Click to learn more about author Gilad David Maayan.
Today’s interconnected world allows companies to operate more easily, and at the same time exposes them to risks derived from their interdependence. As organizations strive to create new value and reduce risk, their systems need to adapt to the new interactions introduced by emerging technologies.
Infusing business networks with blockchain technology allows diverse systems to interact with ease. Blockchain is a word with a lot of buzz nowadays, but what is it? This article explains how blockchain works and how can it help you with asset management.
What is Blockchain?
Blockchain is a distributed ledger used for keeping a permanent and tamper-proof record of transactional data. A blockchain works as a database managed by servers belonging to a peer-to peer network. These computers in the distributed network each keep a copy of the ledger with the goal to prevent a single point of failure (SPOF).
At first, blockchains were associated with digital currencies, but today they are being tested in many industries, with companies using them to create and manage distributed databases and keep records for digital transactions.
How Blockchain Works
Every blockchain ledger has two types of records – individual transactions and blocks. The system creates the first block consisting of a header and data related to transactions taking place within a time period, using the block’s timestamp to create a string called a hash.
The following blocks in the ledger use the previous block’s hash to calculate their own. However, before a new block is added to the chain, the system validates its authenticity by consensus, meaning that the majority of nodes in the network must agree that the new block’s hash was correctly calculated. This ensures that all copies of the distributed ledger share the same state.
Once you add a block to the blockchain, it can be used as a reference for the following blocks, but you cannot change it. The consensus process prevents attempts to disturb the data If someone attempts to swap a block, all the other hashes in the chain also change, sending an alert to other computers in the network that there is a problem, preventing adding new blocks until the disruption is solved.
While blockchain can be used as a database, it doesn’t fare well compared to other databases. Therefore, companies such as Big Chain are taking existing databases and adding blockchain features to them. They primarily work in JSON, which can also work with PostgreSQL, although they are using MongoDB as a base database and adding blockchain features on top of it.
How is Blockchain Applied to Asset Management?
When we talk about digital asset management, the security and resiliency of the transactional data are imperative. This is increasingly difficult to achieve as the transaction channels diversify, with companies managing transactions from a myriad of digital sources, not only traditional bank transfers. There are several ways a blockchain can help you achieve transparency and resiliency of your transactional data:
- Enables Open Collaboration
Blockchain allows you to create a system consisting of the technology and processes of third-party providers and internal systems, revolving around a single source of truth for the asset management activities. This makes adding new partners easier, through transactions managed by the blockchain.
- Creates Asset and Transaction Transparency
Since transactions performed on a blockchain are immutable, this creates an accurate, unchangeable record for asset managers to use, verifying the transactions. Asset management organizations use these records to analyze their performance and risks as part of their planning cycles. This also allows asset managers to share sensitive data such as asset history, with relevant providers and partners in a secure and fluid way.
- Enforces Consistency
This technology assures consistent records, by ensuring that there are no doubts since the block must be verified by the nodes, with a consensus agreed upon. Therefore, it avoids inconsistent data. If it’s not in the blockchain it never happened.
When talking about asset management, or managed financial services, a distributed ledger such as blockchain will disrupt the industry, rendering some intermediary roles obsolete. Blockchain can benefit investment banking by automating back-office processes and regulatory compliance, significantly decreasing transaction settling time, while enhancing transaction security and reducing fraud.
Advantages of Blockchain for Asset Management
Blockchain can be considered as the next trend in asset management. The question that remains is what advantages can blockchain bring to the fintech industry? They include:
- Improved Security
One of the best advantages of blockchain is that it improves data security. By offering an immutable record of all transactions it disrupts the conventional security methodologies. Every block is encrypted before linking it to the others. This minimizes the impact of a data breach by distributing the records across multiple nodes.
Moreover, combined with traditional disaster recovery solutions, blockchain can effectively prevent data loss. An attacker would have to change all data blocks at the same time, which is very difficult to do.
- Improved Operational Efficiency
Replicating a database on multiple servers is not the first thing that comes to mind for improving efficiency. However, the blockchain structure allows the nodes to communicate almost instantly, increasing speed and effectively improving operations.
The nodes don’t even need to send information to one another – when one node updates its own records, the blockchain automatically validates, changes, and updates the records on all other nodes to match it. This distributed structure of blockchain offers a significant increase in speed for B2B transactions, making it suitable for the asset management industry.
Other areas in which the blockchain technology supports the financial industry includes:
- Client onboarding and management
- Facilitating portfolio management
- Speeding clearance processes, ultimately a better option for clearinghouses
- Supporting regulatory compliance
- Automating sales through smart contracts
Challenges of Adopting Blockchain for Asset Management
Despite the numerous advantages that blockchain technology presents to the financial industry, its adoption has been slow. The lack of market familiarity with the technology is one of the reasons.
Other challenges include the incipient regulatory framework and the relatively limited experience of managing large amounts of data. While there haven’t been verifiable data breaches of blockchain backbones to date, there have been deficiencies in the implementation of smart contracts, mostly due to failures in coding.
Therefore, the market is still wary to adopt this database model. However, as blockchain supports the three pillars of the financial market – transparency, speed and security – the future will undoubtedly bring more blockchain applications. This technology is here to stay.