Quick take on virtual asset policy in China

Ryan Tian
Ryan Tian
Nov 7 · 6 min read

Hong Kong, south of China, has always been one of the most dynamic financial investment and trading centers around the globe, though it has recently been challenged by rising and increasingly open cities in mainland China. Yesterday, the Securities and Futures Commission of Hong Kong(SFC), adopted a new approach to virtual asset trading platforms. This is even more interesting in light of China’s President Xi Jinping recent announcement that the country should seize the opportunity to adopt blockchain.

The big escape to Hong Kong

Though Hong Kong is a well-known international financial center, it didn’t catch the attention of many blockchainers in China until September 2017.

On August 30th, 2017, the National Internet Finance Association of China issued warnings against ICOs to its members, and on September 2nd, 2017, the Special Campaign against Internet Financial Risks also issued a notice clarifying its stance on token offerings. The day of September 4th, 2017 will certainly be remembered by the Chinese blockchain industry. On that day, seven government administrative organizations including the People’s Bank of China, the China Securities Regulatory Commission, the China Banking Regulatory Commission and the China Insurance Regulatory Commission issued a joint statement where they reiterated that ICOs are unauthorized illegal fund raising activities. Authorities were banning all organizations and individuals from raising funds through ICO activities and forbidding all banks and financial institutions from doing any business related to ICOs.

The value of crypto assets collapsed over night, and some large virtual asset platforms like BTCChina and Yunbi were forced to close.

In contrast, on September 5th, 2017, the second day of the big ban in Mainland China, Hong Kong’s SFC issued an official statement on initial coin offerings. The official attitude towards crypto assets was not nearly as stringent as on the mainland, with only ‘security’ tokens falling under the scope of SFC regulations.

Blockchain institutions rushed to Hong Kong for shelter. Binance established offices there and many others moved their headquarters there immediately. According to some law firms, the business from mainland blockchain customers increased over 80% in the last quarter of 2017.

Regulatory developments so far in Hong Kong

As an international financial center, Hong Kong regulates virtual assets through the SFC with a focus on tokens which can be classified as securities.

In the statement on initial coin offerings on September 5th, 2017, the SFC stated that digital tokens which have the nature of securities should be subject to the securities laws of Hong Kong, and activities dealing in or advising on digital tokens, or managing or marketing a fund investing in such digital tokens, will be regulated. In March of 2018, the Black Cell Technology Limited ICO was halted by the SFC, and transactions were unwound due to the security nature of the tokens.

In December of 2017, the SFC issued a ‘Circular to Licensed Corporations and Registered Institutions on Bitcoin Futures Contracts and Cryptocurrency-Related Investment Products’, which reminded intermediaries of the requirements for providing financial services in relation to bitcoin futures and other cryptocurrency-related investment products, due to the security nature of these products.

On 28th March 2018, SFC announced ‘Statement on Security Token Offerings’, which served as a reminder about the legal and regulatory requirements applicable to parties engaging in security token offerings (STOs).

On 1st November 2018, SFC issued ‘Statement on Regulatory Framework for Virtual Asset Portfolios Managers, Fund Distributors and Trading Platform Operators’. Regarding the increasing exposure to virtual assets via funds and trading platforms, it stated the licensing requirements for these activities.

In October of 2019, the SFC issued: ‘Terms and Conditions for Licensed Corporations Which Manage Portfolios that Invest in Virtual Assets’, which was regarded as an extension and implementation of the statement of November 1st, 2018.

Also, the SFC and other authorities have put great strength continuously on education and risk notifications regarding virtual asset transactions.

Recent regulation on virtual asset trading platforms

On November 6th, 2019, the SFC officially issued ‘ Position Paper: Regulation of Virtual Asset Trading Platforms’ and a statement warning investors about the risks associated with the purchase of virtual asset futures contracts.

The position paper sets out a new regulatory framework for virtual asset trading platforms. Platforms offering trading of at least one security token need to be licensed. The platform should be capable of meeting robust regulatory standards.

The SFC will require that platform operators offer their services exclusively to professional investors, only service clients who have sufficient knowledge of virtual assets, and maintain stringent criteria for the inclusion of virtual assets on their platforms.

Also, it states that if the platforms only trade virtual assets or tokens without qualifications as securities, they will not be regulated to apply for licenses.

Moreover, the statement of warnings on virtual asset futures contracts didn’t constitute any laws or regulations, yet it showed the attitude of the SFC on the derivative contracts and transactions of virtual assets.

The possible influence

The position paper ‘s stance of adding virtual asset trading platforms or token exchanges into the regulatory framework is no surprise to most observers. “It is just a matter of time, and the authorities will work out a way to regulate them sooner or later.” says Boris, the CEO of FinNexus and co-founder of Wanchain, who is a veteran in the blockchain industry, “of course there will be challenges and we shall wait and see.”

According to the regulatory attitudes of the SFC, the issue has always been whether the virtual assets bear the characteristics of securities, which is similar to the regulatory environment in the USA. On one hand, most of the blockchain projects have been trying to avoid supervision and the high cost of compliance by desecuritizing their tokens and defining their tokens as utility tokens, and there are few who will admit that they are offering security tokens. On the other hand, the attention placed STO (security token offerings) in the US has been fading away from the market, and the transaction volume remains low on security token exchanges, represented by t-zero. Therefore, few token exchanges or virtual asset trading platforms are willing to list tokens claiming to be securities, or they just keep their eyes half closed to these problems. Moreover, there is little benefit in aiming for compliance and trading security tokens, and few exchanges will admit they are security exchanges.

The SFC has made it clear that even if one security token is traded on the platform, it has to be regulated. I think the urgent thing at hand for most of the Hong Kong exchanges is to reassess the security nature of all the tokens traded. Big exchanges especially may push token issuers to seek for professional opinions of lawyers in Hong Kong.

The first group of legitimate security token trading platforms in Hong Kong will certainly attract great attention. However, the difficulty and time required for compliance is unclear at present, and exchanges should also be clear that they have to follow the stringent regulations from SFC. These regulations include licensing, sandbox supervision, professional investors limitation, insurance requirements, etc.

For the warning statement on virtual asset futures contracts, though it doesn’t include direct legally enforceable regulations at present, the SFC has clearly addressed the inherent risks associated with virtual asset futures contracts. Regulators from other major jurisdictions have been actively scrutinizing them and considering intervention.

In Hong Kong, any trading platforms or persons which offer or provide trading services in virtual asset futures contracts without a proper license or authorization may be in contravention of the Securities and Futures Ordinance (SFO) or the Gambling Ordinance.

Until now, major exchanges like Binance, Huobi, OKEX are all active in futures trading. We will keep a close watch on the progress.

About FinNexus

FinNexus is the open finance protocol built on the Wanchain blockchain. It is a hub for connecting different decentralized ledgers to each others and users, and also for connecting with traditional finance applications. The first iteration of FinNexus will be a marketplace for hybrid decentralized/traditional financial products.

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Ryan Tian

Written by

Ryan Tian

Chief Economist of FinNexus; Former Investment Banker

FinNexus

FinNexus

FinNexus — Finance evolved

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