What to Know About Decentralized Bonds

The issuance of stocks and bonds can benefit from a digital-oriented alternative. The European Union (EU) has committed to issuing, trading and settling such vehicles over the blockchain over the next five years, making decentralized bonds a significant prospect for the future of finance, even if roadblocks remain. 

The European Union and Decentralized Bonds

Innovation is crucial for the financial industry, and existing vehicles, such as stocks, bonds and derivatives, need to modernize through technology. The European Union has committed to a five-year pilot of issuing, trading and settling decentralized bonds, and as a result, EU members can experiment with new crypto applications that would otherwise remain inaccessible due to current financial market legislations. 

The EU is the first entity to revamp financial legislation to suit digital needs through this approach. The group showcases an open mind towards new and transparent technology that can slash costs and introduce broader accountability. However, the five-year project is set up with security in mind. Something unexpected can always occur, and monitoring unforeseen risks remains essential. 

The push for decentralized bonds and stocks will unlock broader efficiency and lower costs through the tokenization of stocks, bonds, and even exchange-traded funds. However, not all lawmakers and policymakers see blockchain technology as a promising tool. They fear this approach will result in "a loophole in laws on financial trading and infrastructure intended to protect investors and safeguard financial stability." The multi-year pilot program will hopefully offer some clarity on that front.

How Do Decentralized Bonds Work?

A bond represents debt for companies borrowing money from a third party, with repayments subject to interest payments. A decentralized bond is not a new vehicle, as the decentralized finance (DeFi) industry has experimented with this concept for a while. However, unlike traditional bonds, a decentralized counterpart is designed to obtain DeFi products with guaranteed liquidity. 

Through a DeFi decentralized bond, an investor can participate in the success of a company or project without risks. In addition, money is secured for the entire investment period, providing an extra layer of peace of mind. On the other hand, traditional bonds are subject to firms going bankrupt and investors losing their money. 

Additionally, a decentralized bond is a digital IOU issued on a blockchain. Because it resides on the blockchain, there is no need for unnecessary intermediaries. Moreover, the digital nature of these bonds enables users to trade them freely, paving the way for broader accessibility. Furthermore, investors can put money into up-and-coming projects and receive a return when it completes while benefiting from better transparency and security. 

It is also worth noting that decentralized bonds let investors earn interest on their wealth without selling assets. Having a pie and eating it is impossible in the current economy, at least where traditional finance is concerned. So the ability to purchase bonds with, as theoretical examples, Bitcoin (BTC) or Ethereum (ETH), and collect monthly payments is appealing.  

Bond issuers can collect funds acquired by their issuance for investment in various industry verticals. These investments do not need to be limited to cryptocurrency or blockchain either, although it remains advisable to establish a well-balanced portfolio. Decentralized bonds ensure investors support projects they care about and may bring much-sought volatility negation.  

Future Prospects 

As more governments and companies explore decentralized bonds, the future is bound to get interesting. However, one can’t ignore the potential roadblocks that remain. While the European Union is open to adjusting financial regulations to accommodate these digital vehicles, other regions may not share that positive attitude. Bonds are a notoriously tough market with steep requirements for entry. 

However, decentralized bonds allow anyone to turn a digital asset into a bond. That makes them different from traditional bonds, available mainly to government entities and large-scale corporations. These entities and corporations may not be willing to give up their "exclusive" access to bonds that easily. That said, projects like D/Bond make decentralized bonds accessible today, creating a more level playing field. Users may create their own bonds and derivatives backed by diverse cryptocurrencies such as stablecoins, NFTs or Bitcoin. 

Another topic to consider is how decentralized bonds may not be suitable for large investments. A fiat bond enables larger amounts to be invested in projects. A decentralized vehicle may not support that option, primarily due to potential liquidity concerns. Even if that issue is resolved, it will still come down to regulation allowing decentralized bonds to gain any traction.

No one doubts blockchain can be a boon to the bonds industry. Moreover, a level playing field to make these investment vehicles more accessible can prove beneficial. In the EU, decentralized bonds have received a green light for testing while in other places, the situation may still be fluid. It remains to be seen if other regions and governments will take a similar open-minded approach to decentralized bonds. 

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

In This Story

BTC

Other Topics

Technology Blockchain Banking Policy & Regulation Cryptocurrencies