The colored coin protocol (coloredcoins.org) makes it easy to use distributed ledger technology for any type of financial instrument. A financial institution can, for example, buy one Bitcoin on the market and then divide this one Bitcoin into one million increments. It can then use each one of these increments as a so-called colored coin and specify with the colored coin protocol the terms and conditions of that particular financial instrument.
A colored coin issued by the financial institution may represent a share of the company itself, but it doesn’t have to. It can represent any type of IOU, such as the commitment to make a payment of x EUR in n days to the holder of the colored coin, if so requested. The colored coin protocol makes it possible to use the distributed ledger technology to deliver and settle any type of financial transaction of any asset within minutes. Colored coins can have International Securities Identification Numbers (ISINs) to map them into the existing back office and risk management systems of banks, making the system compatible with the existing financial architecture.
Issuers of colored coins will buy virtual currencies to securitize financial assets, but they can use a small fraction of a Bitcoin to issue a colored coin. One Bitcoin can be sliced into one million increments; so, in theory, a colored coin needs to include only 1 millionth of a Bitcoin (1 Satoshi). If Bitcoins trade at a price of 300 USD per Bitcoin, the intrinsic value of the virtual currency per colored coin will be 0.0003 USD, a negligible amount compared to the market value of the colored coin. The price volatility of Bitcoin will therefore not impact the market price of colored coins.