Blockchain beyond Bitcoin: Transforming CRE Financial Services
The introduction of new technologies and ways of conducting business often begins with a period of experimentation as well as speculative fever as markets attempt to pick the winner(s). This is followed by a longer period of maturation as a small handful of pioneers end up becoming dominant players and companies in other industries identify ways to adapt the technology to make their own operations more efficient and effective. The best modern example of this is the late-1990s emergence of E-Commerce. Companies like Amazon and eBay were formed in this era and became great success stories.
COVID-19 has escalated digital transformation across the globe. Prior to COVID, many organizations had planned to build out more technology options for their employees to be more productive through working remotely. For many Fortune 1000 companies, this was planned to be phased in over the next few years. Now digital transformation is a necessity for successful business in a post-COVID marketplace. The world will no longer operate like it did prior to this pandemic experience. Leaders are faced with serious challenges to existing business models to consider what must, or should, be changed or enhanced. Success is now incumbent on a company’s ability to adapt quickly. Organizations must learn to adapt and continue finding innovative ways to carry on, to remain competitive and relevant. Creative contingency plans are now a priority for companies who want to survive.
Similar to the years after launching DLT and blockchain technology we can now see new solutions in real estate and capital markets. Blockchain technology adaptation is lowering financing costs and investment liquidity. This is especially the case in Financial Services, where DLT has many features that would be a natural fit:
• Decentralization. Due to the decentralized nature of recordkeeping as ledger copies sit on multiple network nodes, DLT enables the direct transfer of digital value or tokens between two counterparties without the need of a central authority that can extract a rent seeking toll. This “trustless” value transfer can result in lower costs and faster time to market.
• Transparency. All network members have a full copy of the distributed ledger and change can only be made when consensus is established, and the change is disseminated across the network. This can reduce fraud and simplify ex-post verification and reconciliation.
• Programmability. DLT enables programming terms and conditions that are attached to the token. This is often referred to as “smart contracts”. Examples of this could be tokenized equity shares that can automatically split when the price per unit reaches a certain threshold and automatically pay out dividends at pre-defined frequency. In the corporate world, one can imagine using a DLT system to automatically pay out invoices once product delivery has been made. As with decentralization, this creates opportunities to lower processing and administrative costs.
• Immutability and Verifiability. DLT provides an immutable and verifiable audit trail of transactions and changes in ownership for a digital asset. This is invaluable in terms of fighting fraud. While disputed transactions can in theory arise, the original transaction and record would remain.
• Improved Speed and Reduced Friction. Many financial transactions have a lot of built-in friction. Take international money wire transfer as an example. There is the initial paperwork that is filled out by the customer at a local bank branch; the teller must then re-enter the information into the bank’s system to initiate the wire. After the money is debited from the customer’s account it then gets routed through a complex network of correspondent banks before arriving in the recipient’s account, sometimes in as long as 5 business days. Depending on the send amount, the wire fee can be equivalent to 7% or more. One can imagine using DLT to remove intermediaries and automate the transaction, reducing cost and increasing speed.
• Robust Security. Because there is no central trust authority and ledger copies sit at multiple locations, it would be exceedingly difficult for a hacker to launch a cyber-attack at a single node to disable the entire network.
The following are just a few examples of blockchain initiatives being adopted by traditional financial services organizations:
• In October 2016, payment network leader Visa announced B2B Connect, a new platform the company is developing that uses enterprise blockchain infrastructure to facilitate B2B cross-border corporate payments. All parties on the network are known participants on a permissioned private ledger that is operated by Visa. According to the company, “Visa aims to significantly improve the way international B2B payments are made today by offering clear costs, improved delivery time and visibility into the transaction process.”
• In September 2018, Fidelity National Title, a subsidiary of Fidelity National Financial, one of the largest providers of residential and commercial title insurance and escrow services in the US, announced a new initiative with Building Block Inc. Under this arrangement, Fidelity will integrate its products into Building Block’s blockchain platform as a smart contract offering to reduce friction in the process of real estate titling when properties change hands. According to the companies, “The Combination of Fidelity and Building Block REIT gives buyers the reassurance that the title to their property is clear of encumbrances from the distant pass and in real time.”
• In January 2020, banking giants Citigroup and Goldman Sachs initiated the first equity total return swap on a blockchain powered by technology developed by Axoni. The technology helps assure every counterparty in the swap is seeing and using the same data, which can reduce the very cumbersome administrative and monitoring costs that accompany over the counter swap contracts.
I am proud that our Red Swan CRE Marketplace , which I co-founded in early 2018 has also transformed the nature of capital markets tied to the commercial real estate (“CRE”) industry. Specifically, Red Swan is using DLT and the blockchain to tokenize equity LP & GP shares of Class A and B CRE properties making them tradeable like stocks. By fractionalizing direct CRE ownership, we can now make institutional-grade CRE more accessible and attractive to smaller investors with low minimum investment thresholds. Properties worth $100mil+, historically exclusive to deep pocketed private equity and banking firms, are now available to a greater number of individual and institutional market participants. Moreover, all the benefits of DLT outlined above allow us to streamline and compress the time it takes for real estate developers and sponsors to raise equity capital for their projects. A process that traditionally takes many months to complete and requires many intermediaries and a lot of tedious paperwork can be shortened into days or weeks at lower cost. It is not difficult to imagine tokenized, digital CRE shares easily traded on a secondary market real estate platform, like common stocks today.
In a post-COVID-19 world, the benefits for investors are enormous. Now, through Red Swan, an investor can diversify his/her stock and bond portfolio with secure tokenized CRE from the safety and comfort of home and generate passive real estate income. Crypto focused investors may also find our offerings attractive as it affords a way to diversity one’s digital asset holdings into tokens that are tied to actual tangible assets. After a typical holding period of 1 year, investors are free to liquidate their holdings. Finally, all real estate developers and sponsors interested in working with Red Swan to raise equity capital undergo a rigorous due diligence process so that we can bring to investors the best possible deals with attractive projected risk-adjusted returns. No longer will investors have to incur pursuit costs and do extensive traveling and on-site due diligence- this is critical in a post pandemic environment.
We are currently in the process of attracting accredited investors to open accounts with us to invest in direct CRE. I look forward to continuing sharing with you in the coming weeks, months, and years the progress of Red Swan and details about specific deals we are working on. Along with that, I will continue to share my insights into the CRE market and the intersection of technology and real estate finance. I encourage everyone, especially accredited investors, to follow us — perhaps you will join us as we revolutionize the CRE market with DLT and tokenization!
