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Blockchain benefits in trading

by AITradingApril 30th, 2018

Too Long; Didn't Read

Blockchain was originally invented in 2008, by Satoshi Nakamoto, a name of fantasy used to represent either an individual or a group of people — the real identity still remains unknown. The original purpose was to create an accounting method for Bitcoin, the virtual currency that was going to be launched in 2009. In the past ten years, however, the <a href="https://hackernoon.com/blockchain/home" target="_blank">blockchain technology</a> has developed into something greater than expected, as it is being used and explored in a wide variety of other sectors and is rapidly disrupting industries such as healthcare, shipping and energy.

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Blockchain was originally invented in 2008, by Satoshi Nakamoto, a name of fantasy used to represent either an individual or a group of people — the real identity still remains unknown. The original purpose was to create an accounting method for Bitcoin, the virtual currency that was going to be launched in 2009. In the past ten years, however, the blockchain technology has developed into something greater than expected, as it is being used and explored in a wide variety of other sectors and is rapidly disrupting industries such as healthcare, shipping and energy.

“Today, blockchain might seem like a trinket for computer geeks. But once widely adopted, it will transform the world,” wrote Ginni Rometty, CEO of IBM, on the Wall Street Journal, at the end of 2016.

A blockchain is a decentralized, digitalized and distributed cloud-based public ledger of all transactions, which uses the proof of concept method to verify each transaction — a complex mathematical equation, that takes considerable time and energy for even the smartest computers to solve.

The idea behind this is that each information exchange is unique and verifiable. In the blockchain, information moves between several nodes as it departs from the sender of the information to the recipient. Each node only knows where the information came from and where it is going, making all transactions complete secure, untraceable and private. Every time information goes from one node to the next, the proof of concept algorithm must be executed, thus ensuring the integrity of the information travelling on the blockchain. This process is what assures the validity of each transaction.

“Put simply, blockchain technology is a method of recording and confirming transactions where instead of a centralized platform, participants each hold a complete record of transactions through peer to peer verification of transactions”, say Adrian Lee and KiHoon Hong, respectively senior lecturer in finance and assistant professor at the University of Technology, Sydney.

Being a decentralized system, blockchain allows the parties involved to establish any kind of agreement without the necessity of any middleman, including lawyers, public accountants, notaries, government institutions, civil servants or any other party needed to attest to the information’s integrity. All that is needed is a smart contract: a set of codes that will help both sides exchange money or other values in a transparent, secure and trustable way (as described above, where the information goes from node to node using the proof of concept to validate the flow). As the intermediaries’ oversight and intervention get minimized, the costs related to them also reduce, and in some cases they even get eliminated.

Because blockchain offers the possibility to regulate self-executing and self-verifying transactions and allows the parties to cut down intermediaries such as clearing houses, this technology has been particularly useful in the financial industry, contributing in the trading activity in particular.

Prableen Bajpai, founder and managing partner of FinFix Research and Analytics, wrote for Nasdaq, in June 2017, that “the functioning of stock exchanges involves complex procedures that can be time consuming, cost inefficient, cumbersome, and prone to risks”. For this reason, this environment offers blockchain the opportunity to prove “its potential ability to streamline the process” and a lot of money and resources are being invested to see how this technology can be leveraged in this sense, especially by Nasdaq and the US stock exchange itself.

The first application of blockchain in trading was seen in May of 2015, when Nasdaq launched Linq, a blockchain private trading platform that would allow private companies to digitally represent their share ownership, even though they are not listed on a stock exchange. The system managed to successfully complete and record a private-securities transaction to a private investor and, since then, blockchain has been featuring several other projects not only by Nasdaq, that has teamed up with banks like Citi and SEB to develop new payment solutions and mutual-fund trading platforms, but also by other stock exchanges across the world. Still in 2015 ASX started to evaluate CHESS replacing options and, two years later, selected an American blockchain startup to develop distributed ledger based solutions for clearing and settling trades. In November 2016, instead, Deutsche Börse and Deutsche Bundesbank presented a prototype for the blockchain technology based settlement of securities.

The blockchain functions through a viable bookkeeping system and can register every transaction, denying the possibility of changing and deleting any of them. Once the parties involved agree on the validity of a specific movement, this “block” of operations is secured in the system and cannot be removed. This guarantees that the data will not be manipulated or modified by any means; it will just be impossible to duplicate, erase or fake information, as they will be recorded in a permanent way.

“Think of blockchain as the new internet and the new trust protocol. If information is available with everyone, no one needs an authority to stamp authenticity”, writes Team Koinex, on the blog Medium. This metaphor has been used quite often and appears to be realistic, also considering the wade applicability that blockchain has. For this aspect of the system, many experts also like to explain blockchain starting by making a comparison between this technology and Google Docs, that allows every part involved to make trackable changes.

Blockchain data is accurate, timely, complete, consistent and easily accessible. Essentially, the blockchain technology greatly simplifies not only the trading in stocks, but also in other securities, by speeding up the processes, increasing the traceability of their provenance and facilitating the availability of the records. The technology has the potential to offer brokers a solution for reducing significantly the amount of time that occurs between when an investor’s order is placed and when money and securities are actually exchanged. Not to mention that the risks related to trading will be greatly minimized.

The blockchain technology is able to track and monitor in real time any movement and operation. The traditional ways of verifying transactions become unnecessary, as, if suspicious or abnormal movements may occur, the network would be able to block it and report it to the parties, assuring the safety of the system and the robustness of the platform.

Today, stock trading requires the following procedures:

Order placing to either buy or sale of certain number of securities for a specified price
Order execution as per requirements
Contract note preparation by the broker
Delivery and clearing of shares
Settlement of the securities

The new digitalized operations could replace a lot of paperwork and inefficiencies. The power can be brought back in the parties’ hands, and this can automatize the process, reduce inefficiencies, democratize the trading activity and prevent frauds, that have been a sensitive issue in the past. Trades can be settled by peer confirmation — Way easier, right?