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Introduction

Real-world assets (RWAs) have long intrigued cryptocurrency investors and developers, owing to the vast potential of global markets and the enhancements achievable through tokenization. Traditional markets, characterized by high entry barriers and cumbersome trading mechanisms, present significant opportunities for transformation.

RWAs encompass any assets that exist outside of the blockchain on which they are tokenized, meaning they exist “off-chain.” Typically, discussions around RWAs involve traditional financial assets such as government bonds, private debt, real estate, and other non-blockchain-based holdings like art or collectibles. While fiat-collateralized stablecoins like USDT and USDC technically qualify as RWAs, they are often considered distinct due to their straightforward nature and primary use case as stablecoins.

The Concept of Tokenization

Tokenization refers to converting tangible real-world assets into digital representations using secure and transparent smart contracts. Developers typically design these contracts to create a digital token that corresponds to a real-world asset (RWA). This process is accompanied by external assurances that the digital token can always be exchanged for its respective underlying asset.

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Tokenization promises to bring unprecedented liquidity and inclusivity to these assets. Citi, a global investment bank, highlights the potential of blockchain-based tokenization of RWAs, projecting it as a major future use case in the crypto realm. Their forecasts are ambitious, estimating the market value to reach $4-5 trillion by the end of this decade. The U.S. Federal Reserve has also acknowledged this potential, recently publishing a paper on RWAs and tokenization.

Tokenization is only part of the narrative. Decentralized Finance (DeFi) introduces another layer, expanding financing opportunities for RWAs. The integration of DeFi with RWAs can create new investment yields, appealing to participants interested in funding tangible assets. This fusion of RWAs and crypto, driven by tokenization and DeFi, has the potential to transform asset trading and redefine liquidity and inclusivity in the financial sector.

Why Put Real-World Assets (RWAs) on a Blockchain?

Initially, blockchains found their primary application in the creation and transference of tokens, exemplified by tokens like Bitcoin (BTC). However, the advent of smart contract platforms and decentralized finance (DeFi) has highlighted the expansive potential of public blockchains, particularly in transforming financial markets through the tokenization of real-world assets (RWAs).

Instantaneous Settlement and Efficiency

One of the most transformative attributes of DeFi applications is the near-instantaneous settlement they offer. Blockchains leverage cryptography and decentralized consensus to provide robust guarantees of finality in economic transactions without the need for intermediaries. This eliminates the traditional financial system's (TradFi) need for middlemen and reduces settlement times from days to mere minutes or seconds. The efficiency gains are significant, as DeFi platforms streamline and automate operations, reducing transaction costs and enhancing overall market efficiency.

Enhanced Transparency and Auditability

DeFi platforms are characterized by unparalleled transparency. Public block explorers and data dashboards provide in-depth insights into risk exposures and overall collateralization, a level of real-time transparency that traditional financial systems cannot match. Public blockchains are perpetually auditable, allowing stakeholders to scrutinize asset collateral quality and gauge systemic risk exposure continuously. This continuous oversight curtails record-keeping disputes, with public dashboards elucidating on-chain activities and offering a transparent view of transactions. Moreover, the open-source nature of DeFi applications allows anyone to scrutinize their architecture, fostering trust and innovation.

Cost Efficiency and Reduced Friction

Cost efficiency is another hallmark of DeFi applications. By streamlining and automating operations, DeFi platforms significantly reduce the friction and costs associated with traditional financial transactions. The removal of intermediaries and the automation of processes translate to lower transaction fees and reduced switching expenses when redirecting capital across various applications. This operational model fosters a more efficient and competitive marketplace, where application-level charges are regulated by market dynamics rather than intermediary fees.

Liquidity and Market Accessibility

Tokenizing assets that typically reside in private domains—such as pre-IPO shares, real estate, and carbon credits—brings previously inaccessible and illiquid markets into the spotlight. These markets, encompassing trillions of dollars in assets, become accessible and tradable, significantly enhancing liquidity. The tokenization of RWAs enables the fractional ownership and trading of high-value assets, democratizing access to investment opportunities and unlocking capital that was previously tied up in illiquid holdings.

Composability and Innovation

One of the most striking features of DeFi is its composability. A unified settlement layer capable of executing autonomous code allows for seamless integration between various DeFi applications. This open and composable ecosystem enables developers worldwide to innovate and iterate on a global scale, fostering a dynamic and rapidly evolving financial landscape. The ability to build and integrate new applications without the constraints of traditional financial systems drives continuous improvement and expansion of financial services.

Current Landscape of Tokenized Assets

Despite the dominance of centralized stablecoins, which constitute over 90% of on-chain tokenized assets, the adoption of other RWAs has lagged behind. However, since 2023, the space has seen a notable shift. This change is driven by increased acceptance of RWAs, improved infrastructure, and rising interest rates in traditional finance (TradFi). Consequently, there has been a surge in RWA projects, particularly those focused on tokenizing assets beyond U.S. dollars and treasury bills.

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The growth in RWA projects is evident from the substantial increase in total value locked (TVL) in RWA protocols, excluding fiat-backed stablecoins. This figure has surged from around $2 billion at the beginning of 2023 to nearly $8 billion.

Within the non-stablecoin RWA sector, there is a clear preference for yield-bearing assets, which capture over 90% of the TVL. While tokenizing assets like real estate or art aims to improve liquidity for traditionally illiquid assets, it still lags compared to yield-bearing financial assets like treasuries. 

European Regulation and Digital Tokenization

The Ecodesign for Sustainable Products Regulation (ESPR), set to take effect on July 18, 2024, represents a pivotal development in Europe’s strategy for fostering more environmentally sustainable products, as well as the role blockchain could play in building that future. Recognizing the significant environmental impact of products and their usage, the ESPR aims to address consumption-related climate change and pollution issues within the EU. The regulation is designed to enhance the sustainability, energy performance, and overall environmental impact of products in the EU market. Additionally, products under this regulation are likely to contain fewer harmful substances, more recycled content, and possess a lower carbon and environmental footprint throughout their lifecycle.

Blockchain technology, particularly platforms like Vehain, can play a pivotal role in supporting the objectives of the Ecodesign for Sustainable Products Regulation (ESPR). VeChain’s advanced blockchain solutions offer several mechanisms that can enhance the circularity, energy performance, and overall environmental sustainability of products within the EU market.

• Traceability and Transparency: VeChain’s blockchain provides an immutable ledger that ensures the traceability of products throughout their lifecycle. This feature is crucial for tracking the origin of raw materials, production processes, and the entire supply chain. By offering transparent and verifiable data, VeChain helps ensure that products comply with ESPR standards, such as using fewer substances of concern and incorporating more recycled content.
• Energy Efficiency: VeChain’s blockchain can be employed to monitor and optimize energy consumption throughout the product lifecycle. By providing detailed data on energy usage during production, transportation, and usage phases, businesses can identify inefficiencies and implement improvements. This aligns with the ESPR’s goal of enhancing the energy performance of products.
• Digital Product Passports: VeChain can develop digital product passports, which store essential information about a product’s composition, usage, and end-of-life management. These digital passports can be easily accessed and updated, ensuring that all stakeholders, from manufacturers to consumers to recyclers, have the necessary information to make sustainable choices. This initiative aligns with the ESPR’s objectives of promoting products that can be easily repaired and recycled.

VeChain x UFC: Tokenizing Apparel and Enhancing Experiences

VeChain, a leader in the tokenization and provenance tracking field since 2015, leverages its extensive experience, enterprise reputation, and technological expertise to position the VeChainThor blockchain at the forefront of the RWA space. 

The UFC stands as one of the fastest-growing sporting brands globally. VeChain’s 2022 global marketing partnership tapped into ~900 million households worldwide and also significantly expanded its digital presence across various media channels. The successful partnership provided new avenues for VeChain community engagement and growth, evidenced by the network’s rapid increase in new addresses since the campaign began.

Initially centered around marketing, the collaboration with the UFC has evolved into a technological integration. During UFC 300, a new set of fighter gloves will be unveiled, which will not only enhance athlete safety and well-being but also incorporate VeChain-powered NFC blockchain technology.

Athletes often donate or give away their apparel post-fight. Incorporating VeChain’s NFC chips into these items provides an immutable record of the event, including detailed action between athletes. This blockchain technology not only serves as an authentication tool but also introduces new ways for fans to engage with the sport. Additionally, it ensures the legitimacy of the item if sold or traded, thereby eliminating fraud, which is a prevalent issue in secondary markets.

NFC Technology

Near Field Communication (NFC) and Radio Frequency Identification (RFID) are advanced technologies utilizing radio waves for object identification. These NFC/RFID tags, available in various formats, can be affixed to products to facilitate tracking and authentication. VeChain leverages NFC alongside NFT technology to create digital replicas of physical products, known as 'phygital' entities. Notably, VeChain's technology transformed the winner's trophy of the BNL Internazionale D’Italia and Novak Djokovic's racquet from the 2023 Australian Open finals into phygital items. These items were later auctioned for charitable causes.

VeChain Technology, a provider of Blockchain-as-a-Service (BaaS) solutions, has developed proprietary NFC/RFID tags with multifaceted capabilities. These tags offer new possibilities for brands, including real-time goods tracking, luxury product authentication, temperature and GPS data monitoring, and enhanced tracking and reporting of sustainability data to fulfill Environmental, Social, and Governance (ESG) obligations.

VeChain's integration of blockchain, NFC/RFID, and NFT technology presents numerous business advantages. This synergy not only enhances supply chain efficiency and reduces fraud but also ensures data legitimacy for businesses and consumers. The amalgamation of these technologies offers additional benefits for brands, including:

1. Trustless Marketplaces: Blockchain-powered second-hand marketplaces guarantee product authenticity, reducing the need for intermediaries and eliminating fraud.
2. Lifecycle Insights: Brands can gain insights into product lifecycles, such as resale frequency, and engage directly with secondary and tertiary consumers. This interaction provides new revenue opportunities and the potential for royalty generation post-sale.
3. Incentivized Ecosystems: Token-gated ecosystems enable brands to reward repeat customers. Verified by NFTs, these rewards, in the form of tokens or other incentives, can be automated via blockchain.

MaaS

VeChain has introduced a new initiative in the NFT and Real-World Asset (RWA) marketplaces with its Marketplace as a Service (MaaS). Launched in March 2024, this platform simplifies participation in the NFT space by removing the need for extensive coding or development skills, thereby making it more accessible for both users and builders. This initiative also aims to support the global tokenization movement by integrating physical products with digital twins, referred to as "phygitals," through NFT and chip technology.

The MaaS platform allows users to create and brand their own customized NFT marketplaces without the barrier of transaction fees. Builders can employ fee-delegation technologies to cover transaction costs on behalf of the users, demonstrating a focus on user experience. Additionally, the platform has incorporated an NFT checkout provider and is in discussions with a global payment service provider to enable direct fiat on/off ramps. This integration makes the user experience similar to traditional Web2 interfaces, enhancing the platform's usability. 

Building on this movement, VeChain partnered with WoV Labs to enhance digital ownership for readers of SNOB Non Per Tutti magazine. This collaboration utilizes VeChain’s advanced tools to create a unique engagement model, allowing readers to access exclusive benefits through WoV Labs’ digital passport without needing blockchain or web3 knowledge. The initiative aims to offer personalized promotions and content, reflecting the evolving landscape of digital ownership and engagement. By claiming their digital twin, readers can connect directly with the magazine, highlighting the integration of blockchain technology into traditional media and creating new opportunities for user interaction and content delivery. This strategy aims to increase the utility and accessibility of digital assets, contributing to the integration of tokenization and digital marketplaces into both digital and physical domains.

VeChain Tags

VeChain provides a one-stop solution for tagging products with NFC/RFID chips embedded with anti-counterfeit encryption technology. This integrated approach simplifies the process for businesses and enhances the consumer experience. As demonstrated with the UFC example, VeChain tags offer innovative methods for generating value and enhancing direct interactions with consumers that would otherwise be impossible. Additionally, the tags offer other benefits to consumers, including:

• Adaptability: VeChain offers a diverse range of tags to meet various product needs. Whether the product is a luxury item, a piece of apparel, or a consumable good, there is a suitable tag available.
• Anti-Counterfeiting: Each NFC tag is fully secured, providing robust protection against counterfeiting. This feature ensures the authenticity of the products, safeguarding both the brand and the consumer.
• Ease of Use: VeChain tags are designed for seamless integration with products. This simplicity ensures that businesses can quickly and efficiently add these tags to their items without significant adjustments or additional resources.
• Extensive Range of Tags: VeChain offers a broad selection of tags, ensuring compatibility with a wide variety of products. This extensive range allows businesses to choose the best tag for their specific needs.
• Customizable Mobile and Web Applications: VeChain's mobile and web applications allow businesses to customize the consumer experience. These applications can provide tailored content, exclusive offers, and other interactive features that engage consumers and add value to the product.
• Product Landing Pages: Consumers can access dedicated product landing pages through a simple scan of the NFC tag. These pages can offer detailed information, enhancing transparency and consumer trust.

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FiTags

FiTag is an emerging player in the luxury retail sector, and has garnered recognition as a BCG track winner for its pioneering approach to shopping. By integrating blockchain technology with Near Field Communication (NFC) tags, FiTag offers a unique and transparent experience for both luxury brands and their discerning clientele. This platform ensures an authenticated supply chain from production to point of sale, providing a remarkable shopping experience.

FiTag leverages the capabilities of the VeChain blockchain to enhance visibility across the supply chain. Each product's journey is fully traceable, aiding brands in complying with the latest sustainability mandates set forth by the Fashion Industry Charter. NFC tags, when scanned, reveal a product's provenance and authenticate its legitimacy. This feature provides customers with assurance regarding the ethical sourcing and authenticity of their purchases.

FiTag goes beyond supply chain transparency by enriching the shopping experience with digital innovations such as Augmented Reality (AR) and loyalty program NFTs. These features confirm product ownership and add an interactive dimension to online shopping. Customers can engage with products in a virtual space, enhancing their connection to the items they purchase.

FiTag's rental model encourages the reuse of luxury items, promoting sustainable consumption patterns among fashion enthusiasts. By offering a rental option, FiTag reduces waste and extends the lifecycle of luxury goods, aligning with the growing demand for sustainable practices in the fashion industry.

Challenges with Real-World Assets (RWAs) on Blockchain

Blockchains offer numerous advantages, particularly their ability to enable trustless commerce in a self-custodial manner. Two individuals, regardless of their location, can transact on a blockchain without needing to trust each other, relying solely on the underlying protocol. However, the introduction of RWAs to blockchain ecosystems compromises many of these benefits. The inherent nature of RWAs, deeply rooted in traditional financial systems, introduces trust attributes that diverge significantly from the decentralized finance (DeFi) environment, which is primarily focused on crypto-native assets.

Integration Complexities

Integrating RWAs into a blockchain protocol involves adopting the complexities and challenges of the physical world, including counterparty, custodial, and regulatory risks. If problems arise with the RWA, they often require social or community-level interventions, undermining the principles of "code as law" and the immutable characteristics of blockchain.

Regulatory Clarity

One of the most pressing concerns is the need for clear and robust regulatory frameworks. Financial institutions exploring the tokenization of assets on public blockchains often face regulatory ambiguity. While regions such as the European Union, Switzerland, the United Kingdom, and Japan have made significant progress in developing distinct regulatory frameworks, other jurisdictions, like the United States, remain in the early stages of this process.

Permissions, Compliance, and KYC

True DeFi champions the permissionless and open nature of blockchain finance. However, the introduction of RWAs necessitates certain compromises. To comply with existing and forthcoming financial regulations, token issuers might need to implement specific permissions, including Know Your Customer (KYC) and Anti-Money Laundering (AML) checks. These checks could be required during various stages, such as token issuance, redemption, or transfer.

With the addition of permissions comes the challenge of identity verification. Institutions aiming to tokenize RWAs need sophisticated mechanisms to verify user identities and assess risk profiles. Decentralized Identifiers (DIDs) and other privacy-focused tools have become essential for institutions navigating this space.

Disputes and Risks

As RWAs become more integrated into the crypto ecosystem, associated risks also increase. Stablecoins like Maker and Frax are leading this trend by incorporating a higher proportion of RWAs into their collateral pools to enhance peg stability and diversify reserves. However, this shift introduces challenges common in traditional finance, such as counterparty risks and potential defaults. The process of collateral settlement during defaults requires streamlining, and its robustness remains largely unproven. As long as liquidation processes are not executed on-chain, RWAs will remain constrained by off-chain settlement intricacies.

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Proof of Reserves

RWAs, being inherently off-chain entities, present unique challenges for DeFi platforms, which often struggle to gain transparent insights into the actual collateralization of these assets. Oracle solutions, such as Chainlink's Proof of Reserves, aim to address this ambiguity but introduce additional complexity. While it is possible to periodically refresh and verify this information on-chain at no cost, end users still rely on 1) the RWA custodian to accurately represent its assets and 2) the oracle solution to relay the information correctly. To instill trust and protect against malicious activities, the industry must establish new benchmarks, such as Proof of Reserves or third-party audits. Without these protective measures, the integration and success of RWAs within the crypto landscape could be jeopardized by unscrupulous entities.

Conclusion

The integration of real-world assets (RWAs) into the blockchain ecosystem presents a transformative opportunity for both traditional and decentralized finance. By leveraging the principles of tokenization and DeFi, blockchain technology can offer unparalleled benefits such as enhanced liquidity, transparency, efficiency, and inclusivity in asset trading. This digital transformation has the potential to unlock significant value in traditionally illiquid markets, democratizing access to high-value investments and fostering a more dynamic financial landscape.

Despite the promising advantages, the journey to fully realizing the potential of RWAs on blockchain is fraught with challenges. These include integration complexities, regulatory uncertainties, and the inherent need for trust in off-chain entities. Addressing these hurdles requires robust regulatory frameworks, innovative technological solutions like decentralized identifiers, and proof of reserves mechanisms to ensure transparency and trustworthiness.

VeChain's initiatives in tokenizing assets and integrating NFC/RFID technology exemplify the innovative strides being made in this space. By providing comprehensive solutions for product authentication, lifecycle tracking, and sustainable practices, VeChain is not only enhancing the efficiency of supply chains but also paving the way for new consumer experiences and business models.

As the market for tokenized RWAs continues to grow, with projections reaching up to $5 trillion by the end of the decade, it is imperative for stakeholders to collaborate in developing standardized practices and regulatory clarity. This collective effort will be crucial in mitigating risks and ensuring the successful and secure integration of RWAs into the blockchain ecosystem. The ongoing evolution of blockchain technology, coupled with regulatory advancements, promises a future where the seamless fusion of digital and physical assets revolutionizes the global financial landscape.

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Disclaimer: This report was commissioned by the Vechain Foundation. This research report is exactly that — a research report. It is not intended to serve as financial advice, nor should you blindly assume that any of the information is accurate without confirming through your own research. Bitcoin, cryptocurrencies, and other digital assets are incredibly risky and nothing in this report should be considered an endorsement to buy or sell any asset. Never invest more than you are willing to lose and understand the risk that you are taking. Do your own research. All information in this report is for educational purposes only and should not be the basis for any investment decisions that you make.