Blockchain – Use Cases in Capital Markets | HCL Blogs

Mapping the Terrain – A Blockchain Interpretation of Capital Markets

Mapping the Terrain – A Blockchain Interpretation of Capital Markets
April 11, 2017

Blockchain has been taking the digital world by storm. With some myriad applications from real estate to financial transactions, the term refers to the process of creating a ‘chain of blocks’ – within which a series of encrypted transactions are embedded, creating a ‘ledger’ of transactions. The entities (individuals or interfaces, as the case may be) responsible for creating a block are called nodes.

It is essential to understand that a block once added to the existing chain is permanently accessible – to be shared/available for use by other nodes. Moreover, every node must adhere to specific storage standards for transaction data and have a complete copy of the data. This consolidated record forms the ‘distributed ledger’. 

Several rules define how nodes can exchange Blockchain information, and mathematical rules – unanimously determined by all nodes involved – control the integrity of data. This ensures that all transactions are validated and no valid transaction can be added more than once. Security is further fortified via cryptography – implemented through a combination of public and private keys. The relevant nodes verify the transactions to avoid double accounting.

In addition, access to the Blockchain network can be classified as either permissioned or permission-less –  in the first scenario, only certain entities can function as nodes and gain access to the Blockchain network. On the other hand, permission-less Blockchain technology adds a measure of flexibility. With no restriction on who can perform the role of the node, validating the transactions and adding the instructions to the ledger becomes a more open process.

The Blockchain’s dynamic capabilities make it all the more appealing – with a provision to add automated, programmable outcomes based on an event. For instance, payment can be triggered if the interest payment date has been reached for a particular bond. Within the world of Fintech, therefore, the technology can be leveraged in multiple ways – here are three crucial use cases that illustrate the power of Blockchain.

Blockchain’s dynamic capabilities make it appealing – with a provision to add automated, programmable outcomes

Use case 1 – Simplifying equity settlement with a Blockchain-based network

Once investors have posted the orders to the trading venue, the orders are matched and the trades are sent to the Blockchain network for validation and addition to the ledger. The differentiating factor is that the transaction is validated by brokers on both sides – marking the transactions as “settled” and making ledger additions without further disputes.

Besides enabling the use of bitcoin, Blockchain also stores a holistic settled transaction history for related equities, along with the cash and securities ledger. Brokers, trading venue, and depository can be key stakeholders – checking incoming transactions with parameters like eligibility, position checks, KYC, and so on. The system is supplemented by a regulator node, with overarching access and rights akin to the oversight function.

The technology also performs a preemptive role – avoiding ‘double spend’ issue where a duplicate transaction might be sent to the system at the same time. With a consensus-based verification model, the latest state of the ledger can be isolated and only one transaction is accepted if two with the same details arrive simultaneously.

Alongside access to bitcoin, Blockchain network is restricted only to key stakeholders within a particular settlement. In fact, this boosts transaction throughput – currently, one of the main drawbacks plaguing Blockchain technology in its present form. 

How will the Broker or Dealer be impacted?

All the brokers can actively contribute to the final settlement – performing asset availability checks and eliminating transaction rerouting needs through a specific clearing member.  However, as the transactions are settled in the gross format rather than net, it may create intra-day liquidity pressure.

On the other hand, this can be offset by a reduction in collateral pressure. Regulatory reporting pressure is also significantly eased as the regulator now gets better access to the ledger details – till the end investor level.

Use case 2 – Decentralizing asset ledgers within an enterprise

The typical centralized asset ledger offers a few inherent advantages – like maintaining a single version of truth and a single point of control. Yet, there are certain crucial impediments, such as over-dependence on a monolithic system. A distributed asset ledger can significantly lessen reconciliation effort, as in the case of cross-border transactions.

Asset ledgers can be decentralized through the implementation of the Blockchain technology. Internal systems form geography-agnostic nodes – validating inbound transactions for eligibility. Since only internal systems are allowed to be part of the Blockchain, the need for additional security features is minimized. This leads to a decrease in operational costs for running the Blockchain network, while increasing the speed of transaction processing.

How will the asset custodian respond?

With the shift to a distributed ledger, a custodian will be able to drive efficiency by performing as a global custodian –  this is because the global as well the local custodian is consolidated in a single ledger. Further, it will provide a real-time, across-the-world view of risk exposures for proprietary/client trades.  Finally, it will reduce redundancies in trade processing functions – such as multiple layers of validation or enrichment– once at the global and again at the local custodian level.

Use case 3 – Integrating documentation frameworks within an enterprise

In a dynamic and constantly expanding regulatory landscape, the cost of upkeep for key documents keeps soaring in tandem – for storing signed documents and sharing them with key stakeholders, both internal and external. In a Blockchain-enabled scenario, all documents can be contained within a ledger and tagged to the key parties or signatories involved, for easy retrieval.

It is important to note that these nodes can be internal or external – therefore, an advanced cryptographic system needs to be in place to ensure secure transportation of documents between parties. Only certified nodes can post documents for addition within a Blockchain network or arrive at the new state of ledger through a common consensus, to avoid posting the same document again. Access to the documents will be further regulated via advanced encryption tools.

How can a bank’s KYC and document management systems benefit?

Since the documents are centralized at the group level, it will reduce the cost of performing KYC checks. Duplication of KYC functions can be avoided – especially when a client of one subsidiary tries to avail services from another subsidiary. Finally, maintaining the documents in digitally accessible e-form ensures faster retrieval when compared to manual processes.


Use Case 1: Oliver Wyman report on Blockchain – Blockchain-In-Capital-Markets

Use Case 3: Very High level inputs from news regarding Mizuho and CTS