In this second installment of the series, the DwellFi team aims to delve deeper into the advantages of tokenizing a fund. The often-cited benefits of increased liquidity and inclusivity are only the tip of the iceberg.
Hackernoon recently conducted a noteworthy analysis of the challenges faced by General Partners (GPs) and Limited Partners (LPs) when investing in private markets. The report highlights the long time horizons, information asymmetry, illiquidity, and trust issues that GPs and LPs face when raising capital for new funds. In fact, with the traditional J-curve model of private market investment, it’s no wonder that David Sacks, the founding COO of PayPal, believes that tokenization is the future of LP ownership in funds, considering illiquidity a soon-to-be competitive disadvantage in private market investment. Despite the potential resistance from established firms that Sacks predicts, we find that the trend of tokenizing equity has gained momentum since 2017, with early players in venture capital such as Blockchain Capital, SPiCE VC, and even prestige firms like Andreessen Horowitz entering the space. Tokenization has taken a larger hold in private equity with KKR, Apollo, Hamilton Lane, and Partners Group all “seeking to raise money through ‘tokenized’ funds.”
Tokenization solves several alignment issues commonly encountered in long-term private market investments. With the ability to sell stakes on secondary markets created through tokenization, LPs have more flexibility in committing capital for extended periods. This enables fund managers to take risks that align with their investment thesis and portfolio strategy, without being constrained by the preferences of LPs. Furthermore, the creation of fully-functional secondary markets through tokenization attracts a wider pool of investors and capital, simplifies global investor management through blockchain technology, and levels the playing field in the traditionally exclusive world of private market investment.
To conclude, the trend of tokenizing equity in private market investments has gained traction, with larger funds embracing the benefits beyond increased liquidity. While most who back tokenization focus on the pure liquidity benefits — opening themselves up to refutation from VCs like Jeff Bussgang — tokenization not only improves alignment between LPs and GPs, but also enables fund managers to take on more risk and streamlines partner management through the use of blockchain.