Most of the public things of derivatives as a negative. To be honest, they have gotten a bad rap.
This stems from Warren Buffett's "weapons of mass destruction" statement when talking about MBS and CDOs during the Great Financial Crisis. Certainly, that situation proved how dangerous derivatives can be.
When used for leverage, they can become toxic. Of course, Wall Street keeps pumping more out, offering financialization in areas that it is perhaps not warranted.
That said, we cannot paint all derivatives with the same brush. There are many which work in reverse. Instead of providing leverage, they are actually a hedge against certain market moves.
In addition, leverage is something that is of enormous benefit, when used properly. The best example is a mortgage. When someone buys a home, a mortgage is effectively leveraging the holdings of the purchaser by allowing entry into the house for a small portion of the total sales price.
Hence we can see the value in this. If not for leverage, few would own a home.
Real World Assets (RWA) have the ability to take an already large market and send it skyrocketing.
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RWA Will Explode The Market Cap Of Derivatives
RWA can be confusing. This stems from the fact there are a couple ways which these can be designed.
The first is where the token is actually backed by the asset. This is what Galaxy Digital is doing. It is effectively offering some of its stock on-chain.
An extension of this is done by firms such as Blackrock. Akin to their ETFs, they purchase the underlying asset and then tokenize it on a public blockchain. There was a fund it set up with US Treasuries, backing each token with this asset.
Then we have derivatives. These are not actually backed by the asset. Instead, it is tied to the asset in some way, commonly the price movement, in an effort to capture it. The backing might be from some other asset or could simply be "naked".
When we look at stocks, options are a prime example of this. They are not actually backed by the underlying stock although shares must be "sold" to set the option up. This asset is giving people the right to buy (or sell) the stock at a pre-determined price.
That said, the option can expire worthless. It does not have to be exercised, meaning the originator can hold onto the stock.
Option prices will tend to move in conjunction with the stock. The rate of price change, however, will differ.
Tokenized Stocks
I will use stocks as the example for tokenization. That said, this can apply to any asset.
With stock tokenization, we look to the alternatives above. As mentioned Galaxy is offering tokenized versions of its stock.
I foresee a time when major Wall Street firm gain approval to custody stocks and offer direct, tokenized versions. For now, my guess is they can do this with institutions. At some point, they will be offered to the general public.
A third selection is part of the DeFi world. Here is where derivatives are created.
Unlike the stock itself, the owner has no rights to either income or equity in the company. Options follow this in the sense the holder cannot exercise any rights on the stock until it is acquired.
The explosiveness of RWAs is in the numbers that can be created. Just like derivatives, there is the potential to keep building. Here is where the crypto market is going to ultimately move into the quadrillions.
We could end up with hundreds of versions of tokenized stocks. Some might be backed by the stock itself (or a tokenized form of the shares) whereas most could be derivatives.
DeFi offers the potential for these offerings. Many companies could get on the bandwagon, bringing out their own tokens. We will likely see a lot of experimentation, looking to better hold the pace of change of the underlying asset (stock).
In this sense, most firms could operate like investment banks. Regulation will naturally push the centralized exchanges only to deal with that which is approved. Decentralized exchanges (and peer-to-peer trading) will offer these other choices to those via public chains.
The main denomination going forward with crypto will be trillions. All the billions in assets that are rolled out, both through Wall Street and under DeFi, is certain to add up.
Once layering starts, total market caps will explode.
Posted Using INLEO