DeFi for the Securities Industry

Finadium
April 2023

Finadium reports are distributed primarily by subscription. If you are a research subscriber, please log in to download a copy of this report. Otherwise, please contact us at info@finadium.com.

Decentralized Finance (DeFi) is a popular form of financial contracting in the cryptocurrency space. A key attraction is the reduction in transaction costs due to the elimination of intermediaries in favor of an atomic swap of tokens between the counterparties. The benefits of DeFi are driven by code and algorithms that are meant to ensure correct execution and accounting of the trade. However, these same advantages also remove or substantially weaken legal protections and complicate regulatory oversight. Extending DeFi to the securities industry faces these same hurdles.

Commercial and central banks are currently developing protocols that attempt to introduce identity and legal enforcement into DeFi. This takes the technology of DeFi and adds parts of the intermediation necessary to create the regulatory and trust components for an institutional clientele.

The hope is that clients will adopt these platforms to realize the cost savings in trading and post-trade processing while trusting that the mechanics are safe. The end result would be an atomic swap that generates multilateral netting, the conveyance of real-time information to regulators and the ability to provide definitive accounting and transactional reports to counterparties. For trades involving tokenized money and securities, institutional DeFi could potentially replace bilateral and central counterparty (CCP) netting as a better market alternative.

This report provides an overview of DeFi protocols and the approaches being pursued by banks to incorporate DeFi applications in the securities industry. It should be read by business, operations, technology, digital and market structure professionals thinking about how DeFi could improve the securities landscape.

Table of Contents

• Executive Summary
• Defining DeFi
• DeFi Projects and Decentralized Exchanges
• The State of Institutional DeFi
  • – Private Ledgers
  • – Central Bank Digital Currency (CBDC) – the Public Ledger
  • – Convergence Between Private and Public Ledgers
• Can DeFi Replace Central Clearing?
• About the Author
• About Finadium LLC