Security Tokens Explained: How STO Investing Works and Their Distinct Differences from ICOs and Other Crypto Assets
Blockchain technology has been around for an entire decade at this point, but while some may believe that this is enough time for it to get properly developed, this is quite far away from an actual state of things.
Due to the lack of attention at first, and lack of regulations during the entire time of its existence, blockchain development has progressed rather slowly.
The situation is getting better due to an increase in exposure that occurred in the last several years. However, it is a trial-and-error type of thing, which often leads to a dead end, and forces developers to go back and start from the beginning. One example of this was the 2017 ICO trend that grew rapidly. However, it went extinct in 2018 as investors and developers alike realized that there is too much risk involved, and not enough certainty.
However, this allowed security token offerings to emerge as the new trend, one that has yet to reach its peak. Some have speculated that this might occur in 2019, or at least start at some point during the current year. However, in order to understand this next step of blockchain development, we need to understand security tokens first.
What are security tokens?
The first thing to understand is that there are two types of coins in the crypto world — cryptocurrencies and tokens.
Cryptocurrencies are platform-independent digital assets that can be traded among users and that use blockchain as a neutral store of value. Tokens, on the other hand, are platform-dependent, and they are bound to their native ecosystem.
There are some projects where the line that separates these two types of digital coins gets blurry, but these are a minority in the crypto space.
The ICO trend which took place in 2017 and partially in 2018 attempted to take advantage of the value tokens get from an ecosystem, hoping to issue a certain number of tokens and watch their value grow as people realize the quality of an underlying platform. However, the US SEC's decision to start regulating tokens as securities.
While many viewed this as a surprise, the fact remains that pretty much all the ICO tokens are securitiy tokens by definition. They were named “utility tokens,” but that doesn't change their nature, as they meet the SEC standards that define securities. Legally speaking, this menas that they are no different than shares of stock, and bringing them in such great numbers means flooding the market with them.
The SEC considers tokens to be securities if they involve consumer investment, the expectation of profit derived from the work of others, and the tokens being a part of a common enterprise. In other words, investors can make a profit out of the hard work of the companies they invest in.
Another thing to understand when it comes to security tokens is that they can have a second purpose, which is the representation of ownership of a digitized real-world asset, such as property, art, diamonds, or anything else. In fact, there are entire platforms and even companies that have created formats for security tokens based on this concept.
What makes securities different from utilities, equities, and cryptos?
One of the questions that are confusing crypto enthusiasts is what makes securities different from utilities? As for the SEC, the regulator even questions the legitimacy of utility tokens.
Since these are platform-dedicated tokens, their purpose mostly comes down to providing access to the platform. While its value is supposed to arrive from the platform's usefulness, the real situation is reversed, and the platform drives up its value by selling these tokens on the open market.
Then, there are equity tokens, which are really just another class of securities. These tokens provide partial ownership in an underlying company, and their functionality is identical to shares of stock.
As for cryptocurrencies, the SEC clearly views them as commodities. This is because of two reasons — the first one is that cryptocurrencies are mediums of exchange, while the second one revolves around their decentralized nature. In other words, they work as market-driven commodities.
Securities, on the other hand, face two main criticisms. The first one is that they are slowing down the blockchain development, which was felt during the ICO craze, when there was little to no friction between new blockchain-based businesses and investors, and when startups managed to raise large amounts of money within days.
The second issue that critics have pointed out is the blockchain is simply too international in order to be regulated by a single regulatory authority.
Every country has its own regulators with their own views on how things should be handled. This makes it next to impossible to have equal regulations for the blockchain and its products globally. In other words, businesses that would otherwise help the US economy are relocating to areas with less strict regulations, which can affect the economy of the entire world.
There is still much to learn and understand about the crypto world and blockchain technology, and even these technologies themselves have yet to discover the limits of their potential and all of their use cases.
Meanwhile, regulators need to find a way to create proper regulatory frameworks which will not damage further development of the technologies, but instead offer proper guidelines to control this development and prevent bad trends from taking place. All of this is expected to happen in the future, and while it might not be completed in 2019, this is believed to be the year when the first steps towards achieving these goals can be made.