The International Capital Market Association (ICMA), which represents financial institutions active in the international capital market, has released a report examining the risk factors associated with digital bond offerings.
ICMA’s report focused on the digital bond offerings launched over the past two years. The report aims to identify possible areas of consensus on risk factors and other disclosures related to blockchain-based bonds.
Despite the potential for blockchain-based debt instruments, affirmed by leading issuers such as the World Bank and the European Investment Bank, the report highlights several risks associated with the offering.
The report highlights technological risks plaguing digital bonds, specifically highlighting the activities of malicious actors, forking public blockchains and “tech immutability.”
It delved into a litany of legal and regulatory risks of using blockchain and the lack of a unified operating framework for blockchain-based debt instruments. According to the report, the bleak prospects of a regulatory turnaround continue to stare investors and other industry players in the face.
Although widely touted to democratize the financial world, digital bonds suffer from liquidity risks due to ‘a lack of public trust’ in blockchain. Other reasons for the liquidity issues facing digital bonds include the inability to incorporate them in certain jurisdictions and the lack of an active trading market for blockchain-based debt instruments.
ICMA reached its position after examining nearly a dozen digital bond offering documents under French, Spanish, Luxembourg and English law.
“Promoting the development of DLT-based bond markets as a reliable source of financing for the real economy is a strategic focus for ICMA,” said Bryan Pascoe, CEO of ICMA. “In an evolving legal and regulatory landscape, our document marks an important step for this emerging market segment.”
A careful look at the offering documents indicates the inclusion of several disclosures, including the type of distributed ledger used in the offering, the role of key intermediaries, business continuity plans, and the environmental implications of the blockchain.
The report suggests that issuers include additional clauses in the offering documents to improve transparency and include targeted investors, choice of applicable law, listing considerations and regulatory sandboxes.
The push for digital bonds
Digital securities issuance has continued to rise since the start of the year as financial regulators embrace digitalization to keep pace with industry innovations. While several countries are shaking up regulations, financial institutions are making big moves in the ecosystem. In September, US investment banking giant Citigroup announced it would offer the world’s first fractional bond exchange.
Brazil, Hong Kong, the United Arab Emirates (UAE) and England are already bracing for widespread adoption of tokenization in financial markets, rolling out public consultation and forging tech partnerships.