What Is Tokenization & How Do Different Types Of Tokenizing Work?

what is tokenization

Many concepts in today’s advanced technological ecosystem appear distant to many people. Tokenization is one of the inventions that is shaping the payment card industry, bolstering the ingenuity of blockchain technology through cryptocurrency tokenization and more.

As prevalent as tokenization is today, many people still seek to know how tokenization works. If you are one of those asking what is tokenization? how does tokenization work? and many other concepts peculiar to tokenization, this page is the right for you. 

Read on to learn more about tokenization, the types of tokenization, the advantages and their disadvantages, and the potential ways in which the tokenization invention can help you overhaul your business or firm’s operations

What is tokenization? Our definition

There may be more than one way to answer the question, what is tokenization? This is so because many people with different technological inclinations define tokenization in different ways. Essentially, tokenization can be applied to both data security, and digital assets, in which case, a slightly divergent meaning is given to both.

Tokenization, when applied to data securitization, is the act of exchanging a highly sensitive data element for one with less sensitive information. This less sensitive data often referred to as a Token usually has no major value that malicious actors can draw on to exploit. The token represents underlying data, which could be a bond, stock, primary account number, credit card payments, or a host of other things. The token is usually an identifier that can lead back to its underlying data. The transfer of data from the token to the data behind it, and vice versa is only possible through a tokenization system. 

Data tokenization can also be related to blockchain technology and cryptocurrencies. In this context, tokenization is a process in which some assets are transformed into a token, resident on the blockchain. This usually makes it easy to store, record, and subject to the overall features of assets built with blockchain technology.

Virtually anything that has value can be tokenized and placed on the blockchain. Bitcoin’s computing power and electric usage are being tokenized into a digital currency. Each Bitcoin can be directly associated or linked to the complex mathematical puzzles solved to generate it, as well as the electricity expended.

Tokenization has added to the growth of today’s fast-changing digital ecosystem especially in redefining the payment process.

The printed numbers are redacted to asterisks, ended with the final digits. In this scenario, the merchant has the token, not a real card number. 

How does tokenization work? Tokenizer algorithm explained

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This is best explained with tokenization as it relates to payments. 

When a customer provides their payment details, either online through an e-commerce site or with a POS terminal, each data value is replaced with a randomly generated token. In almost all cases, the vendor’s gateway for payments is in charge of creating these tokens.

After this, the tokenized information is further encrypted before being delivered over other networks to the payment processor. The original payment information is subject to storage on the payment gateway’s vault for tokens. It’s the only partition that can be used to map this token back to the true payment data.

The vendor’s provider encrypts the data again before sending the details across to ACH or card networks for verification. If authorization is successful, confirmation of the transaction is sent across the ACH or card networks to all involved parties (payment gateway, processor, vendor, and client).

A simple tokenization example

There are numerous examples of tokenization around today. In the real estate industry, lands are being tokenized, for easy transfer of assets from one person to the other. In the age of increasing data security advocacy, customer data are also another major way in which tokenizations are brought to life.

As long as there is any piece of information required to be shielded from public view, such information can generally be tokenized.

Advantages & disadvantages of tokenization

Tokenization is one of the ways data security is being enhanced in our world today. It represents the novelty in technological advances and the ingenuity in protecting original data in a bid to stem data breaches and ultimately build trust. There are numerous benefits of tokenization, and remarkably, there are disadvantages too. 

We would explore each of the advantages peculiar to the tokenization of each specific industry later on in this article, right here, some of the advantages and disadvantages of tokenizing data are listed below.

Tokenization Advantages

  • Provides better transparency during transactions
  • Makes Transactions faster and easier
  • Tokenization contributes to increased liquidity for collectibles, microcap stocks, etc
  • Enhances secure accessibility of sensitive data
  • Limits the incidence of hacking, as there is almost always no data to steal
  • Helps organizations maintain good security standards and adhere to privacy laws

Tokenization Disadvantages

  • Limitations due to tokenized data monopoly. This may make data transfer difficult with regards to the payment industry
  • Tokenization and detokenization of data can increase the transaction time.

What are the different types of tokenization?

The types of tokenization being flaunted today are continually advancing. From asset tokenization to land data tokenization, and more, there are different kinds of tokenization being harnessed in several industries today. 

In this section, some of these specific tokenization options are outlined below.

1. Tokenization of assets

The ownership of assets in our world today represents some of the most direct ways to showcase wealth. But owning assets can be made simplified through tokenization. The stocks of most companies can be tokenized, as most trading platforms are beginning to do today, and owning these tokens in effect can give you direct access to benefits such as dividends the firm’s major shareholders are enjoying.

Similar to shares, properties, copyrights and more can also be tokenized and transferable to anyone.

What is tokenization of assets?

Tokenization of assets is essentially when a tangible valuable asset is converted to an intangible asset, with accompanying features such as transferability. Artworks can be tokenized to show originality, music videos can be tokenized, and any other form of Intellectual Property (IP) amongst others. In the blockchain ecosystem, as we have it today, asset tokenization has grown remarkably, making it flexible for ownership rights to be verifiable, especially with their registration on the blockchain.

Advantages & benefits of asset tokenization

  • Easy transfer of ownership
  • Costless transactions involving the asset in question
  • Helps preserves the integrity of the asset, as tokenization can guarantee the authenticity

Disadvantages of asset tokenization

  • Sizing the real worth of some asset may be difficult when we tokenize them
  • Some tokenized assets do not have a true back up value, and holders may never be able to guarantee the legitimacy of their holdings

2. ICO tokenization

What is ICO tokenization?

ICO tokenization occurs when the entire process involved in an initial coin offering is tokenized. From the actual digital coin in question to data registration and more, all is representable in tokenized forms. Many valuable digital tokens are now being rolled out today by some retailers or service providers with a focus on blockchain technology and the cryptocurrency ecosystem. Usually, these ICO tokens are built as a cryptocurrency on a blockchain platform with an existing native token.

Advantages & benefits of ICO tokenization

  • Makes the ICO process transparent. People are able to keep track of the tokens sold out
  • Gives a large number of people the room to trustlessly be a part of the project
  • Relatively costly compared to traditional public offering options for mainstream companies

Disadvantages of ICO tokenization

ICO tokenization can be initiated by malicious actors to defraud people. Data protection measures may be out of the window. The fact that the ICOs are relatively not regulated gives investors no safety protection when funds are lost through scams. 

3. Cryptocurrency tokenization

What is cryptocurrency tokenization?

Almost every cryptocurrency out there including Bitcoin, Ethereum, Litecoin has tokenized representation of some underlying data. The tokenization of energy usage and computing power as noted earlier is embodied in Bitcoin. Through cryptocurrency tokenization, payment processing is now generally more enhanced. New use cases being discovered for the tokenized currencies on a daily basis.

Advantages & benefits of cryptocurrency tokenization

  • Encrypted data are brought to life as spendable tokens
  • New money is created with mobile payments overhaul
  • Users gain the freedom to be financially independent of middlemen and government oversight

Disadvantages of cryptocurrency tokenization

  • The displacement of vital information such as credit card numbers, credit card data bank account numbers and more gives governments limited oversight
  • The government frown as the anonymity in transactions cryptocurrency tokenization brings
  • Fear of funding terrorism as cryptographically shielded
  • Based on the model of generating these tokens, it can be highly energy-intensive, impacting collective resources

4. Security Tokenization

What is security tokenization?

Security tokenization is when very sensitive information such as cardholder data, credit card information, and more are turned into a less sensitive one or token. The idea is to prevent cybercriminals or exploiters from gaining access to such data.

Advantages & benefits of security tokenization

With security tokenization, the obvious upside is that user’s data is kept in such a way that attempts to hack or gain access will become unprofitable. Additionally, highly classified data can be transferred easily without the fear of it being compromised.

Disadvantages of security tokenization

Loss of data can be devastating. And retrieving tokenized security information or data may cause significant downtime.

5. Real estate tokenization (AKA property tokenization)

What is real estate tokenization?

This is when physical assets in the form of landed properties, office buildings, residential homes are represented as digital alternatives or tokens. It is very common in the real estate world today, as the movement of these assets themselves around the globe is impracticable, tokenization aids easy movability and claims to such assets.

Advantages & benefits of real estate tokenization

  • Tokenized real estate assets can be transferred easily to new owners
  • Tokenizing real estate guarantees efficient use of resources as data stored on the blockchain is open and can block leakages
  • Tokenizing real estates can also help project managers raise funds faster, and more easily

Disadvantages of real estate tokenization

  • The asset a token is representing may be non-existent, giving rise to scams
  • Investors relate better with trust when the underlying asset is in view. This reduces the trust for real estate tokens

6. NLP tokenization

What is tokenization in NLP?

This is the use of advanced characters that the computer can recognize instead of word texts when performing Natural Language Processing (NLP). Computers do not understand normal human words and must be converted to a form they can easily relate to. This is tokenization in play.

Tokenization in NLP can also be described as a way of separating a piece of text into smaller units called tokens. Here, tokens can be either words, characters, or subwords. Hence, tokenization can be broadly classified into 3 types – word, character, and subword (n-gram characters) tokenization.

Advantages & benefits of tokenization in NLP

  • Help to prevent the out-of-vocabulary (OOV) word problem
  • In NLP, tokenization gives manageable vocabulary sizes
  • Neutral networks perform exceptionally well with them

Disadvantages of tokenization in NLP

The length of characters that may be required to be inputted may be so large that it may be difficult to form meaningful words at the end

Key Takeaways

The world is advancing at a very fast pace. Humans invented technology to make our lives easier. These inventions are made visible in areas such as data protection, a development that is invaluable in maintaining PCI compliance in the payment industry, through payment tokenization. Tokenization is an invention that has many facets, and unique use cases. The areas in which tokenization can be applied know no bounds and will always be open to new use cases based on human ingenuity. 

Just as every major invention of all time, the concept of tokenization comes with both upsides and downsides. In this article, the listed advantages, and disadvantages may be inexhaustive, and while we think of tokenization as a novel gamechanger, we should be prepared to embrace its downsides also.

If tokenization is what you are looking for, then make sure to book an initial consultation with one of our experts.

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Godfrey Benjamin

Godfrey Benjamin

Godfrey is a Journalist, Researcher, and Blockchain enthusiast. His impact and passion is always adding value. Godfreys' core expertise is acceptability, adoption, and integration of Blockchain technology as well as Cryptocurrencies.

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