The Securities and Futures Commission of Hong Kong has announced new plans to regulate the cryptocurrency industry. The regulator issued two circulars on Thursday outlining new rules for crypto exchanges as well as crypto asset portfolio managers, intermediaries, and fund distributors.
New Regulatory Approach
The Hong Kong Securities and Futures Commission (SFC) issued two circulars on Thursday concerning cryptocurrency regulations. The first outlines “a new approach which aims to bring virtual asset portfolio managers and distributors of virtual asset funds under its regulatory net,” the commission wrote. It also “sets out a conceptual framework for the potential regulation of virtual asset trading platforms.” The second document addresses intermediaries that distribute crypto funds.
The SFC defines a virtual asset as “a digital representation of value, which is also known as ‘cryptocurrency’, ‘crypto-asset’ or ‘digital token’.”
Citing “significant risks virtual assets pose to investors,” the commission announced that it will “adopt new measures within its regulatory remit,” elaborating:
The SFC will impose licensing conditions on firms which manage or intend to manage portfolios investing in virtual assets.
In addition, the regulator noted that it will explore whether crypto exchanges “are suitable for regulation in the SFC regulatory sandbox.”
Risks Under Existing Law
In the first document, the securities watchdog expressed concern over “the growing investor interest in gaining exposure to virtual assets via funds and unlicensed trading platform operators in Hong Kong.” The SFC explained that investors are not protected since the Securities and Futures Ordinance (SFO) currently does not apply to unregulated exchanges or portfolio managers, adding:
Under existing regulatory remits in Hong Kong, markets for virtual assets may not be subject to the oversight of the SFC if the virtual assets involved fall outside the legal definition of ‘securities’ or ‘futures contracts’ (or equivalent financial instruments).
The regulator proceeded to outline the “significant risks” associated with investing in crypto assets which it has identified such as volatility, liquidity, cybersecurity, safe custody of assets, market integrity, money laundering, terrorist financing, conflict of interest and fraud.
Licenses and Regulatory Sandbox
Under the new rules, crypto asset portfolio managers will be subject to the SFC’s supervision “irrespective of whether the crypto assets meet the definition of securities or futures contracts.”
Noting that firms which distribute funds that invest in crypto assets in Hong Kong will need to be licensed, the commission detailed:
Licence applicants and licensed corporations are required to inform the SFC if they are presently managing or planning to manage one or more portfolios that invest in virtual assets.
The SFC will then evaluate whether the firm is capable of meeting the expected regulatory standards. If the firm does not comply with the proposed terms and conditions, its licensing application will be rejected. Licensed corporations failing to comply will be required to unwind their crypto portfolios within a reasonable period of time.
“If the SFC grants a licence to a qualified platform operator, it will impose appropriate licensing conditions and the operator will proceed to the next stage of the sandbox,” the regulator described. “This would typically mean more frequent reporting, monitoring and reviews,” the commission added, stating:
After a minimum 12-month period, the virtual asset trading platform operator may apply to the SFC for removal or variation of some licensing conditions and exit the sandbox. Licensing conditions (and terms and conditions) imposed in this stage would be made public in the usual way.
Crypto Asset Funds
The second circular addresses both authorized and unauthorized intermediaries that distribute crypto funds. They are required to comply with the SFC’s Code of Conduct. “Specifically, intermediaries should ensure that the recommendation or solicitation made is suitable for clients in all circumstances,” the regulator emphasized.
Intermediaries should also provide their clients with all the necessary information to make informed investment decisions “in a clear and easily comprehensible manner.” Furthermore, the SFC explained that they must conduct due diligence on the fund manager, the fund itself, and the fund’s counterparties, noting:
Intermediaries are reminded to implement adequate systems and controls … before they engage in the distribution of virtual asset funds. Failure to do so may affect their fitness and properness to remain licensed or registered and may result in disciplinary action by the SFC.
What do you think of the SFC’s new rules to regulate the crypto industry in Hong Kong? Let us know in the comments section below.
Images courtesy of Shutterstock and Hong Kong SFC.
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