The dark side of tokenization: Are you taking over for traditional finance?

Author: dewhales Translation: Shan Ouba, Golden Finance

Introduction

Institutional asset tokenization has become the consensus narrative in this crypto cycle, with the external packaging rhetoric highly unified: traditional finance has finally entered the crypto industry, and the entry of giants signifies compliance and legitimacy.

This narrative also comes with a promise: bringing massive liquidity and achieving inclusive access to assets. When top institutions like BlackRock enter the layout, the market defaults to trusting their credibility, and public trust shifts accordingly.

Undeniably, the underlying infrastructure is indeed progressing. Tokenization can reduce settlement friction, broaden investment thresholds, and give assets composability—these are advantages that traditional markets cannot replicate. But the real question is not whether these benefits exist, but what else is flowing through the bridge connecting on-chain and off-chain.

In the current context, tokenization is also a mechanism to expand risk distribution. This article will analyze a reality: more and more DeFi protocols and participants are passively accepting credit risk originating from traditional finance; and most lack comprehensive risk control tools and full information disclosure, making it impossible to truly assess the assets they hold.

How institutional narratives reshape market perceptions of assets

The form of external packaging of assets cannot change the underlying assets themselves. A private credit asset with low demand and weak qualifications, even if tokenized on-chain, remains fundamentally a subpar loan—just facing more ordinary buyers—who often cannot perceive the risks involved.

The halo of institutional branding also compresses the rigor of investor due diligence. Once labeled with a well-known institution, the market’s standards for asset quality tend to be automatically relaxed. Coupled with the ongoing pressure on private credit in traditional finance, this wave of tokenization is even more worth cautioning about.

This trend is also reflected in platform product line iterations: many platforms that started with US debt tokenization are now expanding into higher-yield, shorter-duration credit products. For example, OpenEden launched HYBOND in April 2026, a typical representative. The industry is quietly migrating toward higher credit risk levels, and this low-key layout is precisely the most concerning.

The core structural contradiction is: tokenization inherits the opacity of the underlying assets but also carries the blockchain’s narrative halo of transparency.

Once a private credit is packaged into an ERC-20 token, you can enjoy on-chain settlement, traceable transfer records, and real-time asset net value updates; but these data cannot reflect core credit indicators such as borrower leverage, contractual structure, or debt coverage capacity.

The key information that determines asset quality is all kept off-chain, selectively disclosed, and usually only accessible to qualified institutional investors through KYC—ordinary retail investors are kept outside the core information gate at the moment of token issuance.

As tokenized products further penetrate into less liquid underlying markets, risks are further amplified. US debt has continuous fair pricing and deep secondary liquidity; short-term high-yield loans do not have these attributes. When the underlying asset trading is quiet, NAV (Net Asset Value) is no longer market-determined but relies on model estimates; model-based pricing tends to be stable over the long term until a sudden collapse occurs.

For DeFi ecosystems that rely on on-chain oracle-based pricing, this is an inherent structural flaw. The NAV reporting of private credit tokens is not from a decentralized oracle but is just an electronic spreadsheet controlled by the asset issuer.

DeFi users treat these tokens as collateral, participating in betting without seeing the underlying credit risk; crises related to these assets are often highly correlated, and once a cascade occurs, redemption runs can happen instantly.

Subordinated tranche logic: what is DeFi’s role in this

Layered structuring is one of the oldest risk distribution tools in traditional finance. Senior debt is paid first with lower yields, forming a safety buffer through subordinate tranches; subordinate debt bears initial losses and earns risk premiums, and in stressed markets, it is the first to be impaired and written off.

For decades, CLOs (Collateralized Loan Obligations), CMBS (Commercial Mortgage-Backed Securities), and ABS (Asset-Backed Securities) have used this structure; its core logic is to efficiently transfer risk to the most willing or least capable risk-pricing entities.

What is happening now is the same logic: traditional finance handles asset origination and structuring, retaining stable, higher-priority shares; then high-risk subordinate tranches are distributed outward, flowing to where capital demand exists.

Today, the largest recipients of subordinate tranches are in DeFi. Yield-seeking users only see the surface annualized return but cannot see their position at the bottom of the repayment hierarchy.

Initial loss capital is a critical position in the credit structure, with significant consequences; participation requires deep understanding of the underlying collateral pool, default correlations, recovery rates, and other core assumptions. But now, more and more DeFi participants are passively sitting in this high-risk position without any awareness.

Traditional markets do have subordinate tranche buyers, but these funds have found a new pool of buyers—a new group of capital with immature risk assessment frameworks and limited understanding of complex credit products.

The tokenized private credit market is forming a typical cyclical structure: whitelist liquidity stakers deposit tokenized private credit certificates into lending protocols as collateral, borrow stablecoins at a set collateral ratio, and then reinvest the borrowed funds into the same product, amplifying the underlying asset’s risk exposure.

When the market is stable, this closed-loop structure is highly efficient, with tangible additional returns; but the fatal hidden risk is that leverage is added to inherently illiquid underlying assets.

If private credit assets come under pressure, NAV will not immediately reflect the true risk but will delay a collective default; prices have not yet been discovered, but redemption runs have already begun; when leveraged positions exit in illiquid conditions, they face margin calls and liquidation pressures.

Dissecting the industry’s rhetoric on liquidity, transparency, and capital efficiency

Liquidity

Tokenizing private loans does not make them truly liquid. It only creates a secondary market that is smooth in normal times and quickly dries up during crises.

Secondary markets do exist, but whether they can provide real liquidity during critical risk events is another matter. The liquidity of structured credit has always been “smooth in good weather, failing in bad.” Traditional private credit secondary markets see liquidity sharply shrink during risk aversion; tokenization cannot change this fundamental rule—it only changes who holds the assets during a crisis.

In March 2026, Midas raised $50 million specifically to address redemption runs, establishing a dedicated reserve fund to handle immediate withdrawal demands. Without this fund, investors could only queue for redemptions. A platform managing $1.7 billion in assets, still needing to set up a separate liquidity backstop after two years, shows that tokenization in practice is far from the high liquidity often claimed.

Transparency

On-chain transparency ≠ transparency of the underlying assets. Tokens visible on Etherscan can only prove that the smart contract is functioning properly, but cannot reflect the true operational and debt repayment health of the borrower.

GAIB faced this issue directly: after launch, the community quickly questioned the authenticity of the collateral assets, and in November 2025, its CEO had to publicly respond to questions about reserve asset proof. While the smart contract architecture appears sophisticated, the underlying asset verification mechanisms are entirely inadequate.

OnRe chose a different path: partnering with Apex to perform third-party NAV verification, using Accountable for on-chain validation. OnRe does not see this infrastructure as a competitive advantage but as the minimum entry threshold for all assets used as DeFi collateral.

If complete borrower information had been embedded into the product structure from the start, tokenization could indeed break through the opacity of traditional finance, enabling DeFi users to assess the true risk of their holdings.

Capital efficiency

Tokenization indeed reduces settlement friction, but the efficiency benefits are unevenly distributed within the structure. For asset issuers, off-balance sheet operations are immediately effective, and distribution scope is greatly expanded; for buyers, settlement experience is improved, but the risk of the underlying assets remains unchanged.

The most logically consistent scenario: US debt tokenization as a native DeFi collateral. The underlying assets are highly liquid, continuously fairly priced, and yield can be verified, bringing structural real capital efficiency through composability, not superficial packaging.

OnRe’s ONyc token represents a direction for truly valuable asset expansion: yields derived from reinsurance underwriting premiums, assets with low correlation to crypto markets and traditional credit cycles. Reinsurance historically relied on direct underwriting relationships and high minimum entry barriers; tokenization, without changing the essence of the underlying assets, breaks down these entry barriers.

The key dividing line is: one is expanding access for high-quality assets to ordinary investors, and the other is enlarging distribution channels for stressed, risky assets. Currently, the market lacks a clear boundary between these two.

Conclusion

Tokenization is just a tool; like all tools, its value depends entirely on the purpose of the user.

Its core capability that traditional finance cannot replicate is composability. As long as the underlying assets are of good quality and information disclosure mechanisms are complete, tokenization can indeed enable ordinary people to participate in previously inaccessible asset classes.

But this wave is not entirely positive. Risks in traditional private credit markets continue to rise, and tokenization is becoming an efficient tool to distribute these risks to emerging DeFi pools that are still learning how to price and identify risks.

It is difficult for outsiders to distinguish these two types of tokenization on the surface: smart contracts can undergo professional audits, but the creditworthiness of the underlying borrowers cannot.