S&P Global — 24 October 2024
Daily Update: October 24, 2024
Tokenization for Private Credit – Opportunities and Challenges
By Nathan Hunt
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Private credit markets, despite having low degrees of liquidity, efficiency and transparency, are expanding rapidly as investors seek the higher returns of private lending. Some financial firms and platforms have begun exploring tokenization as a solution to these issues, but tokenization can create a new set of problems that must be addressed if the tokenized private credit market is to expand. A group of researchers at S&P Global Ratings, S&P Global Market Intelligence and Coalition Greenwich — a division of CRISIL, an S&P Global company — examined these opportunities and challenges in “Tokenized Private Credit: A New Digital Frontier for Real World Assets.”
Private credit expanded at an enviable 17% compound annual growth rate over the past five years, but its lack of liquidity, efficiency and transparency are still considered barriers to growth by investors, according to a survey by Coalition Greenwich. Converting private loans into tokenized assets could address some of these challenges. Tokenization could help the lack of liquidity by streamlining the process of buying and trading private credit, broadening access to the asset class. Tokenization could make private credit markets more efficient by reducing management and transaction costs through smart contracts. Finally, tokenization could make private lending more transparent by establishing a shared public ledger of tokenized private loans.
Private credit and tokenization favor the disintermediation of traditional financial gatekeepers, forming a natural and sympathetic affiliation. But disintermediation can create its own set of risks. As the market develops, tokenized private credit might require custodians to confirm that tokens match real-world assets.
So far, about $500 million of private credit has been tokenized — a modest figure in a $1.7 trillion global private credit market. Tokenization can occur in two main ways: tokenizing an existing off-chain private credit fund or using a decentralized lending protocol to create tokenized debt. Investment firms such as KKR and Hamilton Lane have been early adopters of the former while the Centrifuge protocol has provided new growth through the latter. Meanwhile, London-based digital finance company Greengage has worked with Coinbase to issue tokenized private credit to provide e-money account services to small and medium-sized enterprises, allowing them to access capital that shares the benefits of commercial paper, and large firms to access short-term capital at favorable terms.
Private credit shares the same tokenization challenges as most other financial markets. These challenges include regulatory uncertainty, the lack of efficiencies as off-chain contracts create duplication, and limited demand due to the dearth of investors ready to engage with tokenized assets. Jurisdictions such as Switzerland and Luxembourg have already updated their regulatory structures to account for blockchain finance, but traction may be slow in other jurisdictions as regulatory ambiguity holds back interest. As is, the limited interoperability of tokenized assets is also a barrier as tokens are closely tied to the platforms on which they are created, complicating trading.
Today is Thursday, October 24, 2024, and here is today’s essential intelligence.
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—Listen and subscribe to the podcast from S&P Global Market Intelligence
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—Read the article from S&P Global Market Intelligence
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—Read the article from S&P Global Market Intelligence
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—Read the article from S&P Global Commodity Insights
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—Read the article from S&P Global Commodity Insights
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—Read the article from S&P Global Market Intelligence
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—Register for the webinar from S&P Global Mobility