Blockchain Can Streamline and Create Efficiency in the Public Equity Markets

Security Tokens can solve some of today’s issues for publically-traded equities.

I have been in financial technology and operations for over 20 years. I got started as a clerk on the block desk at Lehman Brothers while attending Iona College in NY. I learned a lot about the operations and back-office of Wall Street trading firms. But not until I went to Nasdaq, did I really get to understand how the entire ecosystem worked.

During that time, there were many ECNs that had popped up. These we small, nimble trading pools that acted like exchanges, but weren’t regulated the same way. The NYSE and NASDAQ had some crazy rules that we had to live by as exchanges. One of the most interesting items was the fact that as we built our new trading systems, we had to send out the designs for comments to our competitors. It was the time of exchange deregulation, and something called Regulation NMS and the National Best Bid Offer (NBBO for short). What had happened was prices across these exchanges and ECNs didn’t match, and arbitrage and different forms of pricing, accusations of wash trading, and manipulation were a concern of the regulators (sound familiar?, hmmm… crypto-exchanges). In the end, smart order routing and connecting across the exchanges and ECNs allowed for best execution and the NBBO to exist. The competitive nature of the exchange world changed overnight. With new rules like Sarbanes-Oxley, the Issuer had taken on additional regulatory disclosure burdens in addition to the changes in trading, clearing, and settlement.

Next, I got to learn about companies like Broadridge, DTTC, transfer agencies, proxy solicitors, investor relations firms, etc… The new SOX rules and Regulation Fair Disclosure created an enormous amount of new expense for public companies. We tried to alleviate that problem with more efficient and cost-effective solutions based on technology. At, we tackled the same issue for micro-cap and small-cap issuers and companies utilizing the JOBS act, which was the regulators answer to crowdfunding.

When I went full time into blockchain, like many others, I recognized the impact that the technology could have on illiquid assets and creating viable alternatives to the two sources of funding that possessed secondary markets, equity, and debt. Now, companies could create dividend only or profit sharing securities that didn’t require equity. In addition, the company could also create a token that was usable to purchase products and services, in addition to the dividend. This is a game changer and we’re in the early stages of this revolutionary change in the capital markets.

For the purposes in this blog, my introduction is to provide some background as to how I reached the idea for a new protocol called Equity X (“EQX”). The EQX is an infrastructure for security tokens and public equity that could use the blockchain to establish more efficient and effective ways of dealing with equity transfer, disclosures, trading restrictions and settlement of these public equities and security tokens.

One of the most important areas of focus for regulators is on the executives, founders, and insiders of a company. Most fraud cases and cases against ICOs are focused on these activities. In addition, exchanges face scrutiny as they are “ECNs” without licenses. The EQX Protocol idea is focused on solving these issues that are reliant on the enforcement and watchful eye of regulators to monitor. My proposal moves the watchful eye from people to technology and creates a fair and efficient approach to managing the restrictions for insiders in companies.

EQX Equity Protocol

Restricted Equity Token and Wallets for Insiders, Affiliates and Executives

Problem 1: Insiders and executives of public companies have restrictions on their equity that involve multiple filings, time restrictions, best practices (such as 10b5–1 selling plans). They are also allowed to borrow against restricted and unrestricted equities, can grant, and also purchase equities in a company affiliated with the insider. The sale and purchase of these equities from insiders have an impact on market perceptions of the company. For example, if an insider sells, especially the chief executive, it could create a perception of low-confidence or that the company has peaked in value. In addition, transfer agencies and restriction policies are still controlled with the transfer agent having tremendous power in the decision, as well as, the need for attorney opinion letters to lift restrictions. The concern and limitation are that in some cases, the stock has been transferred in a corrupt or fraudulent way.

Solution 1:

The EQX Equity Security Token has been developed to solve these issues. The EQX will be built with smart contracts with the necessary information, policies and shareholder information embedded into the security itself. A Class EQX equity will be created for all insiders and the EQX.O will be used for Employee stock option programs. EQX Tokens will be structured and have a UI/Admin for each Company with a security and the Company’s transfer agent to manage the capital table and restrictions. Every change to the capital table including restrictions, trading volume formula, proxy votes, Black-Scholes formula, 105–1 selling plans and EDGAR Filings, etc.. will be embeddable into the token(s), and all changes will be recorded onto the Company’s EQX blockchain, creating a complete audit trail of every trade, shareholder, holdings, vote record, shareholder proposals, etc….

  1. The EQX token can be locked for 6-months or more, based on the executive’s employment agreement and Section 16 regulations. The insider token will not be tradable.

  2. Once the lock-up period has ended, the EQX token will become live for trading and selling based on the laws of the regulator in said country. In the US, the affiliate cannot sell more than 1% of total shares held by that individual each month. These caps would be built into the security through an easily assigned interface or pre-programmed at the creation of the EQX token for said Company.

  3. The executive may choose to use a 10B5–1 selling contract that associated with the exchange and allows the equity to trade based on limitations of price, time, selling windows, and other regulatory or policy items. Further limiting any perception of insider trading for the executive.

  4. EDGAR Filings will be automatic. The Form 144, Form 4, and other internal and external filings including 8k can be automatically created by the selling or buying event.

  5. Purchasing securities of the affiliate company on the open market by the executive will also be tracked through the token. If it enters and insider’s wallet, a filing is created and automatically submitted to EDGAR.

  6. Personalized restrictions for the EQX token that are specific to the insider, affiliate, and executive will be conducted through the wallet. Only those specific identified EQX tokens will be allowed to sit in said wallet.

  7. Institutional Holdings: Funds or shareholders that acquire more than 10% of a public company are required to file a form 13D. The EQX token will automatically create and file the form with EDGAR and send a copy to the fund.

  8. Institutions also have to file a 13F which provides information on the holding of the company. These filings are required at the end of the quarter and are usually dated information and rely on the compliance of the filing fund. With the EQX token, that will be removed, since every share is tracked, each fund will be part of a special whitelist and a purchase will trigger the proper filings without the need to rely on the fund to file.

Problem 2:

Trading and liquidity is a challenge for Equities and ALT Coins:

Currently, 80% of the equities traded on exchanges are not liquid
80% of ALT coins are not liquid and have too many fragmented exchanges trading them 24/7.
24/7 exchanges pose risk and volatility in the tokens they list

  • price swings

  • lack of liquidity due to trading being 24/7

  • fragmented markets, price and latency challenges

  • Best price and execution a challenge

Solution 2:

EQX Smart Equity tokens have the ability to specify trading times.

  1. The token is transferable only during trading hours. The smart contract can make it impossible for off-hours trading transactions, or limit the transactions to a percentage of total holdings in a wallet. So as not to move the market or create off-hours trading that isn’t registered.

  2. The gas and latency for trading tokens can be specified to trade at times when the blockchain isn’t as busy. Use trading block times to specify when certain tokens trade, creating a more efficient, and managed market.

  3. Trading of tokens can also adjust over time as liquidity becomes less of a factor and volatility reached nominal levels, creating an efficient market for all security tokens, securities, and utility tokens.

  4. The tokens will be locked during off trading hours and will have an open and close.

  5. Auction markets can be created for specific offerings, limiting an auction to 5 hours will have an effect on the market.

  6. Tokens can also be dormant, so after initial ICO and auction, the hold on all tokens can last for months or weeks. Then creating an open when the token utility goes live.

  7. Trading Halts: Automatic trading halts can be implemented via smart contracts if the trading price volatility moves more than an agreed and voted proof of stake proxy vote that set a “circuit breaker” within the token smart contracts.

  8. No Naked Shorts: Since every token equity is tracked, the lending of equity for shorting will be one-to-one, eliminating naked short selling completely.

  9. FIX Protocol: In order to create efficient markets, we have an opportunity to connect these markets globally and create a Global Best Bid Offer (GBBO). Exchanges and Markets in Crypto and STOs should connect via smart order routing via a FIX protocol (currently used in the capital markets) or something similar. The GBBO will allow for more transparency, greater liquidity, and best-execution for investors.

There are many other facets and trading economies that will require additional research and testing. The concept is to provide equities and other assets an efficient and proper market with rules and regulations built within the tokens themselves. All secured on a blockchain, reducing the risk of illegal practices.

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