Asset tokenization: enabling funds to flow at internet speeds

Author: Prathik Desai; Source: TokenDispatch; Compiled by: Shaw, Jinse Finance

Introduction

Asset tokenization is bridging two very different systems: One is decentralized finance protocols that are open 24/7 and require no access, with prices fluctuating every few seconds; the other is the traditional asset management system, where settlement processes are subject to administrative time constraints and are only available to specific compliant and licensed participants.

Bridging the gap between these two systems is extremely difficult, but those who can implement this solution will reap enormous value from it.

This article will analyze who is building the intermediary layer connecting the two major systems, and who can reap the benefits from this sector. The total size of tokenized real-world assets (RWA) has exceeded $33 billion, of which tokenized US Treasury bonds account for approximately $15 billion. Interestingly, however, in just one year, the proportion of Treasury bonds in RWA has declined from 55% to below 45%. Other types of tokenized funds continue to grow, covering institutional credit (such as Apollo's ACRED products) and private credit (such as Henderson's JAAA products). The maturation of asset tokenization provides corporate finance executives and CFOs with diverse asset allocation options covering different risk levels. Entities seeking low risk, low returns, and high liquidity can allocate to government bond-like token products; investors seeking higher returns and greater programmability can choose higher-risk categories. The security of returns for these products is no longer a concern: they are backed by government bonds and audited by the same auditing firm as traditional financial products. This is the most convincing argument, sufficient to prove that asset tokenization is about to experience explosive growth among institutional investors. If someone asked me what the core difference is between off-chain and on-chain funds, I would answer: composability. Leveraging this characteristic, the same dollar fund can generate more value in multiple scenarios, achieving compound interest growth. The instant redemption mechanism, combined with the efficient value-added capabilities of funds, makes tokenized funds resemble powerfully empowered financial products. In the traditional financial system, investors can only choose between returns, liquidity, and fund flexibility; however, a well-managed tokenized fund can simultaneously achieve all three advantages. But the difficulty lies precisely in the prerequisite of "well-managed." Achieving on-chain composability for fund assets inherently presents complex technical engineering challenges. Connecting two completely different systems: Blockchain brings advantages such as high-speed transactions, low costs, and rapid settlement to tokenized real-world assets. However, tokenized money market funds are still fundamentally fund products, not stablecoins. According to the fund manager's settlement rules, they still need to update their net asset value (NAV) every trading day and are only open to qualified holders who have completed KYC (Know Your Customer) verification. For example, BlackRock's BUIDL product has a minimum investment threshold of $5 million, and Circle's USYC is only open to investors outside the United States. These products must also adhere to redemption deadlines—the underlying US Treasury bonds are settled through off-chain traditional financial systems, and the channels close after 5 PM Eastern Time. These are all inseparable legal and regulatory attributes of the product: if the daily NAV pricing mechanism is removed, the product will no longer be considered a money market fund; if the investor whitelist access restrictions are relaxed, the U.S. Securities and Exchange Commission (SEC) will immediately conduct an inquiry and investigation. So, how can tokens representing fund units achieve high-speed, internet-level circulation while preserving the fund's original settlement cycle, qualified investor scope, and redemption window? Such funds require a customized underlying infrastructure: capable of calculating and updating net asset value at periodic nodes, supporting phased liquidation, and strictly adhering to compliance and legal red lines during cross-chain asset transfers. This technical challenge of on-chain and off-chain coexistence is extremely complex. A recent joint report by LayerZero and Centrifuge details their solutions. Resolving Core Conflicts Whether on-chain and off-chain systems can achieve compatibility and coexistence depends on the proper resolution of three major conflicting issues. If the intermediate scheduling layer can resolve these three issues, tokenized funds can achieve high-speed, internet-level circulation without violating compliance and legal red lines. The first major contradiction: Pricing mechanism. How should tokens be valued during the interval between two fund net asset value (NAV) pricing periods? Some issuers directly lock the price at the previous trading day's NAV, at the cost of price lag and distortion. If daily interest rates fluctuate, a fixed price easily breeds arbitrage. While real-time continuous pricing can avoid arbitrage opportunities, it is difficult to match and unify with the fund's actual financial accounting rules. The second major contradiction: Compliance verification mechanism. Where should the investor whitelist verification process be deployed? If every transfer requires mandatory whitelist verification, the token cannot be integrated into the open decentralized finance (DeFi) ecosystem and can only circulate between approved wallets. Another solution is to embed compliance verification into the asset custody encapsulation contract: the custody contract holds regulated original fund shares and only issues freely tradable credential tokens to investors who have completed one KYC verification. This token can be freely combined and used within the DeFi ecosystem, with compliance constraints uniformly managed by the custody layer, eliminating the need for repeated verification for each transaction. Centrifuge's deRWA framework is a typical example of this model. The third major challenge: cross-chain asset transfer. When the same tokenized fund is deployed on nine different blockchains, a unified authoritative data source is required to record asset ownership and real-time valuation. Although on-chain infrastructure supports real-time updates, data discrepancies still necessitate synchronization and reconciliation across all nine chains. The more data synchronization nodes, the higher the probability of errors. LayerZero and Centrifuge address this pain point with a centralized-radial architecture: a single authoritative main chain manages fund net asset value, financial accounting, and compliance verification; then, through LayerZero's cross-chain message scheduling layer, unified data is synchronized to each branch application chain, with the token actually circulating and used on the branch chains. The Centrifuge V3 architecture is built upon this model: each asset pool selects a central chain as the sole trusted data source, and each branch chain serves as a distribution terminal for fund deposits, while also supporting the composable characteristics of decentralized finance. LayerZero transmits operational data between the central chain and branch chains, ensuring updates to fund net asset value, issuance of compliance instructions, and synchronization of cross-chain asset balance status. This is the extremely challenging cross-system collaborative scheduling mentioned earlier, and the entities that can implement this infrastructure will continue to accumulate industry value. Any service provider that operates this infrastructure and ensures the consistency of authoritative fund data across various blockchains possesses extremely high irreplaceability. Fund managers still control traditional financial settlement time rules, blockchain provides composability, and middleware service providers need to support the normal operation of both systems simultaneously. The weakest link in the cross-chain asset transfer process is the accounting of assets in transit. When assets are transferred between different blockchains, they are temporarily removed from the fund's balance sheet, which can be viewed in real time. Centrifuge V3 issues tokenized ownership certificates for assets in transit, ensuring the fund's balance sheet data remains complete and continuous even when the underlying tokens are in cross-chain transmission. This mechanism is equivalent to an on-chain version of transaction-day accounting. This mechanism, seemingly mundane, is an essential core design. Given these various system conflicts, why do institutional investors still allocate to tokenized funds? One of the core optimization methods for leveraging asset tokenization to revitalize idle funds is cyclical carry trade. Corporate finance managers can purchase tokenized government bond funds and then pledge them as collateral to borrow stablecoins. If the borrowing rate is lower than the fund's yield, holding this portfolio position will generate a positive net return. Investors can then invest the borrowed stablecoins in another yield-generating channel, repeating the cycle. For this entire cyclical carry trade mechanism to operate smoothly, the various systemic contradictions mentioned earlier must first be resolved. This is also a challenge that tokenization infrastructure builders will need to overcome next. In the past, some market participants have already exploited these loopholes for arbitrage. For example, the net asset value (NAV) of some small tokenized products on-chain funds lags behind the underlying asset price by 2 to 4 hours, creating arbitrage opportunities before the next NAV pricing. When the off-chain NAV mechanism triggers the liquidity redemption cap, and independently running on-chain smart contracts attempt to process token redemption requests immediately, a redemption channel conflict occurs. The smart contracts accumulate a large number of "isolated" unexecuted token transactions. These transactions continuously initiate redemption requests in parallel, but are always unable to complete liquidation due to the off-chain redemption limit. Large private credit funds and business development companies (BDCs) are currently facing this type of risk. Two weeks ago, Apollo Global's $26 billion private credit fund, Apollo Debt Solutions Fund (ADS), experienced a large-scale redemption, with investors requesting redemptions representing approximately 16.8% of the fund's total size. The fund was forced to limit redemptions to 5% of the total. If similar funds simultaneously issue tokenized shares and trade them on-chain, the risk of redemption channel conflicts during concentrated redemptions would be significant. In the second quarter, mainstream private credit funds received a total of $15.6 billion in redemption requests from investors, up from approximately $13.9 billion in the previous quarter. Interruptions can also occur during cross-chain message transmission, resulting in a semi-liquidated asset state. Only by establishing monitoring mechanisms for each type of failure scenario and assigning corresponding responsibilities to licensed institutions can the trust of institutional investors be earned. If the asset tokenization sector wants to unleash its full development potential, the above issues must be addressed one by one. Tokenization is far more complex than simply putting US Treasury bonds on-chain or creating entirely new asset classes. Infrastructure builders need to break away from outdated traditional financial rules—no longer forcing investors to make trade-offs between returns, liquidity, and capital flexibility. If tokenization allows a single fund to conduct multiple business transactions simultaneously without weakening the credit backing provided by compliance and risk control systems, then institutions holding hundreds of billions in cash will undoubtedly make significant investments. Last week, I wrote an analysis stating that SWIFT, as a cross-institutional scheduling intermediary layer, currently has a value and influence far exceeding that of various participating institutions at both ends of the network; Visa's overall value is also higher than that of most of its partner banks globally, with JPMorgan Chase being the only exception. This is the core advantage of seizing the cross-system scheduling intermediary layer track in an ever-evolving financial system. Mastering this infrastructure layer will allow companies to occupy a core position in the development landscape of the capital market over the next decade. Centrifuge is defining the standard form for the fund side of this system, while LayerZero is responsible for building the interconnection and transmission layer between various blockchains.