a robust
enabling environment

ensure that privacy regulation can be enforced against these
entities.

Evidence of ownership (vs control) in proceedings•

Proving control of an address can be both a technical and legal •issue, and opinions should be sought from professional advisors
for new models and large transactions.

Ensuring that there is formal recognition under the law of thelegal nature of tokenised securities, and virtual assets moregenerally.

•

Technology can also affect disputes over ownership. For example, •if tokenised securities are deployed on a private network withknown entities controlling each address, then disputes overownership are likely to be easier to resolve than if a public
network with pseudonymous addresses is used. In addition, thenumber of confirmations that will be required for tokenised •securities transfer to be final will need to be established in thetoken’s documentation.

Clear regulatory guidance on what will be considered toconstitute ownership of a virtual asset by, for example, ajurisdiction’s tax and financial authorities, would provide areference point for assessing ownership.
Training for government officials and regulators so that they
can understand and appreciate the technical differences
between various blockchain platforms, and how this may
affect ownership.

Table 6: Key legal and regulatory considerations and recommendations for regulators

58

D.2. Technology roadmap
Blockchain technology decisions for tokenised securities are an important consideration for FIs andissuers. Important considerations include the choice of protocol, interoperability of protocols andblockchain versus legacy systems. At the protocol-level, each blockchain implementation offers tradeoffs that need to be considered based on the product/use case, required liquidity, regulatory constraints,
and finality requirements. As a result, even in a benign environment, there is unlikely to be a 'one size
fits all' answer to the question of which blockchain to use.
As firms experiment more with tokenisation, the proliferation of different protocols and use cases
suggest that the roadmap needs to be flexible around future developments. Technical solutions thatbridges different blockchain protocols (interoperability) and along with the evolution of standards(around smart contracts) anticipate an end-state with more flexibility.
Finally, at the industry level, as tokenisation moves towards productions, technology teams for market
participants may need to tweak operating models and consider regulatory requirements that cater to amarket infrastructure setup that is distributed (vs centralised).

Protocol Specific• Permissioned versus
Permissionless• Ecosystemdevelopment• Technical capabilities

Technical Roadmap - Key dimensions
Cross-Protocol
Industry• Interoperability• Blockchain versus• Standardisation
legacy systems• Compliance withregulation

Table 7: Technology roadmap

Permissioned versus Permissionless blockchains
At the foundation of any firm's technology roadmap, there is a need to understand the trade-offs between
using permissioned versus permissionless blockchain protocol implementations:
Permissioned blockchain implementation
A select group manages the governance of
network transactions. The consensus mechanism
requires the identification and pre-determined
access rights for network participants. There is an

Permissionless blockchain implementation
An open network manages the governance oftransactions. In theory, anyone can participate ina permissionless network, as long as they meet theminimum requirements (e.g. running a node,participating in the mining or staking process, etc).

assumption that some level of trust exists The need for trust is replaced by a reliance on
between participants.
economic incentives to drive emergent
behaviours.
Table 8: Key differences between permissioned and permissionless blockchain implementations

When it comes to tokenised securities, the implications around a firm's technology decisions, may
influence the degree to which perceived benefits (as described in earlier sections) are realised.
••

Permissioned blockchain implementations have historically been preferred for use in enterprisesettings, given the greater degree of control and customisation. To meet the standards ofregulated tokenised securities offerings, permissioned models tend to allow for tighter control ofthe participant set, reduced anonymity (aiding in AML/KYC), and is architected in a way thatprovides clear on-chain settlement finality. However, trade-offs may also exist regarding the costs
to maintain the infrastructure, speed of technology innovation, and ability to grow network
effects/access to liquidity.
Permissionless blockchain implementations offer an architecture that is built for different tradeoffs. By starting with an open-source infrastructure, the ability to scale technologically acrossborders, onboard users globally, and access existing and future network effect benefits / liquidity
pools, is technologically available on Day 1. However, as permissionless models offer lessindividual control over network governance, and can employ transaction mechanisms thatchallenge conventional notions of settlement finality (e.g. probabilistic finality), firms may needto carefully consider their usage for regulated activities. Also, depending on the consensus
mechanism utilised, transaction speeds / throughput may also be lower than permissioned
blockchain implementations.

The operational challenges of public blockchain networks are well documented and firms are well advised
to evaluate the features of permissioned and permissionless blockchains before deciding on the ideal
option. Additionally, the level of market participant support for the selected technology will haveprofound liquidity and market reach implications.
Ecosystem Development
Each blockchain protocol has its own ecosystem that consists of developers, applications, core
infrastructure / hardware providers, and network validators. In the context of tokenised securities, firms
may consider studying the health and size of the ecosystems around different blockchain protocols, tounderstand how to best position their technology decisions. Some key considerations for the technology
ecosystem around tokenised securities include:60

Developer tools•Quality of developer tools, open-source developer communities, technical documentation available for smart
contracts.
• Number of upgrades and date of the last update.

Application and services•Number of start-ups or incumbents building applications and services (e.g. issuer platforms, exchange
platforms, wallets) that utilise the blockchain protocol.

Cash-leg optionality•Availability of a viable digital cash / stablecoin implementation to facilitate the cash-leg of an on-chain
securities transactions (e.g. interest / dividend payments, buying / selling transactions etc.).

Stability, security, and resilience•Ability and reliability of the ecosystem to maintain and update the transaction ledgers in a safe, secure andpredictable way.

Market participant support for the selected technology•Number of applications built, usage by FIs / Fintehs
Figure 3: Key ecosystem considerations

Normally the securities leg and the payment leg of a DvP transaction settle simultaneously. In order toachieve this the securities platform and the payment network must interact. The means of payment(payment/exchange tokens/fiat currency) and its underlying blockchain or non-blockchain network is an
important consideration. Firms must carefully consider the legal and regulatory aspects of participating in
any non-traditional payment network in the jurisdictions in which they are planning to roll-out theirtokenisation platform. Some countries have banned cryptocurrencies and hence this is an importantconsideration. On the other hand, central banks including the Bank of Canada, MAS and Sweden’s central
bank have undertaken initiatives to explore the feasibility of digitising central bank money on a distributed
ledger, which would make it possible for tokenised security platforms to interface directly with payment
systems. However, such networks of CBDCs are not yet operational and are not expected to be launched(particularly on a cross-border basis) in the near future. Meanwhile, private stablecoin initiatives arebeing closely scrutinised by the Financial Stability Board and the G7 Working Group on Stablecoins, whichissued a report in October 2019 identifying global stablecoins as having the potential to raise serious
financial stability issues and calling upon public authorities to review laws and regulations relating tostablecoins. 10
New Technical Capabilities

10 Sources: FSB, Regulatory issues of stablecoins, 18 October 2019 (https://www.fsb.org/wp-content/uploads/P181019.pdf) and BIS, G7 Working

Group on Stablecoins, Investigating the impact of global stablecoins, October 2019 (https://www.bis.org/cpmi/publ/d187.pdf)

61Firms considering tokenised securities issuances, enabled through blockchains, may also need to consider
new technology capabilities required and the new features available through the use of blockchain. Eachlayer of the blockchain technology stack brings about new areas that firms will need to incorporate into
existing processes and workflows. Some of the novel technical considerations include:
Capabilities
Node management

Key considerations• As the blockchain infrastructure extends from the concept of one
single centralised database / datastore, towards a distributed data
storage model, whereby many nodes store / listen / share data traffic,
firms will need to consider how to set up their node infrastructure.
• This includes things like: how many nodes to run, where the nodes
should be located physically, if nodes should be on premise or in thecloud, etc.

Asset management•

Key management••

Smart contacts••

If the decision is made to use permissionless blockchains, there may
be additional requirements for network participants to purchaseblockchain-specific utility tokens for voting, staking, and/ortransaction fee payment.
Key management standards for most blockchain platforms do notalign with traditional Public Key Cryptographic Standards(PKCS)/Hardware Security Modules (HSM) key management
requirements and need to be standardised in order to make it
amenable to FIs.
The effective management of private-public key infrastructure is
critical to the custody and trade of tokenised securities. New
safekeeping models and enterprise grade key wallets will be required
to mitigate this risk.
Increased usage of smart contracts to express transactions will
introduce new programming languages and security / threat models
which firms will need to upskill on.
Smart contract programming languages usually differ by protocol andare not always extendable / exportable.
Table 9: Key technical capability considerations

Standardisation of protocols
Given the profusion of blockchain protocols available, standardising key protocol elements –endorsement/consensus models, interoperability approaches, on-chain data storage, smart contract
frameworks etc. is critical.

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Standardisation of protocols would depend on the use-case / product offering and the existing eco-system
into which it would need to connect. For example, there may not be a need to connect to any other nodes
if the blockchain architecture would be accessed only by the issuer and a single customer. Such a model
is not scalable and would limit the issuer from onboarding clients or connecting with a payment platformor with other participants (who may be using other protocols).
As tokenised securities move towards becoming ‘smarter’ (for e.g. automated dividends, splits),
standardisation of smart contract protocols will become essential. Existing smart contract deployments
are largely custom, which limits testing, security and scalable deployment. Standards need to beestablished around testing norms, design of trusted oracles, regulatory compliance mechanisms, recourse
for operational failures and governance. International digital standards around digital token identifiers
should also be considered. The objective would be to develop an international standard to address thedemands of exchanges, custodians, FIs, and regulatory authorities for a registry and identifier assignment
process. A positive development is that, Anna, the securities numbering agency behind the International
Securities Identification Numbers (ISIN), has in October 2019 set up a technology taskforce to explore
ways of extending its standards to digital asset trading. The taskforce will assess the role and scope of
ISINs in respect to digital asset identification.
Interoperability
Tokenised securities deployed in a blockchain network will need to be made interoperable with othernetworks. This will help enhance liquidity for token investors and ensure faster deployment withincustodians and CSDs. Even as token standardisation efforts (e.g. the token taxonomy initiative 11 ) are
emerging, standardising token representations for various securities is necessary to ensure cross-market
liquidity, and to ensure consistent data management and sharing across the lifecycle of the security. Thisrequirement has been recognised by platform developers as some of them are working on an industrywide common taxonomy and ledger-to-ledger communication which will allow tokens to be listed on
multiple ledgers, allowing more participants to be involved in a seamless, cohesive ecosystem resulting in
improved efficiencies, larger markets and improved liquidity.
Multi-ledger settlement and ledger-to-ledger communication will need to be developed as many tokens
are listed on multiple, incompatible ledgers, creating portability issues.
Blockchain infrastructure versus legacy systems
In comparison to traditional systems, blockchain environments offer a distinct operating model allowing
greater straight through processing, real time controls, new security processes, agile architectures andunique expertise. For all of their advantages, the risks posed by blockchain infrastructure are also unique
11 Source: Enterprise Ethereum Alliance (https://entethalliance.org/participate/token-taxonomy-initiative/)63

in comparison to traditional systems, including transaction security failures, data spoofing issues, smart
contract code vulnerabilities and scalability challenges. These emerging issues are being addressed
steadily, but solutions will benefit from time to mature.
Segregation of blockchain infrastructure from legacy systems in the short to medium term can help
accelerate deployment of new technology. Segregated environments serve to protect traditional
infrastructure from emerging risks enabling focus on ‘gatekeeping’ roles and integrations. They alsoenable greater agility for the new blockchain infrastructure, unencumbered by the pace and capabilities(or lack thereof) of traditional infrastructure. This being said, while parallel tracks can exist in the nearterm, it is not practical and cost inefficient to maintain two sets of systems. Market participants should
work in integrating blockchain infrastructure into legacy systems over time to prevent a fragmentation ofmarket liquidity.
Regulatory consideration: Compliance with financial markets and other regulations
Regulations currently applicable to financial market firms are also applicable for the tokenised security
offerings. Token trades need consistent mechanisms to ensure settlement finality across blockchain
ecosystems, in alignment with regulatory requirements. The IOSCO Committee on Payment and Market
Infrastructures requirements for settlement finality 12 require clarity around moment of trade entry,
moment of irrevocability and enforceability. In networks with varying levels of decentralised operation,these moments need to be clearly defined in rulebooks and agreed with all parties. Similarly, theregulatory requirements for storage and sharing of personal data needs to be taken into account while
designing the architecture and agreeing on the protocols among the various participants.
Several other technical and operational aspects including the protocols for onboarding and off-boarding
parties to the ledger, data stored and retained on the blockchain, how does the chain handle and treat
transactions previously ratified by those onboarded/offboarded actors, etc. would have to be decided
based on the regulatory requirements in the jurisdiction.
D.3. Driving liquidity
Whilst tokenisation offers many benefits that are likely to drive liquidity in illiquid asset classes, themere act of token generation to represent ownership claims on a traditional asset does not impact
liquidity in and of itself. If a token is thinly traded it is still relatively illiquid. A benign environment thatcreates additional liquidity depends on the tokenised security's design (tokenisation vs
fractionalisation) and the maturity of the market players.
Drivers of liquidity based on tokenised security design
12 Source: BIS Committee on Payment and Settlement Systems, Technical Committee of the International Organization of Securities Commissions,

Principles for financial market infrastructures, April 2012 (https://www.bis.org/cpmi/publ/d101a.pdf)

64

From a digital asset point of view, liquidity is affected by various properties delivered from thetokenisation and fractionalisation of the asset. Tokenisation is essentially the digital representation of anasset on a blockchain. Fractionalisation is the ability to break down the asset tokens into smaller chunks.
The two are interdependent but provide different value from a liquidity point of view:
Tokenisation
Fractionalisation• Enables participation in electronic• Reduced barrier to entry opens up themarkets – some of which are public
primary market to smaller investors andincreases liquidity• Dynamic customisation of portfolios
increases utility• Direct-to-consumer distribution (whenallowed) is easier when units are smaller,• Flexible formulation of smart contracts
providing for more democratic secondary
provides exposure to specific attributes ofmarket (only valid for certain assets andan asset (e.g. dividend only, rental yield
likely to be subject to enhanced
for real estate, profitability of a specificregulatory scrutiny)
product)• Cost efficiency by disintermediation
improves return
Table 10: Difference implementations of tokenised securities - tokenisation versus fractionalisation

Drivers of liquidity based on maturity of supporting market players
In what follows, we list some considerations that will play a role in driving liquidity for tokenised securities:• Infrastructure: all the (regulated) infrastructure that is required for an investor to access a specifictoken need to exist and be sufficiently developed e.g. regulated markets where
dealers/counterparties have been AML/KYC’d, regulated exchange/trading venues that are
reliable and integrated into existing portfolio management tools, risk systems, etc.
• Trust in blockchain/Smart Contracts: Public perception of tokens and blockchain is that thisapproach offers a superior security solution compared to existing alternatives. This will remain
positive from a liquidity perspective so long as issuers actively monitor risks and are quick to
remedy any potential losses from hacks, etc. by cancelling lost tokens and reissuing new tokens
to the rightful owners.
• Trustworthy ecosystem: The formation of a trustworthy ecosystem of issuers, advisors,custodians, exchanges who are capable of eliciting trust in tokenised securities is still in thenascent stage.
• Custody: As will traditional assets, many professional investors participating in tokenised securities
will prefer a third-party custodian for the secure storage, administration and reporting
associated with their holdings. The presence of independent institutional custodians to
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•

•

•

securely store private keys, and administer/ report on token holdings, will be crucial toattracting professional investors (and their liquidity) to the space. Traditional custodians
and CSDs will be welcome additions to the ecosystem and are sure to emerge when themarket reaches significant size.
 For tokenised securities, custody standards are evolving to provide a flexible range of
product offerings / functionality (e.g. balancing ease of trading/transfer with security, via
pre-agreed whitelists, time locks and the possibility of roll-back of fraudulent transactions
for certain protocols, integration with trading environments / exchanges).
 Unlike assets on public blockchains (e.g. Bitcoin, Ethereum, etc…), in the event of theft, astolen tokenised security would often be able to be cancelled and new tokens could be
issued in its place. As such, the risk of loss from theft of tokens is less than for digitalcurrencies but this eventuality should be properly planned for by issuers and issuance
documents should outline the circumstances and mechanism by whichcancellation/reissuance of tokens will take place. An investor will often be able to specify
to their custodian the security measures they require, balancing ease of trading/transfer
with security, via pre-agreed whitelists, time locks and the possibility of roll-back offraudulent transactions.
 Value chain aggregation – in the digital asset space, it is increasingly common for custody
to be offered as part of another service on the value chain. For example, in Switzerland,
the SIX Digital Exchange also offers custody solutions and can expect that synergies inreporting, settlement and security will exist for clients wishing to trade and store assets
under the same roof e.g. a single player can be issuance advisor, bookrunner, exchange,custodian and administrator all in one.
Standardisation of protocols and interoperability: liquidity of tokens can be enhanced via listings
on multiple venues around the world, enabling easy access to the token. For this reason, as
mentioned above, it is crucial that the underlying technology allows interoperability acrossmultiple platforms.
Balancing liquidity with investor protection: increasing the size of the liquidity pools (bothonshore and offshore), depends in part on balancing investor access restrictions and investor
protection. To the extent that implementation of a tokenised security provides greatertransparency and reduces risks, there may be scope for re-visiting thresholds around client
onboarding / suitability and professional/accredited investor regimes.
Considerations for exchanges: token platforms will have to establish incentive models to
encourage market makers to provide liquidity on the platform. This may include waiving off orproviding discounts to exchange charges, using maker/taker fees, rebates, tiering of exchange
charges, etc.

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D.4. Educating investors
Educating investors and potential investors and create awareness around tokenised securities around theadvantages but also around the level of due diligence on the offering will be key to drive trust in theecosystem. To that end, we have developed in Annex a checklist of questions that an investor should
consider asking before in investing tokenised securities or security tokens.

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Annex: Buy-side Checklist of Key Issues in Tokenised Securities Offerings
1. Assess security risks of blockchain protocol underlying the tokenised securities.
2. Understand inherent price volatility of tokenised securities.
3. Assess any vulnerabilities of open-source software that underlies the issuer's technology, including
risks of data breaches and theft of assets.
4. Keep abreast of ongoing regulatory developments concerning tokenised securities, which may varysignificantly among jurisdictions.
5. Understand the issuer's business model and growth strategy, and assess whether such strategy would
be compatible with existing and/or upcoming regulatory requirements.
6. Assess whether tokens traded on a platform need to be held by a custodian or digital wallet held by acustodian during the trading process. If so, assess approval requirements for issuer's broker-dealeror equivalent license due to the issuer's custodial relationship.
7. Assess the issuer's ability to develop competitive advantages with respect to its products and services,and whether the issuer has sufficient resources to develop its products and services and succeed indeveloping and maintaining market share.
8. Assess regulatory exposure of the issuer, and whether regulatory changes will adversely impact theissuer's compliance, business and technology resources and give rise to additional operational costs.
9. Assess risks of illegal activity occurring with the issuer's products/services or over the issuer's
platforms and understand the effect on the issuer’s business if the issuer’s non-compliance withapplicable AML/KYC requirements were to result in regulatory penalties.
10. Assess whether the issuer has sufficient cash flow from operating activities and whether it will be able
to maintain adequate capital to meet regulatory capital requirements and meet the needs of its
business.
11. Understand regulatory capital requirements with respect to the exchange authorities in jurisdictions
in which the issuer operates, and assess whether such regulations would require maintenance ofcapital reserves in the issuer’s subsidiaries.
12. Assess how IT systems and capacity constraints would affect business operations and growth of theissuer.
13. Assess cybersecurity risks applicable to business operations of the issuer, and the extent to which
ongoing compliance with cybersecurity requirements may result in additional costs.
14. Assess the risks that misuse or misappropriation of encrypted personal data may give rise to breaches
of privacy laws, fines and sanctions, and risks of security breaches with respect to the token holders’personal identity information base.
15. Assess vulnerability of the issuer’s operational infrastructure or security system to security breaches
or malfeasance of employees.
16. Assess compliance, risk management and operational risks applicable to the issuer, including theissuer's ability to attract and retain qualified compliance and other risk management personnel.

68Assess the risk of intervention by regulatory authorities, including examination and surveillance
activity.
17. Confirm that the relevant token purchase agreement addresses the economic entitlement of token
holders, default risks and exculpatory standard with respect to the token purchase.
18. Assess factors driving valuation of tokens, which may include potential market perception of thetoken’s value and potential liquidity for tokens on a secondary market.
19. Assess risks of investor dilution caused by potential issuance of additional tokens in future offerings,
or issuance of options, warrants or convertible securities with options to purchase tokens.
20. Assess bankruptcy, restructuring and insolvency risk in the event that the issuer incurs debt withpriority equal or senior to the rights of token holders.
21. Assess the relevant tax implications and tax reporting considerations applicable to token holders.
22. Understand the voting rights that attach to a token and the extent to which such rights would allow
token holders to influence the issuer’s corporate governance and participation in significant corporatetransactions.
23. Assess conflicts of interests between shareholders of the issuers and the token holders.
24. Assess the risks of regulatory actions by jurisdictions that may restrict the right to acquire, own, hold,sell or use blockchain assets or to exchange blockchain assets for fiat currency.
25. Assess the extent to which the issuer will rely on third party contractors for key elements of its
technology infrastructure, and the issuer's ability to protect its own proprietary technology.
26. Assess the ability of token holders to enforce judgements against the issuer and its responsible officers
and to serve process on these parties in the relevant jurisdictions.

69