In-depth interpretation of RWA: the "seamline" between the encrypted world and the traditional world

Foreword: DeFi is slowly expanding the business boundaries of cryptocurrencies and having an impact in the real world. RWA (Real-World Assets), regarded as the next growth engine of DeFi, is heating up in the encryption world, and there seems to be a hint of DeFi Summer in 2020. In addition to Binance, large traditional financial institutions such as Goldman Sachs, Hamilton Lane, and Siemens, and leading DeFi protocols such as MakerDAO and Aave are all competing to deploy on the RWA track.

01**. What is ****RWA? **

The full name of RWA is the value tokenization of real world assets (real world assets-tokenization), which is the process of converting the ownership value (and any related rights) in tangible or intangible assets into digital tokens. This enables the digital ownership, transfer and storage of assets without a central intermediary, and the value is mapped to the blockchain and traded. RWA can be tangible or intangible assets.

This sounds unremarkable, let’s look at a few figures: the total value of global real estate is 360 trillion dollars, and the value of fixed income bonds is 127 trillion dollars. However, the total market value of the currency circle is only 1.18 trillion dollars. If real assets are successfully uploaded to the chain one after another, their market potential will be immeasurable.

In fact, RWA is not a new concept. Since the birth of the blockchain, discussions on the tokenization of real-world assets such as real estate, commodities, private equity and credit, bonds and artworks have been frequent, and many conceptual projects have appeared one after another, but none of them have caused too many splashes.

Among them, the BTM Bytom Chain of "assets on the chain" is regarded as the earliest RWA project. But the early bird may not get the worm. Currently, the most successful RWAs are the digital dollars USDT and USDC, which map the U.S. dollar to the chain and tokenize it. Stablecoins have subtly affected the entire encryption industry and have become an important cornerstone.

Recently, a research report released by Citigroup predicts that by 2030, there will be 4 trillion to 5 trillion US dollars of tokenized digital securities, and the trade finance transaction volume based on distributed ledger technology will also reach 1 trillion US dollars. .

Many traditional financial institutions and business giants are highly favored by RWA, which has become a trend!

02**. Why is RWA getting so much attention? **

The root cause is that the continued sluggish yield of DeFi cannot meet the growing demand for income from crypto users.

As we all know, during the DeFi Summer period, the high yield of the bull market can meet the income needs of crypto investors. However, after experiencing major market shocks and a continuous bull market, the TVL of DeFi has dropped by more than 70% from the high point in December 2021, and the yield of DeFi has fallen to the bottom. DeFi protocols or crypto investors need a new revenue growth channel.

With the Fed continuing to raise interest rates, the yield of investing in U.S. bonds is much higher than that of DeFi agreements. The general yield of old DeFi protocols such as Curve, Aave, and Compound has fallen from the highest over 10% to 0.1-2%, while the yield of U.S. bonds has increased from 0.3 to 5%. The latter also does not pose as many protocol security risks as the former.

In addition, in the long run, the story of RWA connecting traditional finance and encrypted finance does bring a lot of room for imagination.

The real assets of traditional finance such as real estate and non-financial corporate debt markets are huge trillion-scale markets. If DeFi is compatible with it, users can obtain greater liquidity, capital efficiency, and investment opportunities.

At the same time, traditional finance also has many pain points such as high entry barriers, many intermediaries, and many restrictions. For example, the investment capital of private equity funds generally requires more than 500,000 US dollars, and real estate investment also requires expensive capital support. It is almost impossible for ordinary investors to enter the market , In addition, it also faces the risk of not low fees from intermediary agencies, regulatory agencies restricting entry, and assets in third-party systems. The design of RWA can also solve some pain points of traditional finance, and has the potential to attract more investors into DeFi.

Obviously, RWA helps expand the market size of DeFi, and also helps traditional financial institutions explore new business models. The top DeFi protocols have an active layout for RWA, and some traditional financial institutions are also very interested in RWA.

RWA lowers the barriers between TradFi and DeFi, and the way of tokenization attracts more traditional funds into the DeFi market, adds more types of assets available to the DeFi market, and promotes the interoperability between traditional finance and the encryption industry . At the same time, RWA reduces the cost of financial transactions, avoids complex intermediaries and handling fees, and breaks geographical restrictions, allowing assets to circulate globally, forming a faster and simpler transaction system.

03**. How exactly does RWA work****? **

As mentioned above, RWA is the tokenization of real-world assets under the chain, so it is very important to clarify how asset ownership and asset value are converted between the physical world and the digital world, that is, how to interpret RWA as a legal representation of real-world assets. The process of tokenizing real-world assets, that is, RWA, is divided into three stages: (1) off-chain packaging; (2) data on-chain; (3) RWA protocol demand and supply.

(1) Off-Chain Formalization

To bring real-world assets into DeFi, the assets must first be packaged off-chain to make them compliant, so as to clarify the value of assets, asset ownership, legal protection of asset rights, etc.

Representation of Economic Value: The economic value of an asset can be represented by the asset's fair market value in traditional financial markets, recent performance data, physical condition, or any other economic indicator.

Ownership & Legitimacy of Title: Ownership of an asset can be established by deed, mortgage, note or any other form.

Legal Backing: In cases involving changes in ownership or interests affecting assets, there should be a clear resolution process, which typically includes specific legal procedures for asset liquidation, dispute resolution, and enforcement.

(2) Data on-chain (Information Bridging)

Next, the information about the economic value and ownership and rights and interests of the asset is brought to the chain after digitization and stored in the distributed ledger of the blockchain.

Tokenization: After the information packaged in the off-chain stage is digitized, it is uploaded to the chain and represented by the metadata in the digital token. These metadata can be accessed through the blockchain, and the economic value and ownership and rights of assets are completely open and transparent. Different asset classes can correspond to different DeFi protocol standards.

Regulatory Technology/Securitization: For assets that need to be regulated or regarded as securities, assets can be included in DeFi in a legal and compliant manner. These regulations include, but are not limited to, licenses for issuing security tokens, KYC/AML/CTF, listing exchange compliance requirements, etc.

Oracle (Oracle): For RWA, to refer to external data in the real world to accurately describe the value of assets, such as stock RWA, you need to access the performance data of the stock, etc. However, since the blockchain cannot directly centralize external data to the blockchain, an oracle such as PlugChain is needed to connect the data on the chain with the data of real-world information to provide off-chain data to the DeFi protocol. asset value data.

(3) RWA Protocol Demand and Supply (RWA Protocol Demand and Supply)

RWA-focused DeFi protocols drive the entire process of tokenizing real-world assets. On the supply side, DeFi protocols oversee the formation of RWA. On the demand side, DeFi protocols have contributed to investors' demand for RWA. In this way, most DeFi protocols that specialize in RWA can serve as both a starting point for the formation of RWA and a market for the final product of RWA.

04**.RWA has two sides****: **opportunities and risks

Despite the many benefits of RWA, only compliant RWA can continue to grow at scale. The biggest criticism of USDT at present is the superficial centralization, and the core assets are still opaque. How to put real assets on the chain, how to ensure the authenticity and legality of assets while on the chain, and prevent money laundering and other illegal activities are the problems that RWA needs to solve. This will also involve various legal, regulatory and technical requirements.

It should be noted that at present, the overall market size of real estate projects in RWA is very small, with insufficient liquidity and poor mechanism transparency, which requires the intervention of large centralized entities for endorsement and supervision. Overall acceptance is poor. The main reason is that physical assets need to be strictly regulated, and the project party also needs to perform complicated operations on the ownership of assets.

In short, the RWA track is still in a very early stage and still needs to wait for the gradual improvement of supervision and infrastructure. However, the RWA narrative still has huge growth potential. While linked to real assets, it may also introduce more traditional users into the DeFi and Web3 world, truly reshaping the crypto market.

Conclusion: RWA's asset types are diversified. Although it provides investors with more possibilities for diversification of investment, the relevant financial supervision may indeed inappropriately infringe on the interests of investors. At the same time, it is basically impossible to introduce the regulatory rules of RWA in the next few years, and the regulatory environment is uncertain, which needs to be observed for a period of time.