On October 1st SEC Chairman Jay Clayton spoke with Brian Brooks, Acting Comptroller of the Currency at a virtual event organized by the Digital Chamber of Commerce. He spoke about how he believed all securities would eventually become tokenized using blockchain technology:

“If you talk about trading today, all trading is electronic. Our exchanges have gone electronic. Every trade you do… it gets routed through an electronic algorithm executed electronically. That was not the case 20 years ago. It may very well be the case that just as you had stock certificates and now you have entries, digital entries for representing stock. It may very well be the case that those all become tokenized.”

Twenty years ago, I was working at the forefront of algorithmic trading. Today, I am working at the forefront of tokenized securities. So, let me tell you a story about what it was like in electronic/algorithmic trading 20 years ago:

In 2000, my first job on Wall Street was at a company called ITG. My job was to sell algorithmic trading solutions to hedge funds and institutional asset managers. ITG had a big first mover advantage as they had developed a developed a trading platform called QuantEx — which stood for Quantitative Execution. QuantEx was built on top of an operating language that only ran on Unix. So, to use QuantEx, you had to have a Unix workstation.

The first challenge was selling the product. The only way to demo it was on a Unix computer and no customers had Unix. Also, there was no Webex, or Zoom, or screen-sharing of any kind. There were a few Unix laptops on the market when I got into the business, but my colleague before me used to schlep around NYC dragging a Sun SparcStation, monitor and keyboard in a trolley behind him so he could do demos. His nickname was, and still is, “The Mule”.

When a client signed up, we had to order the physical hardware for them, and have it shipped to their location. We’d then travel to their office to set up and install QuantEx. The public internet was too slow and unreliable so we would also have to order a dedicated “T1 line”. This was a physical cable that the telco connected from the nearest access point to the clients offices. One client in rural Indiana was too remote to get a T1 line installed so he had satellite connectivity. Latency under the best of circumstances would have been over a second, but likely a lot more. Today, latency is measured in millionths of a second.

The algorithmic trading strategies themselves, although cutting edge at the time, were also pretty basic. For example, many algos would follow a generic schedule based off historical data. Modern algos today are optimized in real time on a stock by stock basis incorporating sophisticated models of volume, volatility and liquidity.

Sometimes an electronic order wasn’t even fully electronic — it could get picked up by a human and traded manually at the exchange or market making desk.

Stocks were traded in fractions not decimals. So, the minimum price increment for a stock was 1/16 of a dollar. This meant that the spread between best bid and offer was at least 6.25 cents and often 12.5 cents or more. This resulted in much wider spreads and higher costs to investors.

While I was lucky to be working at one of the most advanced firms on the street that embraced the technology, the same could not be said for most of the industry. My peers at investment banks would face stiff resistance from the established desks and were prevented from selling into the most lucrative accounts. The New York Stock Exchange — the epitome of trading on Wall Street — was one of the most ardent defenders of the ‘old way’ of doing things, favoring the ‘specialist’ system where each security would have a human trader on the floor assigned to make markets exclusively. The NYSE is still characterized by the glorious trading floor, which makes a great backdrop for journalists reporting on the market, but most trading actually takes place in data centers 30 miles away in Mahwah, New Jersey.

Despite all this, electronic trading was still a big improvement over what came before it. Adoption increased significantly from 2000 onwards driven by competition from firms such as ITG, Archipelago, Instinet, Island and Flextrade. Technologies such as FIX protocol, Order Management Systems, and broadband connectivity would make it easier and easier for firms to integrate algorithmic trading into their workflow. And changes in market structure such as decimalization and colocation would help bring down costs and improve performance.

Trading is now many times cheaper and more efficient than 20 years ago, and as Chairman Clayton noted, electronic trading is the norm.

The same will come to pass for digital securities. Tokenization using blockchain is a better technology that can deliver improved transparency, streamlined workflows, faster settlement and lower costs. We face many challenges just as electronic trading did 20 years ago: blockchain is not well understood or accepted today; established players and even regulators are resistant to change; certain market participants such as digital custodians have not yet emerged; and workflows and user interfaces can be clunky and unintuitive for many people.

There are lots of smart people and great companies like Texture Capital innovating in the tokenized securities space such as Arca Labs, Archax, Securitize, Securrency, TokenSoft, tZero, Vertalo and many others, while advocates such as the Digital Chamber of Commerce and the Wall Street Blockchain Alliance are driving the industry forward. Right now we are focused on the foundational layers of a tokenized security market — token issuance, compliance, trading, integration with legacy systems and each other. Soon, the industry will begin harnessing the creative ideas occurring in DeFi right now, followed by further innovations we haven’t even thought of yet.

And in 20 years, a future Chairman of the SEC will be reminiscing about a time when securities weren’t tokenized.

The first step is the hardest… that’s how the saying goes. As someone who has just made that first step, I very much hope it is true. And from where I am right now, I see a lot of very big steps ahead of me on this journey.

I have just resigned from arguably the best job I ever had. It was definitely the most rewarding in terms of the intellectual freedom I had in my research, the team camaraderie, and the exposure to the leading companies in fintech and finance. It is fair to say that I would not be making this step if it hadn’t been for my time at Greenwich Associates where I consulted with key decision makers at market leading companies and disruptive startups, performed deep dive analysis on the competitive dynamics in financial markets, and explored the applications of new technologies.

It is a big step to take, but I’ve been developing an idea in my head for a while now and I decided it was time to stop thinking about it and start executing. I have also, I confess, had a bit of an entrepreneurial bug in me for most of my career.

Starting my own company wasn’t something I really thought of when I first began my career. I have always been ambitious but figured my path to success would be up the corporate ladder. My perspective changed shortly after moving to New York however. Back then I was working at a company that built quantitative investing technology. That meant that I had a lot of tools available to me, and I figured out an investment strategy that seemed to have really good backtested performance numbers. I told a colleague about it, and his response surprised me. He suggested we take the model, improve on it, and launch our own hedge fund.

It was then that I realized there was something different about America. Such an entrepreneurial attitude! We were 26, just a few years out of college, and had no right to be having such aspirations. I knew immediately I would not have had such a conversation back in the UK… and this was a big reason why I decided to continue my career in the US.

The hedge fund idea fizzled out, but a spark remained.

A few years later I was presented with an opportunity to join a startup and I jumped at it. The company, Miletus Trading was at the forefront of innovation in the trading space, building algorithms to help institutional investors improve trade performance. Today that is how nearly all trading is done, but back then it was cutting edge. We achieved great success, attracting the attention of numerous other companies and were ultimately acquired by Liquidnet a few years later, as they sought to expand their product offering. It was a tremendous journey and launched my entrepreneurial spirit in full motion.

As the trading space matured over the next several years I became restless and began looking for the next opportunity. Fortunately for me I discovered bitcoin and realized immediately it was a transformative technology and decided to pivot my career in that direction. For the last 5 years I have been working in the crypto and blockchain space as a trader, advisor and analyst, while continuing my focus on equity markets.

So here I am, making the transition from corporate life to startup founder. As you can tell, I’ve got a few years’ of experience under my belt, but in case you’re thinking I’m too old to start a company at 45, let me point you to a recent HBR study that identified the sweet spot for successful startup founders to be… 45.

I would not be taking this hard step if I did not truly believe in what we are doing. I have found a once in a lifetime opportunity to revolutionize market structure at the intersection of regulated securities markets, blockchain technology and crypto. I intend to grab it with both hands.

As I continue on this journey I look forward to sharing more details about my company, and how we intend to redefine the texture of markets. Please keep in touch.

Richard Johnson

https://medium.com/@_richjohnson

https://www.linkedin.com/in/johnsonricharde/

https://texture.capital/

In my last post, I discussed two of the leading altcoins — Ethereum and Ethereum Classic. In this note I will be discussing another two altcoins, XRP and Zcash, whose underlying technology and structure have meaningful applications for financial services.

Ripple — XRP

Ripple was one of the first blockchain companies to be founded seeking to leverage distributed ledger technology to solve financial services use cases. With a particular focus is on global payments, Ripple has signed up a large number of banks and financial institutions. Their payments solution is multi-faceted, including a distributed ledger shared among all network participants, an inter-ledger protocol to enable transactions outside of the Ripple network and XRP, the digital currency native to the Ripple ledger.

Today, cross-border payments mostly occur via a hub-and-spoke model. To move money from point A to point B, it will need to pass through at least one hub. The more stops along the way, the more frictional costs will be incurred. There are also capital costs associated with global payments, as banks need to maintain funds (called nostro accounts) in each country in anticipation of payments transactions.

Ripple’s vision is that XRP can be used to address these issues: With liquid XRP currency pairs traded globally, it can potentially enable point-to-point payments transactions at lower cost to the hub-and-spoke model. Additionally, this type of transaction will not require prefunding of nostro accounts, reducing capital costs.

Zcash — ZEC

Zcash is a relatively new kid on the blockchain, having been launched less than a year ago. Like Bitcoin, Zcash is an open-source cryptocurrency designed for payments transactions. However, it incorporates some unique technology and functionality that provide strong privacy protections. With the bitcoin blockchain, there is a complete historical record of all bitcoin transactions associated with every address. Transactions in Zcash, however, are published to its blockchain but the sender, recipient and amount of a transaction remain private.

Zcash does this by leveraging a new type of zero-knowledge cryptography called zkSNARKs. Zero-knowledge cryptography, as the name suggests, allows one party to prove to another that something is true without revealing any other information. This type of functionality appeals to banks and financial institutions that wish to leverage blockchain technology but are concerned about privacy and confidentiality.

In May 2017, J.P. Morgan and Zcash announced a partnership whereby they would work to integrate Zcash’s zero-knowledge security technology into J.P. Morgan’s Ethereum-based Quorum project. The price of Zcash tripled on announcement of this news — even though partnership is related to the Zcash technology and not the Zcash coin.

For much of the last 2–3 years all the talk and all the hype has been about blockchain. Bitcoin and cryptocurrencies faded into the background as people dismissed them as unworkable for financial services. The evolution of the space over the last two years has demonstrated the potential of this asset class and further innovation will continue to drive cryptocurrencies towards mainstream acceptance.

There are now over 800 different crytpocurrencies out there, and it would not be possible to describe them all. In this blog series I discussed four of the leading altcoins which have unique characteristics that are already having an impact on financial services and markets. Perhaps one of them will even dethrone bitcoin as the leading cryptocurrency.

In my next blog, I will be diving into a branch of the crypto space known variously as ICOs, tokens, cryptoassets, or blockchain assets.

Right from the outset there were imitators and copycats. The Bitcoin code is open source so it has been relatively easy for clever software developers to take the code, modify it, release a new coin and then sit back and hope the value of the coin appreciates and makes them rich. Most of the alternative cryptocurrencies — or altcoins as they are known — are exactly that: third rate knock-offs akin to a pump and dump scheme for their creators.

However, there are many other cryptocurrencies that have a unique, differentiated value proposition and have the potential to support transformative business models. In this blog I will briefly discuss some of these leading altcoins.

Ethereum

Ethereum was first proposed in 2013 by a 19 year old cryptocurrency enthusiast named Vitalik Buterin. Like Bitcoin, Ethereum was designed to be an open source blockchain with a cryptocurrency token called Ether, with transactions verified by a distributed network of computer nodes (miners). In contrast to Bitcoin however, Ethereum was designed with integrated smart contract functionality, and it could allow for users to create separate private (permissioned) networks which are currently being utilized in financial services and other industries. Ethereum is sometimes called a virtual computer, as anyone can write applications and access the distributed computing power of the network. In return for hosting the decentralized application, providing computing power, storage and transaction validation fees are paid in amounts of Ether. In addition, Ethereum allows for developers to launch their own token that can power applications built on the blockchain. I will be discussing these more in a future blog.

In March 2017 the creation of the Enterprise Ethereum Alliance (EEA) was announced which now includes 150 members who are collaborating to develop open source applications and standards that can support their common interests. The creation of the EEA was likely a catalyst to the appreciation of the value of Ether as it signaled broad corporate support for the Ethereum blockchain. However, it should be noted that the EEA is focused on permissioned blockchain applications which do not require the Ether cryptocurrency to operate.

Ethereum Classic

The first decentralized application to be built was called the DAO (short for Decentralized Autonomous Organization). This made headlines when it was hacked shortly after its launch dealing a brutal reputational hit to Ethereum and the nascent blockchain/cryptocurrency space. In an attempt to salvage the standing of Ethereum, Buterin and a small group of other core developers decided to roll back the Ethereum blockchain to erase the actions of the DAO hacker. Effectively they forked the code to create a new version of the Ethereum blockchain in which the hack had not taken place.

However, the other fork continued to exist and came to be known as Ethereum classic. Many people thought Ethereum Classic would quickly fade away as most of the community accepted the newer hard-forked version of Ethereum. However, for some in the community the Ethereum fork violated a core principle — the immutability of blockchains. As such it has developed a loyal community of supporters and is now the 5th largest cryptocurrency. Grayscale Investments, which manages a Bitcoin Investment Trust listed on OTC Markets has also launched a closed end Ethereum Classic Investment Trust”.

In my next blog I will be discussing XRP and ZCASH…