Tokenization is Essential for Asset Managers to Stay Competitive

As we conclude our four-part blog series about tokenization, it's time to explain how distributed ledger technology (DLT), tokenization and other new tech will allow asset managers to stay relevant to the incoming generations. If you'd like to catch up, read our previous blogs exploring who the next generations of investors are and why they are different, why we need to understand the behaviors of these next generations of investors, and our discussion of the next generation's buying preferences.

The asset management industry must embrace the next generations if they are to survive in the decades to come. The challenge is how to remain culturally relevant. We have previously introduced the concept of the "Living Portfolio." This requires an investment portfolio that enriches a young investor's life day to day-it will benefit their life now while also accumulating for later, and it changes as the investor ages. We have also seen a cultural shift toward personalization, a preference for experiences over possessions, access over ownership, new ways of engagement and the need for outcome-based products. If all of these needs are satisfied, then we will have investment portfolios that are relevant to the next generation.

To get to this holy grail and to ensure their survival, asset managers must embark on a new journey, starting now. A logical first step is to tokenize traditional funds-the subsequent ability to fractionalize tokens will help democratize illiquid assets and help investment firms provide a wider range of asset classes (and thus outcomes) to the next generation.

Next, the industry should make these tokens smart. This would be done through the use of smart contracts-we can simply think of these as logic that is embedded in tokens rather than the legacy business systems.

Smart contracts will allow asset managers to make the previously intangible, nebulous idea of culture into an actual, tangible thing-and this is all about culture. Consider the huge meme coin communities and the experiences, engagement, interactions, sense of belonging and shared culture that they embody. Asset managers could offer features such as peer-to-peer transactions, experiences in the form of tickets air-dropped to digital wallet addresses, provision of digital art, incentives for community engagement, new types of activity-based yield-the possibilities are almost endless, and the community itself can state what it wants.

The essential follow-on step would be to offer new outcome-based products rather than funds. The industry must move away from of one-size-fits-all products and towards personalized investments based on extensive and accurate data about individual investors and their desires.

Tokenization makes it easier for asset managers to combine asset classes in shapes and sizes that more precisely match the promises being made to investors, but we need to move towards offering outcomes and away from just tokenizing existing products (which is a worthy first step, but is just a new form of ownership rather than a radically different approach).

This would involve natively digital funds or, more likely, clusters of tokens. These tokens would be tokenized bonds and equities and derivatives in the short term, but longer term there is no need for such asset classes; we can simply break down these traditional asset classes into their atomic parts-namely pledges of cash flows. These tokens would then represent committed cash flows, which are the building blocks of our traditional asset class constructs. This would give us true Native Digital Issuance and would allow us to realize the true benefits of tokenization. Further reading on this topic is suggested at the end of this article. (2)

On the subject of industry change, read our whitepaper, Tokenization - One way to transform the asset management industry, which suggests that the "ability of the asset management industry to continue to thrive in the long-term might eventually depend upon its ability to rise to this fundamental commercial challenge: the challenge of delivering outcomes rather than selling products."

The industry needs to move away from the first iteration of outcome-based products such as "liability-driven investments" or "direct indexing." Instead, asset managers (or fund distributors) should manage portfolios of tokens and fractionalized tokens-or portfolios of tokenized outcomes, which are themselves capable of being traded-to deliver particular outcomes to individual clients.

Of course, all these new products and services will be highly personalized. One of the new products should be digital wallets that hold your investing identity (goals, model portfolio, ID credentials, etc.) and enable the tokenization of financial planning. Asset managers should also augment these services with such things as voice instructions (enabled by AI), individual advice (also enabled by AI) and Web3 & Crypto accessibility and compatibility.

In summary, asset Managers need to change their approach. They need to stop selling the aggregate performance of a portfolio and net of costs. Instead, they should sell tokens that promise specific outcomes (travel, car, university fees, etc.) along with ongoing benefits such as experiences, merchandise and loyalty programs.

The industry will have to do more than provide outcomes (via tokenization)-it must talk the language of the next generations and engage with them directly where they are (in the Metaverse). The challenge for the asset management industry is to be culturally relevant in the decades to come and connect with the next generation in 3D spaces in a meaningful way that connects with their values, gives an authentic connection with communities and provides reciprocal relationships. This will involve discovering new ways of engagement on social media and in the Metaverse to provide appealing interactions around financial education and wellness (including the gamification of financial learning and education provisions via communities).

Those asset managers who do not fully embrace tokenization and related tech will struggle to stay competitive. Download our whitepaper to learn more.

1. SS&C Whitepaper - One way to transform the asset management industry
2. The Capco Institute Journal of Financial Transformation - Issue 58 November 2023