Introduction
On 20 February 2023, the Securities and Futures Commission (the “SFC”) launched a public consultation (the “Consultation”) to seek views on the proposed requirements for operators of virtual asset trading platforms (“VA trading platforms”) under the new SFC licensing regime.
The Anti-Money Laundering and Counter-Terrorist Financing (Amendment) Bill 2022
In December 2022, the Hong Kong Government passed the Anti-Money Laundering and Counter-Terrorist Financing (Amendment) Bill 2022, which introduced a licensing regime (“VASP regime”) for VA trading platforms. Under the VASP regime, VA trading platforms which carry on business in Hong Kong or actively market to Hong Kong investors will be required to be licensed with the SFC. Please refer to our previous publication on this subject matter here.
The VASP regime was scheduled to take effect in March 2023, but this has now been delayed to 1 June 2023, with a transitional arrangement further discussed below. In order to finalise the licensing requirements under the VASP regime, the SFC has launched a consultation to seek views on regulatory requirements under the VATP Guidelines (further discussed below), which are proposed additions or variations to the current requirements which apply to platform operators licensed under the Securities and Futures Ordinance (“SFO”).
Upon commencement of the VASP regime, the SFC will regulate the trading of security tokens by VA trading platforms under the existing SFO requirements, and the trading of non-security tokens by VA trading platforms under the VASP regime.
The new VATP Guidelines
The SFC proposes to introduce a Guideline for Virtual Asset Trading Platform Operators (“VATP Guidelines”)1 with which all licensed VA trading platforms must comply. The proposed regulatory requirements in the VATP Guidelines are additions to or variations of the existing requirements under the VATP Terms and Conditions, which is a set of requirements that currently apply to platform operators licensed under SFO. The VATP Guidelines cover both licensing requirements and conduct requirements applicable to VA trading platforms.
The SFC seeks comments on the following proposed requirements:
(1) Retail access to licensed VA trading platforms
Retail access has been one of the most debated and controversial topics of the VASP regime. The SFC originally proposed to restrict VA trading platform access to professional investors. However, it was repeatedly suggested in meetings at the Legislative Council and on other occasions that the SFC should consider relaxing this requirement so that retail investors will be allowed access to licensed VA trading platforms, as denying retail access may in practice cause more harm than protection to these investors. The SFC now seeks views from the public on allowing retail access to licensed VA trading platforms subject to robust investor protection measures, such as the following:
(i) suitability assessment: When onboarding a retail client, in addition to existing knowledge assessment and training requirements, licensed VA trading platforms will need to conduct suitability assessments. Licensed VA trading platforms should not offer a virtual asset that falls within the definition of “securities” under the SFO to retail customers.
(ii) token admission and review committee: Licensed VA trading platforms will be required to set up a token admission and review committee responsible for establishing the criteria for a virtual asset to be admitted for trading, and for halting, suspending and withdrawing a virtual asset from trading.
(iii) token due diligence and admission criteria: Licensed VA trading platforms will be subject to certain due diligence and admission criteria when determining whether to make a specific virtual asset available to retail clients, such as to consider the background of the management or development team and regulatory status of the virtual asset, any material risks posed by the virtual asset and the relevant security infrastructure. When a licensed VA trading platform intends to make a specific virtual asset available for trading by retail clients, it should also ensure that the virtual assets will satisfy the “large-cap” criteria, which means that the virtual asset is included in at least two acceptable indices issued by at least two independent index providers.
(2) Insurance / compensation arrangement for licensed VA trading platforms
Under the existing regime, VA platform operators which are licensed with the SFC are required to maintain an insurance policy covering the risks associated with client virtual assets held in hot and cold storage. The SFC notes the practical difficulty for virtual asset businesses to obtain such insurance, and proposes to relax the requirement by allowing a combination of third party insurance with funds of the platform operator or a group company set aside on trust and designated for the purpose of covering such risks.
(3) Trading in virtual asset derivatives
Under the existing regime, VA platform operators which are licensed with the SFC are not allowed to offer, trade or deal in virtual asset futures contracts or related derivatives. The SFC now seeks views on the type of business models and virtual asset derivatives which licensed platform operators may wish to offer first due to the increasing interest and demand in such products.
(4) Other proposals
In addition to the above, the SFC also proposes to make other adaptations to the existing requirements, such as to have a stand-alone chapter in the existing Guideline on Anti-Money Laundering and Counter-Financing of Terrorism (For Licensed Corporations and SFC-licensed Virtual Asset Service Providers) which apply to licensed VA trading platforms.
Timing
The VASP regime will take effect on 1 June 2023. The SFC proposes a 12-month transitional period for compliance with the new requirements by existing VA platform operators licensed under the SFO. VA trading platforms operating in Hong Kong now (or any time prior to 1 June 2023) having a meaningful and substantial presence may continue to operate during a grace period from 1 June 2023 to 31 May 2024, provided they submit a fully completed licence application between 1 June 2023 to 29 February 2024. VA trading platforms which can take advantage of the grace period will include those which are licensed under the SFO or in the process of applying for a licence under the existing regime conducting business in non-security tokens in Hong Kong.
Next Steps
The SFC is actively soliciting views, particularly on whether to allow licensed VA trading platforms to serve retail investors, and if so, the necessary measures to be implemented to ensure retail investors are adequately protected. Interested parties are invited to share their views by 31 March 2023.
