Digitalisation is creating a more transparent, efficient and accessible investment environment that is rapidly transforming traditional finance – but just don't call it a revolution, writes Elliot Refson, Head of Funds, Jersey Finance.
There is no doubt that digitalisation is transforming the way in which we conduct business and the steady rise of tokenisation in the asset management space specifically is undeniable.
The rise of virtual assets, however, is an evolution not a revolution; in many ways it equates fundamentally to the unswerving drive of automation. If we consider that most investors are unfamiliar with the platforms their investments are held on currently, what digitalisation meaningfully brings to the table is efficiency – such as, for example, digital onboarding.
This is a sector that is rapidly evolving traditional finance in terms of both well-established 'vanilla' investment assets, as well as alternative assets, known in this new era as 'real-world' assets. In essence, what digitalisation does is enable a world where investments are more accessible, transparent, and efficient.
It is a progression recently borne out in a survey by EY-Parthenon which found that more than a third of institutional investors in the US and almost two-thirds of high-net-worth investors plan to invest in tokenised assets by the end of 2024, evidencing the growing appetite for virtual assets within the investment community ('How tokenisation in asset management is driving meaningful opportunity', 2023).
A decade of growth
Virtual assets, of course, are not necessarily a new phenomenon. Some, such as crypto assets like Bitcoin, emerged more than a decade ago as a revolutionary concept, with these digital representations of value, stored on secure online ledgers, challenging the status quo of financial systems.
Like many a paradigm shift, initially at least, virtual assets faced scepticism. However, over time, their potential for innovation and disruption has become increasingly evident, with a 2023 report by Northern Trust and HSBC ('Beyond Asset Tokenisation', 2023) estimating that 5% to 10% of all assets will be digital by the turn of the decade.
Looking at the immediate future, another survey – this time from Calastone ('Tokenised Funds Go Mainstream', 2023) – has proved equally compelling, finding that 67% of US managers are expecting to have tokenised offerings available within the next 12 months, a further 22% expecting to do so within three years and an additional 11% within five years.
Meanwhile, major investment firms are also taking note and are launching money market, equity and bond tokenisation projects to improve efficiency and accessibility for investors. This growing adoption is fuelled by the benefits of tokenisation, such as increased liquidity, enhanced transparency, and faster transaction speeds.
Confidence in the sector is continually increasing – and within the last few months Blackrock has announced its first tokenised fund, as well as a strategy to digitalise US$10 trillion of its assets, which could prove a significant catalyst for others to follow suit.
There is significant scope to broaden and diversify investor access too – family offices and high-net worth investors, for instance, are seen as the investor class that is likeliest to be interested in tokenised options, particularly in illiquid alternative asset classes, something that was highlighted in a white paper Jersey Finance recently published in conjunction with IFI Global – ' The Evolution of Virtual Assets', 2024.
Supporting a burgeoning sector
It is clear that in today's market, the opportunities are now well understood and consequently there has been a concerted effort by service providers to support growth in the sector.
For instance, law firms are establishing specific digital funds groups, while administrators are appointing digital leads of innovation committees to ensure that they stay ahead of the curve.
Similarly, alternative investment managers are actively looking to be part of the conversation. The Bain Global Private Equity Report 2023 noted that individual investors hold roughly 50% of the estimated $275 trillion to $295 trillion of global AUM, but those same investors represent just 16% of AUM held by alternative investment funds.
This presents a genuine opportunity for alternative investment managers to adopt a more holistic approach to the market while, from an institutional investor perspective, there is clear potential for the high net worth and retail markets, with their associated capacity for expansion and additional avenues for fundraising.
Of course, this brings sizeable benefits for investors too, with the possibility for higher returns naturally proving attractive.
Democratising of private markets
Notably, one significant impact of digitalisation is the democratisation of historically private markets. But, while enhanced liquidity might have beneficial ramifications, for example in the commercial real estate space, it does not necessarily equate to increased demand, and poor investments will remain as such irrespective of how accessible they become.
Interestingly, we are also seeing a move towards the tokenisation of real assets – in particular in the private equity and real estate sectors – with the managers of such funds effectively forming the frontier of the industry's transformation and paving the way for fractional ownership.
Just as there are opportunities and challenges for managers and service providers, so too are they there for the fund domiciles that house them. From a jurisdictional perspective, the challenge has been, and always will be, to remain relevant. Those that do not evolve to serve the needs of managers and investors alike, in this new world of virtual assets, will simply die out.
The evolution of the regulatory landscape in particular is a case in point, where jurisdictions will need to strike a balance to support innovation while safeguarding investors, ensuring high standards of compliance and helping to combat the potential for anti-money laundering.
Jurisdictions will need to ensure that they have the sophisticated technical infrastructure to support this trend and there's no doubt that the industry as a whole can expect to see their tech spend increase in the coming years in blockchain and related technologies – which are in continual rapid development – if they are to align themselves with, and seize opportunities in, this space.
Crucially, as the virtual asset landscape evolves, the need for robust regulatory frameworks will become paramount and it will be those jurisdictions able to find the sweet spot between fostering innovation and protecting investors that will triumph.
The white paper recently published by IFI Global supports the notion that, while this sector is still very much unfolding, its potential for further long-term transformation is undeniable. It may not yet be clear exactly how the process of digitalising investment assets will impact the funds industry, but the potential is wide-ranging – and it could mean a period of greater change for the industry than it has experienced to date.
It remains, however, an evolution not a revolution. Jurisdictions, managers and service providers that can work symbiotically and keep pace with that evolution will be guaranteeing their position in a dynamic, and exciting, cross-border alternative funds landscape.
This article was first published in the AIMA Journal, a quarterly publication from the Alternative Investment Management Association.
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