With the rising acceptance of blockchain technologies and digital assets, the financial services industry’s digital transformation has gained steam in recent years. Nonetheless, as the Finance 4.0 age progresses, there is an increasing desire to access and provide a full range of digital goods and services in addition to conventional ones. This implies that a dual strategy is required.
The case for the “old” and “new”
Many proponents of decentralisation think that the existing model of centralised financial services will be obsolete before you know it because it stifles innovation and democratisation through excessive control. However, despite the embrace of newer technologies and cloud enablement in recent years, the financial services sector remains highly reliant on sophisticated legacy infrastructure that has been in place for decades.
Supporters of total decentralisation also fail to see that prudent regulation and good standards protect investors while also fostering trust and confidence. This increasing trust will foster an atmosphere in which more people transition from off-chain to on-chain, resulting in greater democratisation and financial inclusion.
The ‘old’ isn’t going away anytime soon, but the ‘new’ has a lot to offer, and if used correctly, blockchain-enabled digital assets will be transformative for financial markets. Even if this does not result in the “digitization of everything,” it will certainly result in the “digitization of many things.”
The march of technological advancement is unavoidable. During the Industrial Revolution in England, Bristol engineer Joseph Glass invented the chimney cleaning machine. Initially, estate owners expressed strong opposition, claiming that a human could do it better. However, they were young children working in dangerous settings. As a consequence of technical advancement, an Act was established in 1840 prohibiting youngsters from working in this trade. Despite initial significant opposition, technology has led to a better means of achieving things. This is still true over 200 years later, regardless of the technology or its aim.
For the foreseeable future, the ‘old’ and the ‘new’ will have to cohabit through hybrid solutions (conventional and digital), as buy side institutions, banks, brokers, exchanges, and other capital players progressively use digital assets as part of their digital transformation plan.
Coexistence in peace or total disruption?
Nobody should be surprised by the necessity for cohabitation. The first email was sent in 1971, and AOL and Hotmail followed in 1992 and 1996, respectively. There was paper mail before email, and now there is instant messaging. However, all three of these forms continue to exist, even though the level of activity in each has altered through time. Bitcoin was initially introduced in 2009. There has been significant advancement in the crypto and digital asset industry over the last 12 years, yet centralised banking institutions will still exist in a decade’s time.
The main problem is to optimise how Centralized Finance (CeFi) and Decentralized Finance (DeFi) will meet within a regulated framework in order to allow the convergence of traditional and digital asset activities.
The merging of CeFi and DeFi results in HyFi
The financial market and digital asset infrastructure must become interoperable in order to allow the coexistence of centralised and decentralised technology-enabled firms.
Institutional investors want exposure to digital assets in the same way they want exposure to traditional asset classes. However, digital asset interoperability and speed to market remain a hurdle for them, due to the substantial fragmentation of traditional and different forms of blockchain-enabled digital asset infrastructure.
A big thumbs up for the digital assets. The Path to HyFi
Integration with what they presently do is critical. To overcome these challenges and gain better efficiency in digital asset facilitation, financial institutions must optimise digital asset infrastructure in a safe and scalable manner using cloud-enabled microservices and a hybrid distributed hub approach.
A hybrid market infrastructure method will be created by integrating private ledgers and public blockchains with traditional market infrastructure. This will allow digital assets to be mirrored within financial organisations’ traditional trading and post-trade systems utilising the same interface standards as traditional assets, as well as link them to the breadth of service providers required to trade and settle digital assets.
Capital market participants such as banks, asset managers, brokers, exchanges, post-trade operators, and service providers will use hybrid solutions to connect their private ledgers to digital asset markets.
A hybrid distributed hub concept can also help with the following use cases:
- Connecting conventional and digital asset custody by numerous custodians to a varied variety of digital trading choices across brokers and exchanges, with familiar interfaces for easy integration;
- Creating new hybrid products with liquidity and finance advantages, as well as the facilitation of new income sources;
- Processing digital asset exchanges in a manner comparable to traditional assets in order to:
Allow for a unified picture of all traditional and digital assets and positions (net asset value – NAV) across several trading platforms.
Perform asset management, including real-time netting and settlement, as well as the reuse of traditional and digital assets;
Furthermore, a hybrid distributed hub approach is particularly energy efficient since it uses less energy through continuous asset movement on public blockchains. It may be optimised so that activity – in terms of public and private blockchains – is used as efficiently as possible, which means a company’s carbon footprint will decrease over time.
The major question will be how to adapt legislation, which was built for a centralised society, to an increasingly hybrid environment (centralized and decentralized). As a result, policymakers and regulators must take a mixed strategy to successfully control HyFi.
To allow Hybrid Finance, financial market infrastructure and digital asset infrastructure must gradually become interoperable, as well as integrate and grow into hybrid market infrastructure (HyFi).
This hybrid strategy allows financial market participants to connect their traditional systems to digital assets internationally, with nearly any type of participant, anywhere in the globe, across countries.
