Lori Jo Underhill is a legal expert who frequently comments on the digital asset space. In a recent publication, she made a case for digital equities which comprise a non-fungible digital asset class. A critical reason, she holds, stems from an unequal economic value across digital equity.
Underhill believes that certain digital assets, to include security tokens which represent unique, serialized ownership shares and rights, constitute non-fungible digital assets.
Prior to delving into the reasons why, it will first be necessary to clarify some terminology.
Definitions of Fungibility and Digital Equity
According to Merriam-Webster, ‘fungible’ is defined as the following:
“being something (such as money or a commodity) of such a nature that one part or quantity may be replaced by another equal part or quantity in paying a debt or settling an account. Oil, wheat, and lumber are fungible commodities, fungible goods, and capable of mutual substitution.”
The SEC has also released a statement of rules concerning derivates which describes how “fungible instruments are standardized as to their material economic terms”.
There have also been several United States case laws where courts have ruled that stock equities are fungible based on their characteristics and material economic terms.
What Underhill pointed out, is that digital equities do not share the same characteristics when it comes to economic value. She went on to define a digital equity as:
“A representation of an ownership interest; whole or fractional, tangible or intangible. A market may or may not exist in consensus for the value of the underlying property. A Digital Equity is difficult or impossible to divide. A Digital Equity is non-fungible. A non-fungible asset is unique in its characteristic as a representation of an asset or item, or the manifestation of one unique and serialized intangible or tangible asset or item. Digital Equities are unique to one another, distinct in character, and not interchangeable.”
Examples of such digital equity include any asset that is indivisible, serialized, or unique, to include unique shares of an entity, ownership in real property, cryptokitties, bonds, shares in financial products, unique artwork, or even jewelry.
How Digital Equity Differs from Incumbent Stock Equity
Underhill has put forth three primary reasons as to why digital equities are distinct from incumbent stock equity:
- Digital equity cannot be held in custody by a third party and be held by the owner.
- Serialization, identity, and authentication rights are an integral, inherent, and fundamental part of the asset.
- Digital assets are typically traded and exchanged in more than one market, are not necessarily held in custody by a third party, and the characteristics and material economic terms of the asset do not have to be equal to another digital asset of the same name or symbol at the same moment in time.
Importantly, a digital equity is inherently distinct from any other digital asset due to its unique ownership, identity, and authentication characteristics. All of these unique qualities, says Underhill, signify a fundamental attribute which is characteristic of digital assets. This, along with the fact that digital equities are not limited to being traded in a single market, create “an unequal material economic value, further supporting a non-fungible legal determination”.
In addition, regulatory bodies whose securities laws apply to numerous jurisdictions require a significant amount of reporting and accountability. Several security token standards have attempted to account for this in varying ways, to include Tokensoft’s ERC-1404 whitelisting, Swarm’s MAP Protocol, and Harbor’s centralized compliance. Still, these measures place certain limitations on ownership eligibility, enforce custodianship rules, and require transparent ownership traceability through KYC and AML regulations.
These requirements, says Underhill, “render the asset non-fungible by the very nature of its lack of agnostic, non-unique, and non-fluid exchangeability”.
What do you think of the case for a non-fungible classification of digital assets according to Lori Jo Underhill? Do you agree with such reasoning? We want to know what you think in the comments section below.
Image courtesy of AltCoin Flow.