Beyond the Buzz: Finding an Accurate Outlook for Blockchain in Capital Markets

Beyond the Buzz: Finding an Accurate Outlook for Blockchain in Capital Markets

Roundtable discussion hosted by The Realization Group, led by Ascendant Strategy on 7th February, 2019.

Blockchain and DLT technology have been two of the industry’s biggest buzzwords for the past three years. Yet despite the numerous proofs of concept that have been launched since then, more have fallen by the wayside than been successfully implemented. In a bid to establish a true picture of how DLT technology might be able to transform existing market structures and processes, The Realization Group’s roundtable event brought together a range of industry experts to explore the challenges and potential uses of this new technology from the point of view of the banks, vendors and global regulators.

Moderated by Mike O’Hara, the event opened with an overview from James Maxfield, Managing Director at Ascendant Strategy. According to Maxfield, his firm is often asked by organisations about the value of DLT and blockchain and how seriously they should be looking at this technology, if they should be actively talking to vendors and custodians or trying to develop solutions in-house – or if they need not bother. As a result, he hoped that the roundtable would prompt a more practical discussion around the potential of the POCs that are currently underway and to explore some of these integration challenges in a bid to assess how these solutions could be accessed and used effectively in a capital markets environment.

His colleague Ali Rutherford agreed, but added that he believed the problem was more of a change management challenge than a technology and integration one. Rutherford explained that he also does not currently see the levels of investment, cooperation and planning in place currently that would enable financial institutions to effectively adopt DLT solutions. “It is unlikely to ever happen, unless something radical happens like a regulatory mandate to use DLT. An organic evolution in these markets will take centuries and I struggle to see the ‘blockchain Nirvana’ being realised in our generation, or the next,” he said.

However, one participant who worked with a consortium of banks said his project had concluded that tokenisation will happen, but that it won’t get very far without a means of payment. Their idea is instead to create a central bank-backed coin that is the equivalent to a dollar, a euro etc., which they believe will be a big enabler to all tokenisation projects. “People do believe in tokenisation and we will use the blockchain to tokenise assets,” he explained. “One positive side effect is it creates an opportunity to have one pot of money on blockchain which will also remove the need for different accounts.”

Fit for purpose?

The discussion then highlighted that the whole idea of blockchain is that it is a public, independent service and not maintained by members of a club. According to one contributor, if firms want to form a consortium then they were free to do so, but they did not need blockchain technology in order to do it. Instead, those firms could have replaced a lot of the redundant processing and reconciliations without blockchain, the participant added.

The roundtable agreed that there was also lingering confusion around the terminology used, with DLT and blockchain often used interchangeably. According to one definition, DLT represents a shared database, as opposed to blockchain, which is not a relational database. It is also not something you would design for a private ecosystem or for capital markets, according to one participant. “Some elements of blockchain technology are useful, but you wouldn’t use the blockchain itself. DLT was a terminology invented by the capital markets industry to steer it in its own direction,” he added.

In addition, although many initiatives are focused on reducing costs and capital for banks, some argued that in reality the regulators are not necessarily interested in saving banks money. However, as one participant highlighted, the regulators actually are worried that the demand for correspondent banking is going up, but the availability of correspondent banking is going down because of the credit risk involved in cross border payments. “If credit dries up, then all these markets will be in a mess,” he added. “Central bank digital currency is seen as a possible solution for settlement.”

Infrastructure issues

Two participants from leading banks also noted that if there wasn’t such a huge problem with legacy systems and processes, then the industry would not need to be looking at DLT solutions. Even so, one participant warned that you would have to be mad to think that blockchain “really is the second coming”. He explained that unwinding all the legacy technology amassed in the last 45 years is hard, and any solution has to be able to interface with the legacy stack. But in reality, around 80% of all the financing for blockchain and DLT projects has now stopped because it is unable to do that and does not deliver a lot of value in its own right.

Maxfield concluded the session by observing that where there is a clear, market driven POC then that concept can be quite powerful. “If we look back to two years ago, 2017, the world moved to daily exchange in variation margin. It was a massive pain point for the industry,” he explained. “If we had a DLT settlements system, things may be have been different.”

Rutherford agreed, adding that many of these problems occur because there is no structured data. Yet if the industry properly invested in solving these core problems, then firms could more easily adopt other technologies such as DLT. “In three to five years’ time, if we don’t sort out these market structure issues and costs we are all out of the game. But the solution needs to be more tactical,” he said. “We are most likely going to benefit from the transformational thinking that DLT has prompted, rather than the technology itself.”