With one eye on risks, SFC moves to regulate crypto assets

Anyone looking to issue security token offerings (STOs) in Hong Kong now has to register and get a license, a move that should boost the popularity of digital assets.

But, in requiring licensing of STOs, the Hong Kong Securities and Futures Commission (SFC) limits access to professional investors who may be better aware of the risks involved.

STOs are investment vehicles linked to assets such as gold or other precious metals, real estate or shares but are based on blockchain technology, the same technology used by cryptocurrencies such as Bitcoin.

In a March 28 statement, the SFC issued official guidance on STOs and said it will consider STOs to be securities because they are used to generate profits. Brokers that market or distribute security tokens now have to be registered for Type 1 regulated activities (dealing in securities).

The SFC is expecting a significant amount of due diligence to be conducted before a security token can be listed. Only professional investors, those with more than HK$8 million in assets, will be allowed to invest in these products.

The road to regulation

Speaking during Hong Kong Fintech Week late last year, SFC chief executive Ashley Alder said only professional investors should be allowed to invest in crypto assets to better protect the public.

“We hope to encourage the responsible use of new technologies and also provide investors with more choices and better outcomes,” Alder said at the time.

In its March statement, the SFC also warned of the risks related to virtual assets and security tokens, including “heightened risks of insufficient liquidity or volatility, opaque pricing, hacking and fraud” that might lead to significant financial losses.

In late 2018, the SFC issued two circulars concerning funds investing in virtual currencies and trading platforms, aiming to protect investors from a regulatory loophole because cryptocurrencies and digital assets did not previously fall under the regulatory purview of either the SFC or the Hong Kong Monetary Authority.

The Hong Kong Securities Association, a non-profit industry association, said the new guidance should help promoting the popularity of digital assets in the city.

“It will boost investor protection and hence attract more mainlanders to trade cryptocurrency assets in Hong Kong,” said Gary Cheung, chairman of the Hong Kong Securities Association. “This will help Hong Kong to be among the top cryptocurrency trading centres worldwide because proper regulation is very important for attracting the big players.”

Meanwhile, James Lau, Secretary for Financial Services and the Treasury, said during a radio program that the attraction of virtual assets lies in anonymous transactions, but it is exactly that anonymity that increases the risks.

While the SFC’s statement is a step towards regulating STOs and other digital assets, many STO exchanges still believe they should not be considered securities and they should escape supervision. But it may be a little self-serving. In a report published in March, Cointelegraph suggested that most of the trading volume of some cryptocurrency exchanges is “fake.”