Crypto Race to Tokenize Stocks Raises Investor Protection Flags

A race by crypto companies to sell tokens tied to stocks is raising alarm bells among traditional financial firms and regulatory experts who warn the burgeoning new products pose risks to investors and market stability.

Buoyed by President Donald Trump’s pro-crypto stance and his administration’s push for friendly regulations, the crypto industry is rushing to capitalize on a global wave of enthusiasm for the sector.

Robinhood, Gemini and Kraken, among others, have launched tokenized stocks in Europe, while Coinbase, Robinhood and startup Dinari are seeking approval to launch similar products in the United States. Nasdaq, meanwhile, last month became the first major exchange to propose offering tokenized shares. The industry says tokenized shares – blockchain-based instruments that track traditional shares – could revolutionize stock markets by allowing shares to be traded 24/7 and settled instantly, increasing liquidity and reducing transaction costs. The combined value of tokenized public shares aimed at retail investors grew to $412 million as of September, compared to just a few million dollars 12 months ago, according to tokenization tracker RWA.xyz. Although many products are marketed as stocks, they rarely offer the same rights, disclosures, and protections as traditional stocks. Instead, they are more like riskier derivatives, according to a Reuters survey of several products and interviews with a dozen industry executives and legal experts. That increases the dangers for investors, while tokenization more broadly could undermine market integrity and fragment liquidity if left unsupervised, critics say.

“You buy positions in those stocks by creating a kind of synthetic instrument,” says Diego Ballon Ossio, a partner at law firm Clifford Chance in London. “A lot of the burden falls on you to understand exactly what you’re buying.” A few companies have issued their own experimental stock tokens on the blockchain – software that acts as a shared digital ledger – but most tokenized shares are linked to publicly traded companies and issued by third parties such as Ondo Global Markets and Dinari. Some tokens are backed 1:1 by underlying equities, while others provide economic exposure through derivatives. The industry is divided over which regulations apply to equity tokens, and investor rights and protections vary. Often the products do not offer ownership, voting rights or traditional dividends, while creating counterparty risk for the token issuer.

For example, there are multiple tokens tied to Nvidia and Tesla with a range of structures and terms.

“The fact that different tokenized offerings have different rights and different disclosures… that’s a big concern,” said Gabriel Otte, CEO of Dinari, which provides 1:1 collateral.

Robinhood launched trading in tokens tied to public companies in June and said it plans to offer tokenized shares of private companies. To promote the launch, tokens linked to OpenAI were given away. These tokens are derivative contracts backed by Robinhood’s ownership of fund units in a special purpose vehicle containing convertible OpenAI bonds, according to its terms and conditions. The announcement drew pushback from OpenAI, which said it had not blessed the offering. It also led to scrutiny from Robinhood’s European regulator.

Johann Kerbrat, managing director of Robinhood Crypto, said the company clearly states that its tokens are derivatives.

“It’s just one step forward to have the benefits of no longer having to arrange multiple days,” he added.

Although Robinhood is issuing public company tokens on the blockchain, the transactions on the blockchain have not yet been settled, a spokesperson said.

Gemini declined to comment.

CORE PROTECTION FOR INVESTORS

In Europe, Robinhood, Kraken and others operate under “MiFID” derivatives rules, but some legal experts say the law is insufficient to oversee the new products. Trump’s crypto-friendly chairman of the U.S. Securities and Exchange Commission, Paul Atkins, has indicated that the agency plans to grant potential issuers exemptions from securities rules.

That plan faces opposition from powerful Wall Street players, including Citadel Securities and the Securities Industry and Financial Markets Association, who say such major structural changes should go through a formal regulatory process.

“The fact that a security is represented on blockchain does not change the fundamental investor protections and other provisions applicable to securities,” said Peter Ryan, head of international capital markets at SIFMA.

In a July letter to the SEC, Citadel Securities expressed concern that tokenization would siphon liquidity away from public markets.

Spokespeople for the SEC declined to comment, while Citadel Securities provided no comment beyond the letter.

A spokesperson for the European Securities and Markets Authority, which oversees MiFID, said it was aware of the potential risks of tokenization and was monitoring developments.

The World Federation of Exchanges recently urged regulators to tackle tokenization, citing inadequate investor protection and liquidity fragmentation, although the group told Reuters it supports Nasdaq’s proposal because it would treat tokens like traditional stocks.

Coinbase is also in talks with the SEC about launching tokenized securities that would similarly grant investors the full legal rights and benefits associated with conventional stocks, according to a source familiar with the matter.

Other issuers said they were closely adhering to traditional securities, anti-money laundering, bankruptcy protection and other rules.

Mark Greenberg, Kraken’s Global Head of Consumer, said the company offered the “gold standard,” including 1:1 collateral and investor disclosures, while dismissing derivatives offerings as “IOUs.”

“If done right, tokenization enhances, rather than erodes, investor protection,” said Ian De Bode, Chief Strategy Officer at Ondo Finance.