Hong Kong Targets Investor Protection in New Approach to Crypto Regulation

The SFC will bring crypto-asset portfolio managers, fund distributors and eventually exchanges under its regulatory net, said Ashley Alder at Hong Kong Fintech Week.

On Thursday (1 November) during Hong Kong Fintech Week, SFC (Securities and Futures Commission) chief Ashley Alder announced a new approach for regulating virtual assets, otherwise referred to as ‘cryptocurrencies’, ‘crypto-assets’ and ‘digital tokens’.

“In light of the significant risks virtual assets pose to investors, the SFC will adopt new measures within its regulatory remit to protect those who invest in virtual asset portfolios or funds,” the regulator said in a statement.

The new approach will bring virtual asset portfolio managers under the SFC’s regulatory net, whereby licensing conditions will be imposed on all firms managing portfolios that intend to invest 10 percent of more of its gross assets in virtual assets. “To afford better protection, only professional investors should be allowed to participate for the time being,” Alder said in a speech.

But this does not cover ‘pure’ crypto funds which invest solely in virtual assets, which do not meet the SFC’s definition of ‘securities’ or ‘futures contracts’, he said. “We can fill this gap by looking at fund distribution.”

Fund distributors are already required to register with the SFC as brokers, which entails compliance with certain disclosure requirements and client suitability obligations.

An accompanying circular has been released providing specific guidance on the regulatory standards for the distribution of all funds with virtual asset exposures, including requirements for distributors to conduct proper due diligence, target only professional investors and provide disclosures to clients.

“The combined effect of these measures is that the management or distribution of crypto funds will be regulated in one way or another, so that investors interests will be protected either at the fund management level, at the distribution level, or both,” said Alder.

The SFC also set out a conceptual framework for exploring the potential for regulating virtual asset trading platforms (a.k.a. cryptocurrency exchanges) in the SFC Regulatory Sandbox.

Platform operators willing to be supervised can opt-in to allow the SFC to observe their operations in the sandbox environment, with proposed regulatory requirements comparable to those applicable to licensed providers of automated trading platforms, which the SFC already supervises. One of the requirements is that platform operators should provide services only to professional investors.

Based on this exploratory work in the sandbox, which will aid the SFC’s understanding of the live operations of platform operators, the regulator will decide whether licensing and supervision are appropriate, which could include intensive reporting and monitoring to ensure strict internal controls and investor protection.

Hong Kong digital asset exchange Gatecoin welcomed the SFC’s new framework, saying it adds to the credibility of the crypto sector, which is crucial to mass adoption.

“The SFC’s new framework for Hong Kong comes as other jurisdictions are advocating for a globally coordinated approach to regulating the crypto asset ecosystem,” said Brad Maclean, COO at Gatecoin. “And this comes less than two weeks after the FATF [Financial Action Task Force] recommended an AML-based regulatory regime for virtual asset platform providers.”

Maclean said he is keen to better understand how supervisors plan to regulate crypto-assets across borders: “For me, the bigger question will be around what will win out in the long-run, international regulation of the asset class, or a move towards a harmonisation of standards.”

He believes the industry as a whole should be taking a more collaborative and pro-active approach towards self-regulation to ensure its credibility, transparency and, most importantly, investor protection. This should include two-way communication with local regulators, Maclean added.

Although the proposed sandbox approach may present some challenges in requiring platforms providers to offer services only to professional investors, particularly in a market that has been dominated by retail investors, Maclean says Gatecoin is “very interested” to explore participation in the initiative, with an aim to giving regulators access to industry perspectives and to help the SFC identify potential friction points between the proposed regulatory frameworks and market realities.

To Top