Understanding HK’s digital assets regulatory framework, challenges in crypto fundraising, and the impact of COVID-19 on the crypto industry
On April 28, BrightTALK hosted ‘Digital Assets, Regulations and Opportunities in Hong Kong and Asia,’ the second-most attended webinar organized by Innovate Finance, an independent not-for-profit industry body representing the UK’s global fintech community.
The webinar was moderated by King Leung, Head of Fintech at Hong Kong’s government Foreign Direct Investment body InvestHK. Henri Arslanian, Chairman of FinTech Association of Hong Kong (FTAHK) and PwC Global Crypto Leader, and Clara Chiu, Director of Licensing and Head of Fintech unit at the Intermediaries Division at Securities and Futures Commission (SFC) of Hong Kong, spoke on the panel.
Arslanian noted that global cryptocurrency deals are moving to the east, as indicated by PwC’s Global Crypto M&A and Fundraising Report. Another noticeable trend is that crypto companies are progressively diversifying and consolidating: many big crypto players are acquiring ancillary service providers, in addition to acquiring smaller crypto players.
Additionally, the average investor ticket size in the crypto industry has gone up, which means that crypto transactions are moving from being seed transactions to Series A and higher, according to Arslanian.
Interestingly, High Net Worth Individuals (HNWIs) – generally known to be more risk-averse investors – are emerging as leading backers in crypto firms.
“One of the big takeaways of PwC’s 2nd Global Hedge Fund Reports (to be published in two weeks) is that over 40% of capital coming into crypto-hedge funds is coming from high net worth individuals,” said Arslanian.
He added that Asia is, in fact, about a year to a year and a half ahead of the rest of the world in terms of digital asset innovation.
“If you follow any crypto media, what you realize is, some of the most cutting edge stuff is generally coming from Asia, or is being driven from Asia,” he added.
According to Arslanian, one of the reasons behind Asia being the frontrunner in the crypto space is leading initiatives like the Digital Currency Electronic Payment (DCEP) launched by China, and the backbone of an active blockchain ecosystem. This is especially true in Hong Kong, where FTAHK released a best practices guide to token sales and a Hong Kong Blockchain Ecosystem Map last year.
Chiu, who is one of the architects behind recent digital assets trading platform regulations, explained the SFC’s Virtual Asset Regulatory Framework. Below are six key takeaways:
1. The SFC has no power to grant a license to or supervise a platform that only trades non-security virtual assets or tokens.
2. Key licensing conditions require that the platform operator may only offer its services to professional investors (PIs), must have stringent policies for prevention of market-manipulative and abusive activities, and must conduct in-depth due diligence of the digital assets before trading.
3. PIs include institutional bodies like banks, insurers and licensed intermediaries, corporate bodies that include high net worth companies with portfolios of HK$8 million (approx. US$ 1 million) or more, or total assets of at least HK$40 million (approx. US$5.1 million), and individual professionals such as HNWIs with portfolios of at least HK$8 million (approx. US$ 1 million).
4. The SFC requires a platform operator to ensure that it stores 98% of client digital assets in cold wallets (private keys which are kept offline), and limits its holdings of client digital assets in hot wallets (private keys kept online) to under 2%.
5. It also requires the VA trading platforms to ensure that an insurance policy covering the risks associated with custody of digital assets is in effect at all times. While hot wallets require 100% insurance coverage, cold wallets require substantial coverage of 95% or more.
6. The SFC has no jurisdiction to grant licenses to pure VA traders, since it only has jurisdiction over Securities and Futures. However, if a trading platform includes a security token along with cryptocurrencies in its platform, the SFC will supervise its whole business, including the trading of digital assets (cryptocurrencies) which are considered non-security tokens.
Major challenges in fundraising for crypto projects
Despite leaps and bounds in the digital asset space, there still remain a few crucial obstacles when it comes to fundraising for crypto startups.
1. Lack of Education: Nobody will invest in something they do not understand. A lack of education and awareness among investors is one of the key challenges faced while fundraising for crypto projects.
2. Competition with other industries: Investors are flooded with traditional business options that are simpler to understand, and therefore more attractive, to investors who lack knowledge of digital assets.
3. Slow-moving institutionalization and regulation: Currently, the crypto industry is becoming more and more institutionalized, with regulatory clarity and best practices, which will provide comfort to investors and make them more amenable to investments in the crypto space in the future. However, this process is a lengthy one, and still remains a roadblock.
COVID-19 will act as a catalyst for the Crypto industry
“Make no mistake, the coronavirus will have an impact on the crypto industry,” Arslanian warned. He expects crypto players will experience some short-term pains, but also suggests that COVID-19 will act as a catalyst for the industry, for two main reasons:
1. Cash Aversion: Digital payments are replacing cash as the preferred mode of transaction, with many people believing that paper money is a carrier of the virus. China’s central bank has been quarantining money to reduce contagion risks, with many countries, including South Korea, following suit.
“We may see less usage of cash way faster than we anticipated before COVID-19,” said Arslanian, thereby catalyzing the usage of digital assets.
2. Central Bank Digital Currencies (CBDCs): China is already testing its pilot CBDCs, and Arslanian expects more countries to launch CBDCs and qualitatively ease monetary policies, thereby spurring the crypto industry forward.
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