Here’s why transparent RWA oracles are key to bringing trillions onchain

The tokenization of real-world assets (RWAs) reached a market cap of $2.7 billion in the first quarter of 2024 and is forecast to present a $16 trillion opportunity by 2030. With rising inflows, RWAs have become a driver of institutional interest in decentralized finance (DeFi) and are now well-positioned to be the next frontier in Web3.

Source: Galaxy Research

One opportunity grabbing the attention of RWA projects is the Spark Tokenization Grand Prix. In July, Spark, a pioneering Star within the Sky (formerly known as MakerDAO) ecosystem, launched the competition to help accelerate the adoption of tokenized RWAs in DeFi.

The winner of the competition will work with Spark to onboard an initial $1 billion in tokenized RWAs with a focus on short-term United States Treasury bills (T-bills). The competition has attracted interest from institutions and DeFi alike, such as BlackRock's BUIDL, Ondo and Superstate.

Oracles: Key blockchain infrastructure needed to support RWAs

A key judging criterion of Spark’s Tokenization Grand Prix is “competitive and transparent pricing models,” which raises the question of what DeFi infrastructure is needed to support the tokenization of RWAs.

This is where oracles will play an integral role in bringing the value of RWAs onchain.

Oracles are middlemen that enable blockchains to access data from other systems and networks. Transparent and decentralized oracles will be integral to success in Spark’s Tokenization Grand Prix.

By nature, RWAs are not crypto-native. For their tokenization to have any value, an oracle solution is necessary. RWA oracles make RWAs crypto-native by providing the type of metadata that is recorded and readily available onchain for crypto-native assets.

RWA oracles serve two primary functions: attestation and price modeling.

First, RWA oracles serve as an attestation mechanism or a “proof of reserve” type service, verifying the inventory of an offchain asset, such as gold reserves or T-bills.

This attestation function of RWA oracles is critical not only for RWA tokenization but also for DeFi use cases such as smart contracts by verifying offchain information and communicating them back onchain so that the contract terms can be executed.

Second, to bring the value of RWAs onchain, an RWA oracle must serve as the transparent and verifiable mechanism validating the value of the offchain asset. To tokenize gold, for example, the RWA oracle must constantly provide a trustworthy price for gold so that the token has any onchain value.

DeFi’s guiding principles

On a more philosophical level, as institutional interest in DeFi and regulatory scrutiny increases, key tenets such as transparency must be maintained.

However, most oracle protocols lack transparency as they do not provide users with any information on where the price data they provide is originally sourced.

This lack of transparency lends oracles to becoming the Achilles heel of DeFi. Without knowing where pricing data comes from or how many trusted validators are used to create a consensus on price, bad actors can easily corrupt price feeds provided by oracles.

Considerations for the institutional investor

To harness the opportunities presented by tokenized RWAs and competitions like the Spark Tokenization Grand Prix, institutional investors must choose their oracle partners wisely. There are a number of critical considerations that must be made.

First is the transparency that was discussed above. For traditional finance and DeFi to work together, both must maintain their benefits and ethos. Transparency is a non-negotiable differentiator of DeFi.

The second is cost-effectiveness. Many oracles cannot provide consistent pricing for their data streams. Institutional investors need to understand the relationship between high-quality data from a scalable set of trusted validators and the gas fees associated with providing updated data. They should look for an oracle partner that can maintain consistent gas fees (operating costs) while delivering highly secure and decentralized data streams — a dilemma most oracles have failed to address.

Finally, and most importantly, institutional investors need to understand that their choice of oracle partner is also a risk management decision. Many of DeFi’s hacks can be traced back to an oracle failure. These failures are often due to oracles being built via bridges rather than natively onchain. This design causes a single point of failure issue and poses a threat to the value and integrity of the underlying DeFi products, such as tokenized RWAs. Institutional investors should avoid using oracles that are designed in this way.

Ultimately, institutional investors must choose an RWA oracle partner that maintains DeFi’s core tenets of transparency, cost-effectiveness and security while building the infrastructure needed to support the next $1 billion — or even $16 trillion — of onchain value through tokenized RWAs.