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A new phase in virtual asset regulation

Since our announcement of the “Policy Statement on the Development of Virtual Assets in Hong Kong” in October 2022, the virtual asset (VA) market has been developing rapidly.  While product offerings have kept evolving, we also saw volatile price fluctuations in certain cryptocurrencies.  International organisations and regulators over the world expressed their intention to strengthen the regulation of VAs.  All these led some to believe that we had entered a “crypto winter”, and questions were raised on whether the Government would change its policy position on VA, especially in the wake of the JPEX incident last year.

Our response is clear: Hong Kong’s approach to VAs focuses on risk-based, prudent regulation.  By adhering to the principle of “same activity, same risk, same regulation” and implementing comprehensive regulation, we seek to address the risks associated with VA activities in terms of investor protection and money laundering and terrorist financing (ML/TF).  We firmly believe that encouraging financial innovation is only possible through providing a robust and transparent regulatory environment.

Based on these principles, we have established a licensing system and regulatory requirements for Virtual Asset Service Providers (VASP), which commenced operation on June 1 last year.  Currently, two licensed VA trading platforms, through licence upgrades, are able to offer Bitcoin (BTC) and Ethereum (ETH) trading services to retail investors.  Licensed platforms are subject to rigorous regulation by the Securities and Futures Commission (SFC) to provide substantial protection for investors.  Considering that some VASPs were already operating in Hong Kong before the licensing system came into effect, a transitional period was set up to assist these existing service providers in transitioning to the new system.   If these service providers would like to continue their operations in Hong Kong, they have to submit their licence applications by 29 February this year.  The SFC will consider whether the applicants can meet the regulatory requirements and whether they had substantial operations in Hong Kong before the commencement of the licensing system, before deciding whether to allow these existing service providers to be deemed as licensed from 1 June this year, until a final decision is made on their licence applications.

If the SFC considers that some existing service providers could not meet the relevant requirements of the transitional arrangement, a “No-deeming notice” will be issued to these applicants.  All existing service providers which have not submitted their application by 29 February, or have received a “No-deeming notice”, must begin ceasing operations and complete the process by 31 May this year, or within three months since the issuance of the notice.  

As the deadline for existing service providers to submit licence applications to meet the transitional arrangements will approach at the end of this month, the SFC is actively preparing for enforcement work (including issuing “No-deeming notice” to unqualified service providers), and will step up publicity efforts.  The SFC will in a timely manner inform the public about, and provide updates to, the online lists of VA trading platforms, to ensure that the public can clearly know whether these service providers are licensed.  I would also like to remind investors again that many VAs have no intrinsic value, and that the prices are highly volatile.  Before engaging in related investments, it is essential to understand the details and consider the risks involved.  For VA transactions, only platforms officially licensed by the SFC should be used.  Operations of unlicensed providers and operators which have not applied for a licence may not be compliant with statutory regulatory requirements, which some unlicensed platforms may also have been involved in fraud, leading to losses for investors.

On the other hand, the VA ecosystem also includes some over-the-counter (OTC) venues, often in the form of physical shops or online platforms, and are easily accessible to the general public.  In fact, OTC venues have played a certain role in some of the fraud cases involving some unlicensed VA trading platforms last year, having misled investors to channel funds to these unlicensed platforms.  Therefore, we believe that it is necessary to bring OTC venues under regulation, and we will launch a consultation very soon on the proposed regulatory framework.  We hope that members of the public and stakeholders will actively express their opinions.

Those who have been following the development of VAs will know that, together with the Hong Kong Monetary Authority (HKMA), we are consulting the public on the legislative proposal on a regulatory regime for stablecoin issuers.  The proposed regulatory system requires all qualified fiat-referenced stablecoin (FRS) issuers to obtain a licence issued by the HKMA.  Regulating FRS issuers in a risk-based manner, and providing transparent and suitable guardrails, the system seeks to manage the potential monetary and financial stability risks.  The HKMA will also introduce a “sandbox” arrangement, conveying regulatory expectations and providing compliance guidance to issuers planning to issue FRS in Hong Kong.  At the same time, the arrangement will gather their opinions on the proposed regulatory requirements, facilitating the implementation of subsequent regulatory regimes, and ensuring that the system meets the regulatory objectives.  As the two-month consultation period will end at the end of this month, please submit your opinions in time.

As the transitional period for the VASP licensing system enters its final stage, we are gradually enhancing measures on VA regulation.  With clearer regulatory and market development standards emerging at the international level, investors trading VA on licensed platforms should enjoy enhanced protection and have elevated confidence in the market.  We will continue to use a multi-pronged approach comprising comprehensive public education, enhancing enforcement and timely information dissemination, to facilitate the robust and responsible development of the market.

2 February 2024