A FAQ sheet tackles the capital treatment of tokenized securities.
The tokenization of securities must be taking off as Federal Reserve officials have recently compiled a useful set of frequently asked questions (FAQs), entitled “Capital Treatment of Tokenized Securities Frequently Asked Questions,” that is providing much-needed clarity.
Grygo is the chief content officer for FTF & FTF News.
Among other helpful aspects, the FAQ sheet offers a definition of tokenized securities via distributed ledger technology (DLT), aka blockchains. “Tokenization of securities generally takes one of two forms. In some cases, the token is used to represent an interest in a security that has been issued using traditional processes, such as a central securities depository. In other cases, an issuer may issue the security directly on DLT. This document uses the term ‘tokenized security’ to refer to both types of arrangements,” officials say.
The FAQ sheet tackles the capital treatment of tokenized securities by first explaining that the capital rule for banking organizations implemented by the Office of the Comptroller of the Currency (OCC), the Fed, and the Federal Deposit Insurance Corp. (FDIC) is technology-neutral.
“The technologies used to issue and transact in a security do not generally impact its capital treatment,” officials note. “Accordingly, an eligible tokenized security should be treated in the same manner as the non-tokenized form of the security would be treated under the capital rule. Similarly, a derivative that references an eligible tokenized security should be treated for capital purposes as a derivative that references the non-tokenized form of the security.”
The regulators underscore that “banking organizations holding tokenized securities must apply sound risk-management practices and comply with applicable regulations.”
Another key question is whether a tokenized security can qualify as financial collateral for purposes of the capital rule
“The technologies used to confer legal rights to a security do not impact its ability to meet the definition of ‘financial collateral’ in the capital rule. A banking organization should evaluate the tokenized security according to the definition of ‘financial collateral’ in the capital rule,” according to the FAQ list.
“An eligible tokenized security that satisfies the definition of ‘financial collateral’ would qualify as financial collateral for purposes of the capital rule and may be recognized by the banking organization as a credit risk mitigant if all the other relevant requirements in the capital rule are met. As financial collateral, an eligible tokenized security would be subject to the same haircuts applicable to the non-tokenized form of the security,” officials note.
The FAQ also clarifies that the capital treatment of tokenized securities remains the same whether the tokens are issued on permissioned or permissionless blockchains.
The FAQ-based clarification has met with the approval of the Bank Policy Institute, Futures Industry Association (FIA), Global Blockchain Business Council, Global Digital Finance, Global Financial Markets Association, Institute of International Finance, International Swaps and Derivatives Association (ISDA), and Securities Industry and Financial Markets Association (Sifma). In fact, they issued a rare joint statement.
“Today’s interagency FAQs are a positive first step in providing much-needed clarity for banks seeking to engage in tokenized securities activities. We look forward to further action in the near-term by the U.S. banking agencies to clarify the bank capital treatment of these and other digital asset-related activities. We would note that expedited revisions of the Basel crypto-asset framework that appropriately reflect recent developments in the digital assets market are needed at the global level,” according to the statement.
The FAQs in full can be found here: https://shorturl.at/ETFOn
Need a Reprint?