New cryptocurrency regulations could lose Hong Kong business in the short-term but by instilling greater confidence in the market they could help further ahead.
By launching its first set of rules for buying and selling virtual assets, Hong Kong may have opened the door for more lightly regulated Singapore to take a bigger share of the cryptocurrency market.
But in the long run it could be better for Hong Kong, especially if it is able to nurture dependable new exchanges for trading the asset class, say specialist legal and investor sources.
The Hong Kong Securities and Futures Commission's (SFC) cryptocurrency regulations came into force on November 1. As a result, firms that manage portfolios invested in virtual assets now have to be licensed. What's more, with retail investors barred only professional investors can trade in them.
"Hong Kong’s new regulations are a welcome first step towards creating more credibility, transparency and structure in an industry that is largely regarded as opaque and lacking key investor safeguards," Karen Man, a Hong Kong-based partner of Baker McKenzie, an international law firm, told FinanceAsia.
"Clear and effective regulation is very important for the institutional investors and we expect they will embrace the new standards," Man said.
Previously these funds and cryptocurrency exchanges were not under the purview of the Hong Kong regulator. In a speech to coincide with the new regime, Ashley Alder, the SFC's chief executive, explained why this had to change: "In Hong Kong, we now have a sizeable population of investors who have an interest in trading virtual assets through unregulated trading platforms."
The bucking ride endured by investors in high-profile cryptocurrency also illustrates how this multi-billion-dollar crypto-market is still Wild West, cowboy territory. Having jumped from around $1,000 in January 2017 to nearly $20,000 in December 2017, the price of Bitcoin was trading at around $6,300 on Tuesday.
To harness this virtual tide whilst protecting investor interests, the SFC has also pledged to add cryptocurrency exchanges to its regulatory "sandbox" -- a programme launched last year to enable companies to test financial products in a confined regulatory space in order to foster the development of fintech. Once the trial period has ended, the SFC can then decide whether to grant a license to any exchanges operating in the sandbox.
Man said Baker McKenzie has been in discussions with a number of cryptocurrency exchanges looking to participate in the SFC's sandbox.
eToro, a social trading platform, is among those supportive of Hong Kong's new cryptocurrency strategy.
If the Hong Kong sandbox draws clear boundaries and limits on cryptocurrency, one outcome in the short term may be that some of the exchanges may move their offices to a jurisdiction that doesn't provide much clarity on boundaries," said Jasper Lee, Asia managing director of eToro, which offers trading on many asset classes including cryptocurrencies.
The new regulations in Hong Kong are also likely to require far more stringent know-your-customer (KYC) and anti-money laundering (AML) requirements, he explained.
"[But] in the long term regulations are needed to expand the business and enable institutional investors to come in, and that will give retail investors confidence," Lee said. "... [They] will lead to a more mature and trusted sector."
Lee declined to name the rival destinations that might stand to gain from Hong Kong's tighter cryptocurrency regime. But one obvious candidate is Singapore, given many cryptocurrency exchanges have previously set up in Hong Kong and/or Singapore due to the lack of specific cryptocurrency regulations there, in contrast to the US and Japan.
Singapore has so far no formal regulations specifically focused on cryptocurrency.
That said, in 2017 the Monetary Authority of Singapore (MAS) issued a consultation paper on a proposed Payment Services Bill, which in future will regulate the trading of virtual currency and cryptocurrency exchanges. The bill is expected to take effect next year.
And last year, MAS issued a Guide to Digital Tokens, clarifying which types of digital tokens fall under existing Singapore securities legislation.
The guidance given by the Singapore authorities has provided a degree of certainty to the cryptocurrency market in the Lion City, Stephanie Magnus, Asia Pacific chair of Baker McKenzie's financial institutions group, said "Singapore has always taken an innovation-first approach to technology and its stance on cryptocurrencies is no exception," said Roger Lim, founding partner at NEO Global Capital, a company that invests in blockchain, with offices in Singapore and Shanghai.
"Crypto regulations cannot be weaved into the mainstream regulatory fabric without considering the nuances, and Singapore is unique in striking a balance between stability and control," he said.
Whether a more relaxed regulatory approach results in more crypto business heading to Singapore from Hong Kong, and for how long, remains to be seen.
What seems clearer, as the Hong Kong SFC's chief Alder said in his speech, is that the market for virtual assets generally is still very young, so the trading rules may not always be transparent and fair. As he put it, "outages are not uncommon, as is market manipulation and abuse" and there can sometimes be "outright scams or frauds, as seen in many failed Initial Coin Offerings (ICOs)."
So some regulatory oversight is not before time. It may even lead to new business from unexpected places.
One international firm which considers Hong Kong's crypto-regulations good for business is Fincross International, which recently received approval for an investment banking license from the Financial Services Commission of Mauritius. The company plans to offer cryptocurrency services to the banking sector.
"As we are regulated by the Financial Services Commission of Mauritius, we believe Hong Kong's regulatory framework will benefit Fincross and enable the company to expand internationally faster with branches in jurisdictions such as Hong Kong and Singapore," Henry James, deputy chief executive of Fincross, told FinanceAsia by email.
As an ex-British colony, the island of Mauritius has a similar legal system to Hong Kong and Singapore (and of course the UK).
"As financial services play such an important role in Hong Kong, we certainly have high hopes to serve a large portion of the crypto market and the token economy in Hong Kong," James said.