Tokenization and Collateral Management: How Digital Assets Open the Door to Mobility, Optimization

Collateral management is in the spotlight as financial firms seek to optimize amid an evolving regulatory and operating environment. Risk, capital efficiency and liquidity considerations are growing more complex as the cost of capital rises and Uncleared Margin Rules (UMR) come into enforcement in more global jurisdictions. The bottom line impact is more collateral is being exchanged for cleared and uncleared trades.

Tokenization and digital assets will be crucial to solving these challenges, offering access to a wider pool of collateral, enhanced collateral mobility, optimization and overall standardization. These topics and more were the focus of a recent ISDA webinar “Navigating the New World of Tokenized Assets: Collateral Mobility and Optimization” that featured the panelists:

• Sophie Marnhier-Foy, Vice President, Nasdaq Financial Technology
• Stephen Ashworth, Chief Commercial Officer, Tokenovate
• Thomas Sullivan, Managing Director, Société Générale
• Kevin Khokhar, Head of Investment Funding Solutions, T. Rowe Price

The entire collateral management process is in focus amid a wave of innovation and market change. Traditional frictions are coming to the surface., often relating to internal fragmentation, such as different solutions housing different collateral assets. Siloed systems make it harder for firms to manage inventories, mobilize assets and optimize.

The webinar panelists discussed how the capabilities needed to solve these challenges align with what tokenization can offer:

• Automation
• Orchestration
• Transparency

“The rise of digital assets and tokenization gives firms the opportunity 
to look at their entire collateral ecosystems and find ways to leverage new technologies 
to improve counterparty credit risk, operational risk and processes around 
collateral management. There’s a big opportunity to save time and enable staff 
to spend more time on high-value tasks.”

- Sophie Marnhier-Foy
 

Collateral management can involve moving assets across different jurisdictions and between different institutions in the value chain, which is time-consuming and subject to various operational risks, especially when reliant on manual work. Tokenized assets, however, can be transferred seamlessly utilizing blockchain networks, functionally enabling 24/7 availability and movement of assets. 

Webinar panelists spoke about how this degree of mobility can also unlock other opportunities in collateral flexibility, which is highly desired in volatile and changing markets. 

“In stress scenarios you need to have a framework where you 
might be able to look beyond cash and the high-quality liquid assets (HQLAs), 
and into other types of assets to mobilize as and when you need them ... 
[tokenization] really opens this door to increasing the flexibility of collateral types.”

- Stephen Ashworth
 

The digital assets space is still in its relative infancy, with global authorities motivated to develop regulations and legislation around cryptocurrencies, stablecoins, blockchain and other technologies. The EU’s Markets in Crypto-Assets (MiCA) is the foremost example so far, but progress is being made in key jurisdictions, including the U.S., where:

• The GENIUS Act was recently signed into law, creating a regulatory framework for dollar-pegged stablecoins, as well as introducing investor protections.
• Congress advances the CLARITY Act, which would provide investor protections and a framework for digital assets market regulation and associated technologies. The bill is still working through committees.

Other notable developments include the U.K. proposing crypto investor and market protection rules, as well as Project Guardian being run by the Monetary Authority of Singapore, a collaborative initiative to enhance liquidity and efficiency of financial markets through asset tokenization.
 

Collateral management historically involves manual reconciliations that lead to operational inefficiencies. Tokenized assets, combined with smart contracts, can automate these processes, reducing the need for human intervention and minimizing the risk of errors, while also offering standardization to further streamline processes.

Panelists discussed how market participants, and buy-side institutions in particular, benefit from these technologies that can both accelerate and strengthen processing, effectively allowing firms the potential to harness instantaneous collateral movements, substitutions and settlement. This not only enhances operational efficiency but also improves risk management by ensuring that exposures are satisfied promptly.

"I think from a post-trade stance, [tokenization] compresses 
the whole entire life cycle into potentially T+0 and that's a really effective way 
to manage your risk from an operational perspective and from a trading perspective."

- Kevin Khokhar

Adoption of tokenization for collateral applications is in its early stages, but drawing significant interest as evidenced by responses to the webinar’s first poll question.

This is confirmed by the number of industry projects and initiatives currently testing digital assets in collateral, helping to reinforce the value proposition and create momentum for continued experimentation and implementation.

Recent examples include:

• Nasdaq Calypso connecting to the Canton Network, facilitating end-to-end margin and collateral workflows (developed in partnership with QCP, Primrose Capital Management and Digital Asset).
• The Depository Trust & Clearing Corporation’s (DTCC) “Great Collateral Experiment,” which demoed a blockchain-based platform for increased collateral mobility and efficiency.
• Euroclear and Digital Asset announcing a collateral mobility initiative in partnership with the Canton Network.

“[By bringing together] various parties, both buy side and sell side, 
within the global framework, [The Great Collateral Experiment] demonstrated 
the different types of assets that could be used and connected together seamlessly.”

- Thomas Sullivan

Tokenization and blockchain can offer a slew of benefits throughout the collateral management process. However, these technologies are still emerging and there are challenges to firms becoming operationally ready, generally due to regulatory uncertainty and the need to build out infrastructure, support and controls.
 

1. Regulatory clarity: Clear and consistent regulatory frameworks across jurisdictions can provide certainty and encourage the adoption of digital assets.
2. Standardization: Models like ISDA’s Common Domain Model (CDM) offer consistency and transparency throughout the collateral management process.
3. Automation: Investment in the development and integration of technologies such as blockchain, smart contracts and AI will enhance the efficiency and interoperability between networks.
4. Operational readiness: Staff training and education will be essential to eveloping robust governance and change management capacity.
5. Industry collaboration: Initiatives, sandboxes and pilot projects are beneficial to share knowledge, address common challenges and develop best practices for the adoption of tokenized assets.
6. Technology: Legacy fragmentation can be solved with centralized, front-to-back solutions that can offer collateral management capabilities and data transparency.
7. Client community: Users can discuss common challenges and best practices to adopt new technologies aligned with business KPIs improvement.

By addressing these key areas, organizations can support the adoption of digital assets and tokenization, ultimately leading to more efficient and optimized collateral management processes.
 

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