Imagine you're interested in buying a high-value piece of artwork, like Frida Kahlo's "Self Portrait with Monkey." In order to buy this piece of art, you are required to take significant financial risks, do loads of paperwork, and interact with many complex procedures to ensure the transaction is complete.

What if there was a solution that not only simplifies these logistics but also offers a fractional ownership model – which would allow an individual to buy a percentage of an asset as if it were like a stock – making it more accessible to a wider audience?

What Are RWAs?

Real World Assets (RWAs) are digital representations of tangible and intangible assets like real estate (tangible), government bonds (intangible), or even fine art (tangible), tokenized and brought onto blockchain platforms.

This process of bringing an off-chain asset – or an asset that lives in the real world – into DeFi (Decentralized Finance) is called tokenization, turning an object with monetary value into a token that can be traded on the blockchain.

This transformative technology not only allows for the facilitation of swift “one-click” purchases of real-world assets but also introduces a groundbreaking concept - the fractionalization of real things. With RWAs, the ownership of a high-value artwork can be divided into digital tokens, allowing multiple investors to collectively own a piece of the masterpiece. This fractional ownership model democratizes access to valuable assets that were once reserved for a privileged few, revolutionizing the way we interact with, invest in, and trade real-world assets within the realm of DeFi.

How do RWAs work?

Asset Verification

Tokenizing Real World Assets (RWAs) involves a process that can be broken down into three broad steps. First, the formulation of the asset that is going to be tokenized begins with the verification of the asset's monetary value, its ownership, and its legal status. This step ensures that the asset in question is genuine, correctly valued, and free from legal holds.

Data Integration

Once the off-chain details are established, the second step, data integration, comes into play. This step involves the actual tokenization process and incorporates regulatory compliance measures – making sure the law is followed – and the integration of oracles – which allow the blockchain, which is its own network, to interact with the internet and real-world data. Oracles play a vital role in ensuring that the digital representation of the RWA remains accurate and responsive to external changes.

Tokenomics Creation

Finally, the third step entails creating the tokenomics of the RWA. Here, the fractional ownership model and governance structures are defined, allowing for the division of ownership among multiple investors and the establishment of rules for decision-making regarding the asset. The tokenomics also outlines how rewards, fees, and voting mechanisms will operate within the ecosystem, adding a layer of transparency and economic incentive to the tokenized asset.

The Benefits of Tokenization

Tokenization of real-world assets (RWAs) offers several advantages, particularly in terms of liquidity, fractionalization, and simplification of the purchasing process. In traditional financial systems, assets are often illiquid, for example, buying a house. When buying or selling a house it takes weeks to make anything happen. This illiquidity makes it challenging for individuals to access the value of their house, their art, or their assets when needed. Tokenizing RWAs fixes this problem, as these assets can be easily traded on blockchain platforms, providing asset holders with more flexibility and control over their investments.

Fractionalization is another significant benefit of RWA tokenization. It enables the division of assets into smaller, more affordable portions, making it easier for a broader range of investors to participate in these markets. This not only provides more liquidity to the market as more and more people can join in, but also tears down the financial barrier for those who maybe cannot afford to buy such an expensive asset.

Moreover, the purchasing process becomes more straightforward and efficient through tokenization. Traditional financial systems, where most transactions still occur on paper, involve complex intermediaries, leading to delays and additional costs. In contrast, blockchain-based DeFi systems streamline the process, reducing the need for middlemen and facilitating direct peer-to-peer transactions. This simplification not only adds security by reducing the risk of errors and fraud associated with paper-based records but also leads to cost savings and quicker settlement times, ultimately benefiting asset holders by reducing barriers to entry and enhancing the overall efficiency of asset management and trading.

Real Estate RWA’s

In the realm of Real World Assets (RWA), the real estate sector is relatively small but has been growing. Real estate has traditionally been one of the most valuable assets globally, but it has also been among the most challenging to access for the average investor. RWA protocols, like the ones showcased below, offer a bridge between traditional finance and the decentralized world of DeFi. They empower investors by allowing them to hold fractional shares in real estate properties, allowing those previously unable to invest to now be able to. Platforms like RealT, Tangible, Lofty AI, and ELYFI Protocol have embarked on the journey to democratize real estate ownership and investment. Here is a description of their structures and their success:

RealT:

• Structure: RealT is a pioneering DeFi platform that specializes in fractional ownership of U.S. real estate properties. They tokenize shares in an LLC (Limited Liability Company) – basically, just a company that holds property deeds under the ERC-20 standard.

• Excluding two properties, 65 properties showed an average increase of 22.59% in property value, with exceptional appreciations such as (+109.68%), (+74.44%), (+36.36%),(+34.00%), (+33.77%). On average, RealToken prices have increased by 8.10%.

Tangible:

• Structure: Tangible operates an ecosystem for tokenized RWAs. Users can purchase physical goods using Real USD, which is backed by real estate – the company is guaranteeing that it can be traded for the value of the real estate. Upon purchase, Tangible issues a TNFT (Tangible non-fungible token) representing the physical item.

• (5820 + 4280)/ 72061 = 14% 

Lofty AI:

• Structure: Lofty AI operates on the Algorand blockchain, allowing individuals to invest in real estate with a minimum investment of $50. They use AI and market indicators to vet properties and offer low fees.

• Success: By connecting buyers and sellers through tokenization, they have made it easier for individuals to become real estate owners. Their transparency, including publicly available property data, enhances trust in the platform. Also, Lofty AI raised a total of $5M in funding over 8 rounds.

ELYFI Protocol:

• Structure: ELYFI Protocol focuses on bridging traditional finance with blockchain solutions. They tokenize real-world assets, starting with residential real estate. Borrowers can access loans backed by these tokenized assets.

• Success: “ELYFI has operated a total of 82 loan-to-value real estate products. Between Q3 2021 and Q1 2023, the platform has facilitated 64 loans, totaling $8,267,391 in investments.”

Downside:

Most of these companies struggle with the same problem that decentralization is compromised when a centralized entity is involved with the estimate of the value of the RWA.

A lot of these projects have struggled and some have even failed due to the legal challenges that they face. In essence, because there is currently no streamlined way for these projects to get all of their legal set-up and to have enough liquidity to succeed, many projects have struggled. However, some of the ones that have succeeded look to grow a lot in the upcoming years.

Wrap Up

RWAs have been the fastest-growing category of assets in DeFi in 2023, nearly doubling the total locked value (TVL) – or the amount of value that is staked. The higher the TVL, the more trustworthy the asset is perceived to be – from $1.44 billion to $2.5 billion.

Real-estate RWAs, one of the slowest growing categories, have grown 102% in value in the past year.

The few examples given above are just the beginning of the real estate market of RWAs, and more and more markets will open as time goes on. Though there are a lot of skeptics who talk about the forgoing of decentralization in the evaluation of the RWA, security will only get tighter and tighter as time goes on and the industry grows.

Now, I am just a random college student researching this for a newsletter, so don’t take this as reputable advice, but I do believe in a bigger presence of RWAs in the crypto space as most of the recent adopters of this industry are crypto-natives – or people who have been in crypto for a long time – as opposed to new-comers. There also have been signs of traditional finance companies wanting to get a piece of the pie that is RWAs, which would be huge for its growth. I personally think this is just the beginning, and in the future, I think that more people will make more RWA projects, which will allow for more trial and error and help improve problems with the system. I think RWAs will become more regulated and securitized, allowing more investors to feel safe in the space. And finally, I think that, as stated before, RWAs will interact with TradFi (Traditional Finance), which will allow for broader adoption.

Hoping your crypto portfolio is as diversified as are my memes!

Best crypto wishes,

Arnold Naggar