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Konstantin Tserazov: The Global Real Estate Conundrum: Can Fintech and Tokenization Offer a Solution?

Understanding the Current Crisis in U.S. and China Real Estate Markets

2024 is characterized by clear strains in the commercial property sphere of the U.S.A. and China. The widespread remote work drastically diminishes the demand for office spaces. In March 2023, the world closely tracked the so-called small banking crisis in the U.S., fueled by problems that emerged in a few regional banks. The key pain point for lending institutions became the loans provided to commercial property developers. An "ideal storm" situation emerged. The quality of collateral for such loans started deteriorating as the bonds began losing their value due to the Fed’s higher rate policy. At the same time, more commercial property became under-occupied by tenants. As a result, a banking crisis has arrived.

The first months of 2024 did not make a significant difference. The fundamentals of the property market remain weak. The low demand for commercial and residential property persists in both the U.S. and China. The defaults of several key developers in China in 2023 failed to streamline the market into a new financially healthy equilibrium.

The significant outflow of foreign direct investments and underperformance of Chinese stocks in 2024 create aggravating factors for the local property market. The inflated prices for residential property in China, compared to the average salaries for locals, are a huge setback for the property market. Moreover, the enormous stimuli provided by financial regulators in China failed to turn the tide. The real estate sentiment index in China hit an all-time low in April 2024.

The environment of elevated interest rates in the U.S. exacerbates the situation in the property market and creates negative spillover effects for residential property as well. The median monthly mortgage payment is up by a mind-blowing 69% since 2021. Meanwhile, the median home sale price is edging again to the all-time high lastly seen in June 2022 at $413,800.

American borrowers face the reality that total homeownership expenses may consume almost half of their monthly incomes. The obvious squeeze on demand in the market for assets typically characterized as low-liquid can bring grim ramifications not only for the largest economy in the world.

The global financial markets are growing nervous. In April, the S&P 500 experienced a 7% correction, leaving the year-to-date growth at several percent. The Japanese Nikkei 225 lost 10.4% from its March peak as U.S. property exposure is a concern for many Japanese banks and insurers. The Chinese indexes followed suit. The troubles in the US and Chinese commercial property market spooked the European stock market too, elevating fears about broader contagion.

The Elegant Solution: Tokenization

These drawbacks in the property markets of two superpowers need an elegant solution. It seems that tokenization of property can be a game-changer. As we know, the leadership of BlackRock, the largest investment company in the world, is very enthusiastic about tokenization for investment goods. Of course, the tokens that embody material goods are very interesting phenomena.

Tokenization is the way to digitally arrange fractional ownership of an asset with a blockchain-based token. These tokens allow us to strike deals with investment goods swiftly.

But tokens are not only a convenient way to interact in markets dealing with virtual “images” of real-world goods. It seems that the potential of tokenization in solving problems in the real market is still undervalued. This tokenization story goes beyond just financial markets' goals.

Out of Classical Options

If one speaks about property markets in the U.S. and China now, we see a real deadlock. The classical methods to fix these markets look irrelevant. The combination of factors described above has made it impossible to revive these markets by simply lowering the rates. The overall demand for goods such as property (commercial and residential) faces a tectonic challenge. The more distant job approach, the negative attitude towards office jobs among many Zoomers, and their pursuit of the idea of being digital nomads roaming around the world add special factors to enhance this challenge.

The Fed in the U.S. is not going to promptly turn to a policy of lower rates. The rise of monthly inflation in March shocked many on Wall Street. The chance of a higher Fed rate is again in play, and the hope for three consecutive rate declines this year has almost faded away. A chilling sense of lost hope for more liquidity has appeared, as commercial property foreclosures in the U.S. jumped 117% in March compared to February.

The market cries for more liquidity, but there is no glimpse of hope that it will be the case in the coming future. Meanwhile, a significant portion of U.S. large banks' balance sheets, about one-seventh, is tied to commercial real estate loans. However, the exposure of American regional banks to these loans is more than triple that figure. Almost all banks have to build up more reserves to mitigate looming losses that could be inflicted by the crippling real estate market.

The poor local demand for property can be offset by growing demand outside the U.S. and China. World retail and institutional investors can gain access to these properties if they are properly tokenized.

What Tokenization Brings

The fintech projects focused on tokenization of real estate can launch financial ecosystems effectively competing with Real Estate Investment Trusts (REITs). Such projects can provide fractionalized ownership and rent distribution when property shares are divided into tokens, enabling ownership and income distribution for a huge number of investors.

Imagine a commercial property worth $10 million. Instead of buying the entire property, investors can purchase tokens that represent a percentage of ownership, such as 0.01%, for example. In essence, property tokens are the basic element of digital token-based mortgages, whose role is slated to be more important for the property market than the classical bank mortgage.

The use of blockchain can also deliver high-level security and transparency of such deals. Smart contracts as part of this process boost transaction efficiency. They simplify property contracts, saving cost and time. Tokenization can take various forms. NFTs are a potential option since it's a convenient way to digitally pack various financial products, including mortgages.

The lack of regulatory validation of smart contracts for real estate deals poses a setback to further tokenization of real estate in many countries. Those countries that make advancements in this direction will get an upper hand in tokenization. They will witness the avalanche of new demand for local real estate appear after smart contracts make obsolete third-party participation to validate contracts. Blockchain effectively can do this job.

The Dawn of New Digital Era

Tokenization is obviously a global fintech trend in the coming years. This is a new big thing. The conversion of assets to tokens on regulated platforms or blockchains is gaining momentum. It’s important to see a fundamental sense in this development and how fintech startups can enhance the value of this process.

The fintech companies in various countries can project around themselves the proper tone of voice of tokenization, creating the ecosystem of valuable financial products atop tokens. Indeed, the property tokens in the U.S. and China floating on the digital waves may unlock the abysmal potential of demand for material square meters.

Ubiquitous tokenized assets and derivatives on tokens become accessible wherever there's internet access. This expands the client base and pours more liquidity into the market. The tokenization arrives in due time when access to classical borrowing and lending is limited not only by the policies of most central banks in the world but by the growing fear of legacy banks of new instabilities in the financial markets, similar to the 2008-2009 world financial crisis.

The development of financial derivatives on tokens will be driven mostly by fintech companies. Thus, these products will create a convenient venue for investors since they will be equipped with options and futures on tokens that will allow them to work out digital hedging investment strategies.

Fintech companies are already effectively developing cross-blockchain infrastructure and create bridges between various distributed ledgers. They also develop decentralized platforms that support token liquidity. Besides, fintech startups create various digital wallets and other necessary elements of digital infrastructure for tokenization.

Actually, we are witnessing the dawn of a new digital era in which tokens creating the demand for material objects are starting to help solve vulnerabilities of stagnated markets. And these markets in the U.S. and China are the best points in the journey of the world investment society to start from, towards a greater degree of tokenization of almost everything in the material world.

Link: Medium

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