Hong Kong's new virtual asset regulations officially take effect, a historic moment for Web3 in Hong Kong

This year’s Children’s Day may be a milestone day for crypto.

On June 1, Hong Kong’s new virtual asset trading regulations, “Guidelines for Virtual Asset Trading Platform Operators”, were officially implemented , and the application for virtual asset trading platform operating licenses was opened, marking a major progress in Hong Kong’s efforts to build a global virtual asset center.

This is the first time in the history of the crypto industry that good news has come to the mainland.

In the past, the Chinese market was also a force that could not be ignored in the crypto industry. Between 2014 and 2016, a large number of heavyweight players such as OKCoin, Huobi, BitMEX, and Bitfinex were born in the mainland and Hong Kong, greatly monopolizing the liquidity of the industry and leaving behind countless prosperity and innovations in their wild growth.

On September 4, 2017, the central bank announced that IC0 would be classified as an illegal financial activity and explicitly banned any token financing activities. Trading platforms were shut down and market sentiment collapsed instantly. In a round of more than 50% plunge, Eastern Crypto embarked on a years-long overseas journey, and today's industry leader Binance has gradually risen overseas since then.

In the following years, mainland China continued to increase its crypto regulation. On May 21, 2021, the State Council's financial meeting released a signal to "crack down on Bitcoin mining and trading activities." Local governments began to shut down mining farms and banned mining. China's computing power, which once accounted for 75% of the entire Bitcoin network, has completely disappeared from the map. In November of that year, Bitcoin climbed to an all-time high of $69,000. In the carnival of the entire market, the Crypto industry no longer had any Eastern voices.

When STEPN made people exclaim "the pride of Chinese people", a group of Crypto practitioners became "digital nomads" in Dali during the epidemic; when FTX, which started in Hong Kong, returned to North America, it came to an abrupt end at its peak; when DCG, known as the Berkshire Hathaway of crypto, was shattered in the crash of 2022, the SEC took strong actions in Staking and stablecoin supervision. As time goes by, the gears of history have quietly turned.

On October 31, 2022, the Hong Kong government issued the "Policy Declaration on the Development of Virtual Assets in Hong Kong", announcing its determination to compete for the global virtual asset center. Then, within a few months, the policy was soaring, virtual asset ETFs were approved for listing, new licenses were issued, trading platforms were licensed, and even planned to open virtual asset trading to retail investors. The speed of advancement was dizzying. At the inauguration ceremony of the Hong Kong Web3.0 Association on April 11 this year, a number of senior officials including the Chief Executive of the Hong Kong Special Administrative Region, John Lee, the Chairman of the Legislative Council of Hong Kong, and the Secretary for Security of Hong Kong, Chris Tang, appeared on the platform, and the unprecedented strength of this policy was reaffirmed.

Behind the strong support is naturally the competition for talent and capital. It is just that the increasingly stringent targeting of Crypto by the US regulators has given Hong Kong the opportunity to take advantage of it and create a policy pattern in the current crypto world where "the East shines when the West is dark". Policy itself does not equal innovation, but policy is undoubtedly the best soil for industry innovation. In this world that is increasingly fragmented in the wave of deglobalization, the value of an open and inclusive policy environment is self-evident.

Key points of the new policy

On May 24, the Hong Kong Securities and Futures Commission issued the "Consultation Summary on Proposed Regulatory Provisions for Virtual Asset Trading Platform Operators Licensed by the Securities and Futures Commission". This summary received 152 submissions during the consultation period, which attracted widespread attention and covered opinions from industry and professional organizations, professional and consulting firms, market participants, licensed corporations, individuals and other stakeholders. Most of the respondents welcomed the relevant proposed regulations, but some people also raised questions that needed clarification. After considering a wide range of opinions and suggestions, the Securities and Futures Commission has modified and clarified some of the proposed regulations.

The vast majority of respondents supported the SFC’s proposal to allow licensed trading platforms to provide services to retail investors. The SFC will take a series of appropriate measures to protect the rights and interests of these investors, including measures to ensure suitability, good corporate governance, strengthen token due diligence and related disclosure.

The relevant guidelines set out a number of standards and regulations applicable to licensed trading platforms, including safekeeping of assets, segregation of customer assets, avoidance of conflicts of interest and cyber security. The SFC will provide additional guidance on the new regulatory requirements, other implementation details, and details of transitional arrangements. The Hong Kong SFC said it welcomes virtual asset trading platform operators who are ready to comply with the SFC's standards to apply for a license. Operators who do not intend to apply for a license should proceed to wind down their business in Hong Kong in an orderly manner. As for the existing virtual asset trading platforms, Cai Zhonghui said that virtual asset trading platforms that have not been operating in Hong Kong before next Thursday will not be able to continue operating; as for platforms that have been operating in Hong Kong before that day, there will be a transition period and they must apply to the SFC for a license within 9 months.

In the appendix at the end of this summary, the most anticipated regulation, the Guidelines for Operators of Virtual Asset Trading Platforms, has officially come into effect today. Here, BlockBeats has compiled some key points of the new regulations to provide readers with a clearer understanding.

license

The classification of virtual assets may evolve over time, and the classification of a virtual asset may change from a non-security token to a security token (or vice versa). In order to comply with the requirements of the licensing system and ensure the continuity of business operations, it is prudent for virtual asset trading platforms to apply for approval under both the Securities and Futures Ordinance and the Anti-Money Laundering Ordinance under the current system. The SFC will adopt a simplified application procedure so that dual license applications only require the submission of a single comprehensive application form.

To ensure the protection of retail investors, licensed virtual asset trading platforms must follow a series of measures covering business relationships, governance, disclosure and token review before providing services to retail investors. Retail investors need to understand the characteristics and risks of virtual assets, and the SFC will continue to work with the Investor and Financial Education Committee to carry out relevant educational work.

At the same time, the CSRC has considered suggestions to relax specific regulations on establishing business relationships with retail customers, agreeing that platform operators should comprehensively assess investors' understanding of the nature and risks of virtual assets, and will revise the "Guidelines on Virtual Asset Trading Platforms" accordingly. The CSRC will publish a one-step guide in the form of frequently asked questions (for example, on how to evaluate customers' risk acceptance and risk acceptance capacity for virtual assets).

Licensed virtual asset trading platforms should return virtual assets only when appropriate and when there is no suspicion of money laundering/terrorist financing activities, and after considering the results of due diligence on virtual asset transfer counterparties and screening of virtual asset transactions and related wallet addresses. In addition, the returned virtual assets should be returned to the account of the remittance institution, not the account of the remitter.

Licensed virtual asset trading platforms should take reasonable measures to reduce and manage the money laundering/terrorist financing risks associated with virtual asset transfers from non-custodial wallets based on risk sensitivity. The ownership or control of non-custodial wallets may change over time, and licensed virtual asset trading platforms should determine the ownership or control of non-custodial wallets regularly and based on risk sensitivity.

When a licensed virtual asset trading platform provides services to a virtual asset service provider or financial institution located outside Hong Kong and acting for the relevant client, the cross-border agency relationship requirements apply to the platform. The SFC has added paragraph 12.6.5 to the Anti-Money Laundering Guidelines for Licensed Corporations and Virtual Asset Service Providers Licensed by the SFC to clarify that licensed virtual asset trading platforms should continuously monitor virtual asset transactions and related wallet addresses.

transfer

The SFC considers that submitting the required data as soon as possible after a virtual asset transfer is an acceptable interim measure until January 1, 2024, taking into account the implementation of the Transfer Rules in other jurisdictions. Licensed virtual asset trading platforms should comply with other transfer rules and related regulations from June 1, 2023, and submit the required data securely while taking interim measures. In addition, some customers' use of non-custodial wallets for virtual asset transfers may pose a higher risk of money laundering and terrorist financing, so the SFC has set out the regulations for managing non-custodial wallet transfers in paragraph 12.14.

The transfer rules are a key measure for virtual asset service providers and financial institutions in combating money laundering/terrorist financing, as they provide the basic information needed for sanctions screening and transaction monitoring and other risk mitigation measures. This also helps prevent the processing of virtual asset transfers for criminals and designated persons, and detect such transfers when they occur.

The Financial Action Task Force (FATF) reiterated that jurisdictions need to implement the pass-through rules as soon as possible, as the “sunrise problem” cannot be resolved until all virtual asset service providers and financial institutions operating in major jurisdictions comply with the pass-through rules.

Other major jurisdictions (such as the United States, Singapore, the United Kingdom and Europe) have already implemented or are about to implement the transfer rules9. If the implementation of the transfer rules in Hong Kong is delayed, the competitiveness of virtual asset trading platforms licensed by us will be affected because virtual asset service providers and financial institutions operating in other major jurisdictions will be unable or unwilling to trade with them due to risk management concerns.

However, developing systems to facilitate the immediate submission of required information to recipient institutions may take time, even though licensed virtual asset trading platforms are well aware of the fact that the FATF has been promoting compliance with the transfer rules over the past few years. Given that the positive and rapid development of technology solutions and transfer rule networks in recent years have gradually eased the difficulties in exchanging required information between institutions, concerns about the immediate submission of information will be resolved over time. Furthermore, more virtual asset service providers and financial institutions operating overseas will be subject to the transfer rules.

The Anti-Money Laundering Regulations will cover centralized virtual asset trading platforms. Therefore, platforms that only provide virtual asset services (such as over-the-counter virtual asset trading and virtual asset brokerage activities) without automated trading systems and additional custody services will not be covered by the Anti-Money Laundering Regulations.

Tokens

Licensed virtual asset trading platforms should also conduct due diligence on tokens before including each token for trading. Therefore, it is not appropriate to exempt tokens that have been included by other licensed virtual asset trading platforms from review. The SFC only requires platform operators to consider the regulatory status of virtual assets in Hong Kong, but not the regulatory status of tokens in different jurisdictions where they provide trading services.

The proposal to require non-security tokens to have a minimum 12-month history is designed to address the difficulties that platform operators may encounter during their review. While the 12-month rule may not have prevented the recent crashes of some tokens, it is intended to reduce the risk of fraud that is difficult to reasonably detect and to reduce marketing efforts prior to the initial sale of tokens.

To ensure the protection of retail investors, licensed virtual asset trading platforms must follow a series of measures covering business relationships, governance, disclosure and token review before providing services to retail investors. Retail investors need to understand the characteristics and risks of virtual assets, and the Association will continue to work with the Investor and Financial Education Committee to carry out relevant educational work.

The CSRC has considered proposals to relax certain regulations on establishing business relationships with retail clients. The CSRC believes that platform operators should fully assess investors’ understanding of the nature and risks of virtual assets and revise the Virtual Asset Trading Platform Guidelines accordingly. The CSRC will issue a one-step guide in the form of FAQs (e.g. on how to evaluate clients’ risk acceptance and risk acceptance capacity for virtual assets).

Conflicts of interest between committee members and platform operators are also taken seriously. To this end, platform operators should establish internal policies and procedures to properly handle these conflicts. Licensed virtual asset trading platforms are required to conduct due diligence before including each virtual asset. The CSRC has fine-tuned the information disclosure obligations in the "Guidelines on Virtual Asset Trading Platforms", stipulating that platform operators should take all reasonable measures to ensure that the disclosed information on specific products is not false, biased, misleading or deceptive.

What do the new regulations mean for the crypto industry?

The competitive relationship between Hong Kong and Singapore started before Web3.0 and has undergone many changes. Singapore and Hong Kong are comparable in size and population, and both are economically developed countries and regions. Their rise trajectories are highly similar, and their development situations are also very close. Shopping paradises, multicultural tolerance, finance, trade and shipping industries are all very developed in both places, so they are known as the "Pearl of Asia".

As a highly open and outward-looking economy, Hong Kong has undergone three industrial transformations in the past few decades. Although the service industry accounts for a high proportion of Hong Kong's economy, it is mainly concentrated in traditional finance, trade, shipping logistics, tourism and exhibitions. However, this traditional and single industrial structure can no longer meet the needs of Hong Kong's development, and has become what some experts call Hong Kong's "resource curse."

In order to optimize the industrial structure and accelerate industrial upgrading, Hong Kong faces huge challenges. Although it has tried to redevelop the manufacturing industry, due to the high physical costs of land and labor in Hong Kong, there is almost no room for the development of high-tech high-end manufacturing in Hong Kong. In the global Internet entrepreneurship wave of the past two decades, Hong Kong has carried a large number of technology companies' mobility needs, but their business focus is often not in Hong Kong, and Hong Kong has not enjoyed the dividends brought by Internet technological innovation.

At the same time, some financial institutions and even headhunting companies in Hong Kong have entered Singapore for development and taken away a large number of Hong Kong talents, especially financial professionals engaged in asset management. The rise of Singapore has put pressure on other major cities in Asia, especially Hong Kong, which was once the center of Asia. This has led to the loss of local labor in Hong Kong in recent years, and there has also been a trend of capital outflow, and its status as an international center has been impacted. According to the ranking of the Global Financial Center Index (GFCI), Singapore has surpassed Hong Kong and risen to third place in the world.

Therefore, developing innovative financial technology industries such as Web3.0 and embracing a broader digital space has become one of the best choices for Hong Kong. The battlefield between Singapore and Hong Kong is also gradually expanding to the fields of blockchain and Web3.0.

Web3.0 may become a new battlefield for the Hong Kong-Singapore dispute

According to the 2022 Global Blockchain Talent Report - Web3.0 Direction jointly released by OKX and LinkedIn, as of June 2022, Singapore's blockchain talent has grown rapidly, becoming one of the top five blockchain talent countries in the world. In September 2022, almost all global events in Asia were held in Singapore, causing Singapore's accommodation costs to soar. However, Hong Kong is not standing idly by, and they are working hard to regain their position as an Asian financial center, and Web3.0 has become an important direction for them to try.

Although Web3.0 is still in its infancy, Singapore and Hong Kong are increasingly competing in this field. According to Yu Jianing, Executive Director of the Metaverse Industry Committee of the China Mobile Communications Association and Honorary Chairman of the Hong Kong Blockchain Association, the competition between Singapore and Hong Kong in the field of Web3.0 can be traced back to their emphasis on financial technology and innovation. Both places are international financial centers with strong financial and technological infrastructure, and are well-equipped to promote the development of Web3.0.

In November 2022, the Hong Kong FinTech Week and Singapore FinTech Week will be held simultaneously, bringing the competition to a climax. Hong Kong and Singapore are competing for talent, funds, and companies, and both places strive to become "crypto-financial centers" or "global Web3.0 centers."

At the Hong Kong Web 3.0 Association inauguration ceremony on April 11 this year, Chief Executive John Lee delivered a speech at the ceremony: "In order to seize the opportunities of Web3.0, the Hong Kong SAR has announced a new budget to allocate HK$50 million to Cyberport to accelerate the development of Hong Kong's Web3.0 ecosystem, especially to promote cross-sector business collaboration. Cyberport has also established the "Cyberport Web3.0 Base" at the beginning of this year to better gather global Web3.0 start-ups and talents."

At the same time, Lee Ka-chiu believes that the development of Web3.0 is now at a golden starting point. This disruptive technology can change many existing business operation models and create more new opportunities. Facing the development trend of Web3.0, Hong Kong must dare to become the leader of this wave of innovation.

A fiscal grant of 50 million, the Cyberport Web3.0 base, the establishment of the Hong Kong Web3.0 Association, the promulgation of new regulations on virtual assets... From a series of actions, it can be seen that the Hong Kong SAR government is full of expectations for the development of Web3.0 in Hong Kong, hoping to build a booming Web3.0 ecosystem and even lead the industry in terms of technological breakthroughs, model innovation and application innovation.

We must admit that Singapore has some first-mover advantages in the development of Web3.0, but Hong Kong is also trying to catch up. The road to innovation and change is never smooth, but we can foresee that the status of Chinese in the crypto industry can be based in Hong Kong, expand our footprint to the ASEAN market, the Asia-Pacific market and even the European and American markets, and gain more voice in the global market.

What do industry insiders think of the new Hong Kong regulations?

During the Hong Kong Carnival, BlockBeats conducted an exclusive interview with Waterdrip Capital CEO Dashan. He believed that due to some reasons, Hong Kong has suffered a serious loss of both capital and talent in the past few years. A new starting point is urgently needed to revitalize the economy. Therefore, during the two-day carnival, the Chief Executive of Hong Kong also attended many Web3.0 activities intensively, giving everyone great confidence with practical actions.

So as practitioners, especially as practitioners in the mainland, we don’t really need much support. As long as we are not suppressed, we can do things with confidence. Moreover, the entire Hong Kong government has shown a very positive attitude of support, and everyone is rushing in. Dashan thinks it is understandable. When project parties come, when institutions come, when money comes, when traditional institutions such as family offices come in when they see such a good environment, everything is moving in a good direction.

In terms of regulation, Dashan believes that Singapore is actually stricter than Hong Kong. "After all, Hong Kong has approved three compliant companies, but Singapore may not have any now, and they are all pure virtual currency trading companies. Hong Kong may not approve the fourth one in the short term, but this at least gives everyone hope, at least there is the possibility of compliance. Therefore, trading platforms that went to various small countries such as Dubai, Singapore, Malaysia, etc. are now coming to Hong Kong to wait and see." In his view, Hong Kong's compliance has clear protection for some other businesses, including asset management, because one side of compliance is supervision, and the other side is protection.