Tokenisation: Unlocking access to commercial real estate markets?

This article was taken from Digital Bytes, a weekly analysis of developments in the blockchain and digital assets sectors, taking real examples of how, why and where blockchain technology is being implemented around the world.
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According to a 2016 Savills World Research Report, real estate is the largest asset class in the world, valued then at $228 trillion and representing approximately 60% of all the world’s assets. However, the same report estimates that only 34% of global real estate is readily investible at scale with the rest inaccessible to public investors.

Real estate based security token offers (STOs), sometimes referred to as digital securities backed by a property asset, enable the democratisation of real estate, as well as making dealings between property professionals and institutions more efficient and cheaper.

The flexibility of STOs potentially allows them to be structured to represent a variety of ownership and economic interests in the asset such as equity in the owning company, an interest in debt secured by real estate, a right to an income stream based on cash flows or an interest in capital growth of a development project.

Until recently the number of completed commercial real estate transactions involving STOs was small - in large part due to regulatory frameworks being under development. However, the landscape is changing as financial regulators in countries including the UK, Germany, Switzerland and the US have authorised businesses, that are fundamentally technology companies, to operate blockchain based platforms issuing managing digital securities.

In mid-2019 there was some initial activity in Germany when the regulator, BaFin, approved digital securities and several large property companies issued real estate bonds to raise development finance including the Fundament Group’s €250m asset backed security token.

Then, in October 2019, a UK based real estate investment company, Alliance Investments, announced that it was planning to tokenise over £500m of real estate projects in the UK using STOs, and that its first project would involve tokenising £20m of the value of River Plaza, a 180 unit luxury residential development in Manchester.

The River Plaza project was led by the US digital security issuance platform tZero and included development finance involving the London based Globacap, an FCA regulated capital markets platform for digital security administration, arranging issuance and custody.

Moving on apace, a milestone transaction in the tokenisation of the international commercial real estate sector has just been announced. BrickMark, a German real estate investment company, has agreed to purchase a stake in a high-profile commercial property on Zurich’s Bahnhofstrasse for over €130m with a large part of the price being paid using a digital token called BrickMark, which is based on the Ethereum blockchain’s ERC 20 protocol.

Fundamental to the transaction was the willingness of the vendor, Swiss real estate investment group RFR Holding, to be paid in a digital token, as doing so demonstrated confidence in the stability and future value of the BrickMark digital token as a financial instrument. Interestingly, RFR, known for purchasing the Chrysler Building in 2019, is reported to oversee over $13 billion of real estate and is a significant player in property in Europe and the USA. So how long will it be before we see other real estate managers and owners becoming engaged with STOs?

Taken as a whole, these transactions, and others that are taking place under the radar, indicate that sophisticated real estate professionals across the commercial real estate spectrum have confidence in digital securities as a basis for significant and long-term property transactions. It would appear they have confidence in the reliability of the underlying blockchain to properly execute the ‘smart contracts’ that underpin the transactions and, most importantly, they believe in the long-term viability of the digital securities as a ‘currency’ that will be regarded as a solid store of value and a tradeable commodity within the international commercial real estate community.

In the UK, a number of digital security platforms are now authorised by the Financial Conduct Authority to issue digital securities via capital markets and/or on their own platforms, and to provide a suite of custody and administration services. These include Mozaic Markets, LDX and Globacap.

One of the implications of the digitisation of real estate is that we are likely to see smaller investors gaining access to the asset class. Historically, the majority of commercial real estate has been held by institutional investors, due to the high value of the individual properties, and they tend to be longer term holders as opposed to traders. If smaller investors have access to real estate, will we see more liquidity and trading as they buy and sell their digital interest? And, if so, could this lead to governments being able to earn additional income from stamp duty and capital gains tax? May we then see governments encouraging the digitisation of real estate as a means of generating more tax revenues and encouraging overseas investors to buy assets in their jurisdiction?

2020 will see a great deal more real estate transactions based on digital securities. That growth will be driven by an increasing number of regulated issuing platforms in major financial centres and growing confidence within the international CRE and investment communities in using digital securities as a safe, flexible and cost-effective way of doing business in real estate.