In his interview with Forbes, the Chairman of the National Settlement Depository's Executive Board Eddie Astanin spoke about the value of blockchain for the stock market, the reasons why businesses and the state spend billions on blockchain research, the vulnerabilities of blockchain technology and the price one has to pay for the love of innovations.
National Settlement Depository (NSD), the entity responsible for safekeeping all assets on the Russian stock market, has tested blockchain technology for use in e-voting and is prepared to implement it. NSD's CEO is confident that FinTech is the driver of business development and transformation, it is sort of stimulating agent. "We believe that FinTech will transform the business models of many companies, whether in the retail sector, banking or market infrastructure, including the CSD", Mr Astanin said. However, NSD's CEO cautioned that it would be an oversimplification to think that blockchain will replace the traditional systems.
The word 'blockchain' is repeated like a mantra even by government officials. In March this year, Prime Minister Dmitry Medvedev instructed the Ministry of Telecommunications and Mass Media (Minkomsvyaz) and the Ministry of Economic Development of Russia to explore the possibility of using blockchain to reduce bureaucracy. You have tested the technology. What benefits can it bring to the economy as a whole?
There are several reasons. One of them is the fashion, trend, and general fascination with FinTech. The information storage and exchange technology underpinning cryptocurrencies attracts by its undiscovered possibilities. It is expected that the implementation of blockchain will result in lower costs and an increased speed and reliability of settlement and exchange of information exchange. As a matter of fact, all these attributes of blockchain are well-fitted for dealing with national-scope issues.
Regulators and cryptocurrency exchanges are beginning to see cryptocurrencies as an asset, and settlement systems are being created with "currency IPOs" as an alternative to "classical IPOs". That is to say, a parallel world is emerging. At present, assets traded on the traditional financial market are worth trillions of dollars, whereas in cryptocurrencies these amounts reach tens of billions of dollars. The figures are still incommensurable. But the question is what comes next? When will the activities move to the cryptocurrency domain, if at all? What effect will it have on the market infrastructure: is it to be seen as a threat or new possibilities? In order to answer these questions, you need to be deeply involved in FinTech. We are specifically dealing with it now and see more possibilities than threats for ourselves.
Our shareholders want us to be a driving force for change. If we see that the new technology will benefit our clients, we will be prepared to develop it and negotiate with the regulator on updating the legislation.
Take, for example, the corporate actions reform and the transition of corporate actions to the electronic format and STP (straight through processing) regime for the entire business chain: from investors to the CSD to registrars to issuers. On 26 May 2017, at Sberbank's AGM, investors were offered a new product, e-voting on the platform of NSD, which was used by one third of Sberbank's shareholders.
Our experience suggests that possibilities offered by blockchain technology may help NSD solve certain issues, but they will not entirely replace the key technologies. So far, we are developing blockchain-based e-voting systems for bondholders' meetings. To think that blockchain will completely replace the traditional systems would be an oversimplification and, based on our experience, an error. But everybody is attracted by the term 'reliability', which is one of the key features associated with this technology: information cannot be intentionally corrupted, and it is impossible to steal something.
How can blockchain technology be used for shareholder meetings?
The technology helps minimise the risk that the meeting results will be tampered with. Unfortunately, there have been violations and unfair practices surrounding general meetings. A paper can be lost, it can be declared invalid because it is signed or stamped in the wrong place, etc. This might result in a shareholder's participation being invalidated. Blockchain technology is guaranteed to create a register which will be recognised by the entire network without disclosing data: the system will ascertain that the total number of votes is equal to the number of participants, that not a single vote is lost, and that there are no duplicate votes.
And what about confidentiality?
Such issue does exist. The classical blockchain technology is based on the principle "everyone knows everything about transactions in the network", and this guarantees the reliability of transactions (collective verification). In business, it is not that way. Most market participants are competitors, and they are not prepared to share information about their operations. For that reason, private blockchain networks are created. We are among the first ones to have used zero knowledge proof in corporate systems, thus ensuring confidentiality of information, and we are the only entity to have done it for an open-source system.
Software developers say that any system can be hacked and tampered with.
As far as I know, blockchain is tamper-proof. The technology itself cannot be hacked, but there may be vulnerabilities. For instance, the blockchain system user who has a key is a weak link.
Last year, at FINOPOLIS-2016, the Bank of Russia-sponsored forum, when we presented our blockchain-based voting project, we were asked this sort of question from the audience about the reliability of blockchain. "All right, the system is reliable. But if someone comes to me and forces me to cast my vote not the way I want, the result will be different from the one proclaimed." Of course, blockchain will not solve this problem. The human element is the most vulnerable part. Blockchain cannot protect people physically or psychologically. Figuratively speaking, a person can fall asleep in front of his computer, press a key on the keyboard and perform a transaction different from what he actually intended. We are speaking about technologies which are used by people reasonably and in full awareness of the consequences.
Can blockchain help cut your costs?
So far, it is a venture project which is yet to be implemented in real business processes. It is exactly at this phase that we are capable of assessing the contribution of this technology. Furthermore, not every product is supposed to generate revenues directly, at the elementary level, it can be a low-margin or even a zero-profit one. But we are creating products based on the principle of a financial supermarket: if the client uses services related to safekeeping, settlement, voting, income distribution, foreign exchange conversion, access to other markets, it will accumulate its assets at NSD. That is the main source of income for us.
What is your assessment of the technology level in our financial market?
According to the Bank for International Settlements (BIS), Russia is now at the level of France in terms of infrastructure development. But when during last year's SIBOS-2016, we presented the corporate action processing technologies on the Russian market, one global bank looked at our technologies and said, “we have been on the market for forty years, but now we will have to rebuild our entire system to bring it up to your level”.
Do you mean that in terms of blockchain you are ahead of your global competitors?
We are among the first ones to have created a real blockchain prototype for an absolutely applied task, i.e., voting at bondholders' meetings, and to have used zero knowledge proof in corporate systems, thus ensuring confidentiality of information, and we are the only entity to have done this for an open-source system. We have created an excellent team of experts and have started to work in a style now called 'agile'. As a result, we created a workable prototype within five months.
Now, we are planning to move the blockchain voting platform from the prototype phase to a practical phase. It is likely that this will become our unique field in which we will develop.
German Gref calls blockchain a disruptive technology and compares it with the creation of internet. According to the World Economic Forum's forecasts, blockchain may radically reshape the financial sector. What will be the breakthrough?
Perhaps, this technology is considered to be disruptive because it can radically change the current roles of market participants, their business models and market niches.
The financial industry is the cyberspace. And blockchain is one of the cutting edge cyberspace technologies which – it is a hypothesis so far – can "straighten out" the communications between users (for instance, investors) and service providers (say, securities issuers) by ensuring delivery of goods (i.e., securities) to the ultimate consumer. Traditional intermediaries such as banks, central securities depositories, stock exchanges, etc., will either win from implementing this technology if they succeed in adapting their business models, or will lose and have to leave the market.
We had meetings with Silicon Valley start-ups and tried to understand the mind-set of people who think beyond tomorrow. In their terminology, "money over IP" means that in cyberspace, you are your computer's address which is linked to your social profile, wallet and assets – securities, insurances, real estate, car, driving licence, etc.
What is the most valuable asset now? Information. Everyone is interested in obtaining detailed information about users and using big data technologies to analyse that information. Because such information and its proper processing will give you a complete picture of what the client is like, of his investment preferences, risk appetite, etc.
For technology promotion, the position taken by business is important.
Business is very proactive in that respect. For instance, at the Central Bank's initiative, a consortium has been created with the participation of companies which have the resources and desire to develop technologies, including, in particular, blockchain. Among such companies are Sberbank, Bank Otkritie, VTB Bank, Alfa Bank, etc. E-voting is just one of areas of such work. For banks, the most interesting area is client identification. Banks perform similar steps to identify the client, spending time and money. But it could be done as follows: if a client goes through the identification process once, his profile information will become accessible for all banks. Blockchain could help resolve this issue, and this would simplify the procedure and cut costs. So we don't see a lack of interest or attention. Furthermore, we have the support of the regulator.
NSD is part of Hyperledger, the global blockchain consortium which also includes IBM, Intel, and J. P. Morgan. To what extent are you prepared to share your results with the market community?
The Moscow Exchange Group is one of the consortium participants, and NSD, being part of the Group, takes part in the consortium's activities. The main thing about Hyperledger is its IT-structure, i.e., the development of platforms based on blockchain solutions. They are open source solutions. There is also one more initiative, i.e., the working group initiated by us, consisting of CSDs from different countries, including South Africa, Switzerland, USA, Chile, etc. Corporate actions processing is another area of relevance for everyone, and we have just completed developing the requirements for the future blockchain-based e-voting platform which will be universal for our respective jurisdictions. We are now starting to select the solution.
Do you intend to offer this platform to industry peers?
We will offer it to all the 125 securities depositories throughout the world. When we were considering the creation of a voting prototype, we thought: and what shall we do next? Because then comes the issue of financing the development, and hence, the need for cooperation: one has to find people with a similar mind-set who are interested in the project and willing to share costs. As a result, we have found major participants and are prepared to create a consortium.
What US participants are among its members?
The DTCC and NASDAQ.
It seems that, despite the sanctions, cooperation goes on.
Sanctions poison the business environment, but this does not prevent us from communicating with our foreign colleagues. We do not see any negative attitude: they are taking part in the project and exchanging information. There is no politics here.
But do you feel the overall deterioration of relationships?
In relation to NSD, no.
You have contacts with your colleagues from financial organisations in other countries. Do you feel they are different from Russians in terms of their drive towards innovation and speed of thinking?
We come across different people: some are obsessed with innovation, others are sure that even in a hundred years, nothing will change. That the industry will struggle but will then become disappointed But it is practice that is the criterion of truth. Life will set things straight. I believe that FinTech will transform the industry. I know that the leading global companies, such as Visa and PayPal, have dedicated labs engaged in modelling the future.
Companies which will be proactive in implementing technological solutions and change their business profile will reduce their costs and become more efficient – as a result, they will be able to boost their client base or expand their market niche by offering more attractive products to investors. A critical amount of followers will be created. Those who make it in time to catch the train will ride on, but those unable to do so will not.
Is your love for innovation an expensive thing?
Generally, our IT costs make about 12 percent of our budget. Of that amount, we spend approximately 2 percent on the innovation part of our capital costs. We do not put huge amounts of money at risk but rather test specific ideas.
Our economy follows the scenario of self-sufficiency and partial isolation. How is the financial market coping with the shortage of investments?
I cannot fully agree with you. There are portfolio investments. From last June to May this year, investments in OFZ bonds amounted to USD 11.1 billion, without taking into account changes in the bond value and exchange rate differences. The share of non-resident investors increased to 28 percent from 22 percent. During the same period, investments in Russian equities doubled. There are direct investments. such as transactions performed by the Russian Direct Investment Fund in partnership with other funds. But there are risk factors which may cause a U-turn in or stop of such investments, and these factors need to be managed.
Are we seeing money inflows because foreign investors have regained appetite for Russian securities?
Russian Eurobonds were a success with investors late last year and early this year: everyone is waiting for the emergence of Russian issuers. On the equities market, for instance, there has been a successful IPO of “Detsky Mir”. Investors have an appetite for Russian assets, because they are high-quality, reliable and profitable assets.
But you have just said that there are risks which may cause a U-turn in those investments.
Of course, there are various risk factors relating to geopolitics, foreign exchange, practices of protecting investors’ rights, etc. Despite all that risk range, investors do have an interest.
Are you speaking about high-risk money?
When we launched our depository link with the ICSDs back in 2014, non-residents accounted for a mere 4 percent of Russia’s OFZ bond market, and by 2016, their share had reached 24 percent and now stands at around 30 percent. Even during 2014 and 2015 when the tension was at its highest, that share did not decline below 20 percent. Of course, but for the geopolitical factors, the situation would have been much better. But on the other hand, I cannot say that the situation is too dire.
And when was it too dire?
In 1998 and 2008, when the trading was suspended and no one knew what would happen tomorrow. Importantly, we have preserved our drive towards openness and integration with the global market. That’s a matter of principle. This presupposes free capital movement and because of that one should not be surprised that money comes or goes. The fundamental factor contributing to market stability is domestic investors, i.e. individuals, pension funds, and insurance companies. That is sort of an anchor for the market. I am excited about the things being done by the regulator, market participants and the Moscow Exchange in that respect. By now, as many as 210,000 people have opened investment accounts. I myself have opened such an account.
What for?
For the future. The interest rate offered by the government is now more attractive than the rates offered by the major banks. The interest rate for OFZ bonds is between 7 and 8 percent. It is an alternative to bank deposits. It’s quite another thing is that, unlike a security, a bank deposit has a simple algorithm. Some people have a psychological barrier towards securities which they have difficulty crossing. But from the economic perspective, securities are a profitable instrument.
That is to say, for some people buying dollars is an understandable investment, but buying securities is something they do not understand?
Certainly, it is a matter of mentality. People of generations X and Y look more favourably on such investments than those who remember the Soviet Union.
Is it possible to pivot people’s mind-set with “popular bonds”?
You cannot achieve that instantly, but it is possible in the course of time and if systemic work is undertaken. I have seen very pessimistic forecasts in the press, but everything that has been done so far – introduction of investment accounts, cancellation of the coupon income tax, issuance of OFZ bonds for the population, – all these are the right things for the market which are aimed at achieving a long-term result.