Ship or Die at Accelerate: Integrating TradFi Into DeFi (Cynthia Lo Bessette, David Lu)

In a groundbreaking discussion at Solana's Accelerate event, Fidelity's Cynthia Lo Bessette unveiled the financial giant's ambitious plans to bridge the gap between traditional finance (TradFi) and decentralized finance (DeFi). This marks a significant step towards institutional adoption of blockchain technology and on-chain capital markets.

Summary

Cynthia Lo Bessette, representing Fidelity, shared insights into the company's decade-long journey in blockchain and digital assets. She highlighted Fidelity's efforts to leverage on-chain capital markets and bring digital asset exposures to their investors. The discussion touched on the stark contrast between crypto's $3.5 trillion market cap and traditional finance's $40 trillion, emphasizing the potential for growth and integration.

The conversation delved into the evolution of settlement times in traditional markets, from T+5 days in 1975 to the current T+1 standard. This progression was compared to the near-instantaneous settlement times possible on blockchain networks like Solana. Bessette emphasized that while speed is crucial, it's not the only factor to consider when moving assets on-chain.

A significant portion of the discussion focused on the concept of trust in financial systems. Bessette explored how blockchain technology could facilitate trustless transactions while maintaining market integrity. She also addressed the challenges of bringing registered securities into on-chain financial markets, highlighting the need for automated verification systems and identity tokens.

The potential for on-chain asset issuance and IPOs was discussed, with Bessette suggesting that native issuance of tokens on-chain might be closer to reality than many think. She cited recent SEC guidance as a positive step towards enabling this future.

Key Points:

Fidelity's Involvement in Blockchain and Digital Assets

Fidelity has been actively researching and working in the blockchain and digital asset space for over a decade. Their journey began with early research in 2014-2015, which eventually led to the launch of their custody business and digital asset management division. The company's goal is to bring digital asset exposures to their investors and leverage on-chain capital markets for new financial opportunities.

Fidelity sees enormous potential in conducting financial activities on-chain, which could lead to more tradable assets across portfolios and new ways to generate yield. They are actively exploring how to construct financial solutions that take advantage of blockchain technology's capabilities.

Evolution of Settlement Times and On-Chain Efficiency

The discussion highlighted the dramatic improvement in settlement times within traditional finance over the past five decades. In 1975, the standard settlement time was T+5 days, meaning a trade executed on Monday would settle the following Monday. This has been compressed to T+1 in the U.S. as of last spring.

However, this progress pales in comparison to the near-instantaneous settlement times possible on blockchain networks like Solana. Bessette emphasized that while speed is crucial, it's not the only factor to consider when moving assets on-chain. The flexibility of blockchain technology allows for calibrating settlement times based on the specific needs of different asset types and transactions.

Trust, Trustlessness, and Market Integrity

A significant portion of the discussion revolved around the concept of trust in financial systems and how blockchain technology introduces a new paradigm of trustlessness. Traditional finance relies heavily on trust between parties, whereas DeFi often operates in a trustless environment, sometimes requiring over-collateralization to mitigate risks.

Bessette explored how blockchain technology could facilitate trustless transactions while maintaining market integrity. She highlighted the potential for smart contracts to encode transaction terms transparently, allowing parties to engage with full knowledge of the conditions. The challenge lies in finding ways to increase efficiency in DeFi transactions without requiring excessive collateralization.

Bringing Registered Securities On-Chain

One of the most intriguing topics discussed was the potential for bringing registered securities into on-chain financial markets. Bessette acknowledged the challenges this presents, particularly in terms of identity verification and KYC (Know Your Customer) standards.

She envisioned a future where automated systems could verify counterparties without requiring the exchange of personal information for every transaction. The development of identity tokens that can demonstrate the provenance of asset ownership and wallet addresses could enable more trustless, automated transactions of registered securities.

On-Chain Asset Issuance and IPOs

Bessette expressed optimism about the future of on-chain asset issuance, including the possibility of conducting IPOs (Initial Public Offerings) on blockchain networks. She suggested that native issuance of tokens on-chain might be closer to reality than many expect.

Recent guidance from the SEC, recognizing the ability of transfer agents to maintain records on-chain, was cited as a significant step forward. This regulatory clarity is expected to help institutional participants build the necessary infrastructure to process digital assets alongside traditional assets.

Facts + Figures

• Fidelity has been researching blockchain and digital assets for over 10 years, starting in 2014-2015
• The crypto market cap is approximately $3.5 trillion, while traditional finance is closer to $40 trillion
• In 1975, the standard settlement time for trades was T+5 days
• As of spring 2023, the U.S. markets have moved to a T+1 settlement cycle
• Solana can achieve settlement times under one second
• The SEC has recently provided guidance allowing transfer agents to maintain records on-chain
• Fidelity launched its digital asset management business about two and a half years ago
• The company sees potential in leveraging on-chain capital markets for new financial opportunities
• Bessette suggests that native issuance of tokens on-chain might be closer to reality than many think
• The integration of traditional finance and DeFi aims to improve access and availability of capital and financial services to more users

Top quotes

1. "We think that there are so many opportunities to be able to conduct financial activities on chain that would ultimately lead to more assets being tradable across portfolios that we manage for our clients and engaging in financial applications on chain to generate yield in new ways."

2. "Today, as of last spring, our markets have now in the U.S. moved to a T plus one settlement cycle and that is over the course of 50 years we've been able to compress that settlement cycle."

3. "Just because you can settle a transaction in T+1 second or T+5 minutes or whatever the block time is, there's a diversity of transactions and asset types across our capital markets and it isn't necessary that we need to move everything at the same exact speed."

4. "The idea of native issuance of tokens on-chain is not as far off as we might think it might be."

5. "How do we adapt to what the financial institutions are also very mindful of from a governance and a regulatory standpoint? I think having that as alongside of all of the benefits is a great place to start."

Questions Answered

What is Fidelity's involvement in blockchain and digital assets?

Fidelity has been actively involved in blockchain and digital assets for over a decade. They began with early research in 2014-2015, which led to the launch of their custody business and digital asset management division. The company aims to bring digital asset exposures to their investors and leverage on-chain capital markets for new financial opportunities. Fidelity sees great potential in conducting financial activities on-chain, which could lead to more tradable assets across portfolios and new ways to generate yield.

How have settlement times evolved in traditional finance, and how does this compare to blockchain settlements?

Settlement times in traditional finance have significantly improved over the past five decades. In 1975, the standard settlement time was T+5 days, meaning a trade executed on Monday would settle the following Monday. As of spring 2023, U.S. markets have moved to a T+1 settlement cycle. However, this still pales in comparison to blockchain networks like Solana, which can achieve settlement times under one second. The flexibility of blockchain technology allows for calibrating settlement times based on the specific needs of different asset types and transactions.

What are the challenges in bringing registered securities on-chain?

Bringing registered securities on-chain presents several challenges, particularly in terms of identity verification and KYC (Know Your Customer) standards. The main obstacle is finding a way to automate the verification of counterparties without requiring the exchange of personal information for every transaction. Bessette envisions a future where identity tokens could demonstrate the provenance of asset ownership and wallet addresses, enabling more trustless, automated transactions of registered securities. Developing such systems while maintaining regulatory compliance and market integrity is a key challenge in this integration.

Is on-chain asset issuance and IPOs a realistic possibility in the near future?

According to Bessette, on-chain asset issuance, including IPOs, might be closer to reality than many expect. Recent guidance from the SEC, recognizing the ability of transfer agents to maintain records on-chain, is seen as a significant step forward. This regulatory clarity is expected to help institutional participants build the necessary infrastructure to process digital assets alongside traditional assets. While there are still challenges to overcome, the groundwork is being laid for native issuance of tokens on-chain, which could revolutionize the way companies raise capital and conduct public offerings.

How can DeFi builders and traditional financial institutions better communicate and collaborate?

To bridge the gap between DeFi builders and traditional financial institutions, Bessette suggests focusing on their shared vision of improving access and availability of capital and financial services to more users. Conversations should address not only the benefits of on-chain solutions but also consider the governance and regulatory concerns of financial institutions. By finding common ground and addressing these concerns together, both sides can work towards integrating traditional finance with DeFi more effectively. Open dialogue and understanding of each other's perspectives are crucial for successful collaboration in this rapidly evolving landscape.