Blockchain is the underlying technology that will bring about the next-generation internet: a transition from a web of information exchange to a web of value exchange. Blockchain technology is increasingly considered a disruptor to the status quo across industries, and the wealth management industry is no different. Cryptocurrencies are the first real-world use case of blockchain technology, and their rise over the past decade has sparked increasing debate about how this new asset class might alter the current financial and economic structures of society.
Blockchain is important to the wealth management industry because of two important capabilities. First, they can act as a digital wrapper around any asset; and second, they allow the exchange of those assets on decentralized networks.
There are also two reasons why the decentralized exchange of digital assets is vital for wealth management. Firstly, because these exchanges are distributed, they have strong potential to disintermediate many centralized business processes within the financial services industry. Secondly, cryptocurrencies have ushered in a new asset class and Initial Coin Offerings (ICOs) have allowed investors to invest in this asset class without using the banking system.
This has opened up new paradigms of resource allocation: investors can participate in a global exchange of assets outside conventional structures, where stocks and other financial instruments trade on centralized exchanges under the supervision of centralized authorities and geography-specific regulations.
Technological impact of blockchain
Today, the wealth management industry is running on business models and processes fabricated on decades-old technologies. These legacy systems and processes often result in costly data maintenance and pose severe threats to client-related sensitive data,transactional data and the institution’s reputation with clients and regulators. A leak of such data can lead to hefty monetary fines and the loss of customer trust. Additionally, many legacy systems are not flexible enough to implement new workflows as per market needs.
Blockchain technology’s underlying ingredients including decentralization, consensus, immutability, and faster/cheaper transactions can revamp existing business models to make business transactions more fluid than ever.
Blockchain technology can improve an institution’s service quality for a range of processes such as client onboarding, asset transactions, and portfolio management. Blockchain brings a whole range of use cases built for real-time settlement models, exchange of money and value, KYC processes, automated investing, and rebalancing of portfolios based on smart contracts. Blockchain technology is gaining traction in the industry from both the client side and regulatory bodies as well. Clients are curious about the new asset class built on this technology, and regulators are interested in embracing this technology for broader purposes, ranging from improving interbank financial transactions to regulatory reporting.
What technological leapfrogs has blockchain made over current technology (i.e., Web 2.0)? The existing Web 2.0 primarily evolved on the Open Systems Interconnection model (OSI). In this model, where the network layer and data layer are separate, organizations started working on data structures (data layer) long before TCP/IP protocols (network layer) evolved, and later kept building on top of the new network protocols. The architecture then eventually grew with dependencies on a client-server model, which required more layers of security to be built on top of it.
Taking an OSI view, blockchain essentially combines the data layer, the transport of information and cryptographic elements in a single concept: Distributed Ledger Technology (DLT). In a Web 2.0 network, centralized authorities maintain data ledgers and dissipate to participants. On a blockchain network, the data is distributed across various nodes and consumed as per rules defined in the protocol. This storage and distribution of data has implications in the way techno-social systems can restructure organizations, government functions and peer-to-peer exchange.
The blockchain is a secure transaction ledger database that is shared by all parties participating in an established, distributed network of computers.
Let us define blockchain again in its simplest form:
The blockchain is a secure transaction ledger database that is shared by all parties participating in an established, distributed network of computers. It records and stores every transaction that occurs in the nodes, substantially eliminating the need for “trusted” intermediaries.