So-called “security tokens” are very special cryptocurrency tokens.
But in order to properly understand their nature, it is necessary to first specify what is meant by a token, and what is meant by security.
Definition of token
Both cryptocurrencies and tokens circulate in the crypto markets.
The term “token” refers to the amounts that are actually transferred when a sender sends them to a recipient. So for example when someone sends say ten Bitcoin, or ten thousand Satoshi, they are actually sending 10 BTC tokens or 10,000 Sat tokens.
But there is a very important difference between real cryptocurrencies, and those that are just tokens: the blockchain.
In fact, only those that are native to individual Blockchains are properly defined as cryptocurrencies. So Bitcoin is the cryptocurrency native to the Bitcoin blockchain, while Ether (ETH) is the cryptocurrency native to the Ethereum blockchain.
On blockchains such as Ethereum‘s, anyone can create tokens that do not need their own blockchain, such as stablecoins. So on the Ethereum blockchain there is one true native cryptocurrency, Ether, but there are also hundreds of non-native tokens such as USDT, USDC, and so on.
Security and the relationship with tokens
The term “security,” on the other hand, refers to a particular traditional financial product, such that, for example, the SEC has been the Securities and Exchange Commission of the US since 1934.
Specifically, securities are the investment contracts that promise the subscriber something in return, usually a financial return. The fact is that because they are considered a contract, those who enter into them have legal obligations, so it is necessary for these contracts to comply with the law in order to be sold.
Indeed, the agencies that oversee financial markets, such as the SEC, must approve each and every prospectus for each security that is to be issued in the market. It is illegal to sell securities on major financial markets without a prospectus approved by the authorities.
Security tokens are simply non-native cryptocurrency tokens that represent a security.
For example, if shares of a publicly traded company were tokenized, since the shares are securities then the resulting tokens would be considered security tokens.
This basically causes security tokens to have to abide by the same rules as the security they represent, whereas payment tokens such as Bitcoin, or utility tokens, are exempt from this burden. That is, the latter still have to comply with the laws, but not with the laws on securities, which are much more stringent.
Therefore, it is not necessary, for example, to have to obtain SEC approval of a prospectus to sell Bitcoin in the US, but it is necessary to do so if you want to sell security tokens in accordance with the law.
As you can easily guess, security tokens involve a whole range of issues that are not easy to deal with, and that payment tokens and utility tokens do not have.
The issue with XRP
While Bitcoin is now commonly and definitively considered just a payment token, the issue regarding other cryptocurrencies is still open.
In 2020, the SEC sued Ripple for selling XRP as an investment contract, i.e., as a security, during the first years following the launch of this cryptocurrency.
This lawsuit is still pending, and it is not yet clear how it might end. However, if it is recognized that Ripple initially sold XRP as a security, that is, promising financial returns, it could set a dangerous precedent for many other cryptocurrencies.
Ethereum staking could also be considered a kind of investment contract, so in the event that the SEC wins against Ripple one will have to be careful about what is decided for ETH.
Security tokens on the market
The simplest form of security tokens are tokenized shares.
The problem is that they can only be traded on exchanges authorized to trade securities, so much so that, for example, Binance was forced to remove this service from its platform in July 2021.
In 2021, it was believed that 2022 could be the year of security tokens and STOs, but this prediction did not come true.
The reason lies precisely in the fact that only platforms that are already authorized to allow the exchange of securities can legally allow the exchange of security tokens as well, and there is no need to exchange, for example, tokenized shares if you can exchange the shares themselves, or the related CFDs.
Thus, security tokens have not yet achieved much success, partly because there are very few that have already been launched without representing existing security in traditional markets.
For example, in 2021, STOs from Lottery.com, tZERO, 22x Fund, Blockchain Capital, and SpiceVC were suggested, but none of these have been very successful.
In 2018, those of Securrency, Swarm, Harbor, Securitize, and Polymath were suggested, and again in five years, none have found much success.
In other words, since there have not yet been cases of great success among security tokens this market has not yet taken off.
Moreover, while there are decentralized platforms that deal with them without apparent problems, there are still no large, widely used platforms that deal with them. The only exception is the DEX Uniswap, which, however, does not have volumes even remotely comparable to those of the exchanges on which traditional securities are traded.
Until a few years ago, Coinbase was believed to be working on a platform for security tokens, but despite having landed on the stock market in 2021, it has not yet made the difficult decision to add the trading of security tokens.
A different matter concerns traditional exchanges that can already host security token exchanges. In theory, all of them might be ready from a regulatory point of view to allow the exchange of security tokens, but since this market is not yet mature, attempts to do so are still few and with questionable success. In the future, however, it may also have the potential to explode, so perhaps it is still just too early to judge.