In February 2023, the HKMA assisted the Hong Kong Government in offering a HK$800 million tokenised green bond (Tokenised Green Bond), effectively the first tokenised green bond issued by a government anywhere in the world. Please refer to our publication in April 2023 here for further analysis.
In the Report, the HKMA analyses the lifecycle workflows of the Tokenised Green Bond, from issuance preparation to allocation, closing, and settlement. The Report also sets out various perspectives and considerations of the HKMA in relation to digitalized bond transactions in Hong Kong, as well as ways to unlock the full potential of tokenisation.
Considerations in issuing digital bonds in Hong Kong
The purpose of the Report is to share understanding in relation to how digitalized bond and traditional bond transactions in Hong Kong differ and to allow interested issuers to learn from the Project Evergreen experience. The considerations range from technology and platform design through to transaction structuring considerations.
For example, potential issuers should consider whether they would like to opt for a distributed ledger technology (DLT) issuance that is platform based on a public or private blockchain; a public blockchain generally has no restrictions on who may access the blockchain, thus offers more transparency; while the latter is only available to authorised users, thus offering greater confidentiality. Variations like “public permissioned” blockchains may offer further functionality and issuers will need to ensure they understand the exact features of the system they are interacting with. The design of the DLT platform will also affect data availability with respect to transactions and holdings. In Project Evergreen, the platform was designed to allow varying degrees of data visibility to different parties, depending on their role relative to the relevant smart contracts.
Potential issuers should also consider whether they would prefer the digital bond to be issued directly on the DLT platform as a “native” issuance (i.e. where the bond is born on the platform), or issued outside the DLT platform first as a “non-native” issuance and then have it tokenised on the DLT platform. The Tokenised Green Bond was born in a “traditional” way upon lodgment of an electronic, “paper-equivalent” underlying instrument with the Central Moneymarkets Unit (CMU) System, so was “non-native” in nature and involved the use of the conventional system of a central securities depository that offered greater familiarity to market participants. Some potential issuers may prefer to structure a “native” issuance which dispenses with the need for the traditional underlying instrument - one benefit of such method is that it allows an enhanced degree of integration with the DLT platform and seamless settlement, as transactions in relation to the bond simply involve moving the bond and cash tokens between wallets of buyers and sellers (although, as we have seen in other “native” bond issuances including the EU, there may still be a “back-up register” or similar more traditional version of the relevant records which can be brought into a primary role if certain triggers occur, such as technology failures).
Breakthroughs and efficiency gains from Project Evergreen
The Tokenised Green Bond in this case incorporated a number of the core elements of a traditional off-chain issuance, with an off-chain bookbuilding and pricing on the pricing date before lodgement of the traditional instrument with the CMU on a T+1 basis. The CMU then implemented the on-chain aspects, acting as both (i) tokenisation registrar - originating the on-chain smart contracts for the issuance of the tokens that would represent the beneficial interests in the Notes to be issued on the bookbuilding and pricing date (T) and (ii) as the cash token manager - originating the smart contracts representing HKD cash tokens minted by CMU (a unit under the HKMA) on-chain.
The Report summarises various efficiency gains realised by Project Evergreen:
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Paperless creation
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- No need for a physical bond certificate and no human intervention to create it, thereby avoiding potential for human error.
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Common system
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- One single system to manage and run the issuance, settlement, payment and redemption process, so one single “source of truth”.
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Atomic DVP settlement
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- Instant simultaneous bond transfer and cash payment on a common DLT platform, reducing settlement delay and risks.
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End to end DLT across the bond lifecycle
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- Primary issuance, secondary trading settlement, coupon payment and maturity redemption all take place on DLT which reduces risks with multiple manual processes, lowers servicing time on different channels, and avoids need for synchronization.
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Enhanced transparency
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- Real-time data synchronisation across different parties enhances transparency, whilst enabling greater privacy vis-à-vis other platform participants.
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What more could be done to promote tokenisation in the bond market
In the Report, the HKMA also explores different ways to fully unlock the potential of DLT in bond markets, including exploring the potential of using different DLT platforms, as well as issuing digital bonds in currencies other than Hong Kong Dollars to cater for the needs of different issuers and investors.
If acceptable to a bond issuer, investors and the DLT platform provider, and subject to resolving any legal and regulatory issues, the Report suggests that the cash leg of the process could take the form of stablecoins, cash tokens minted by commercial banks or off-chain fiat cash payment. The Report pushes for standardization of document protocols to facilitate DLT adoption, and endorses the Bond Data Taxonomy that has recently been updated for DLT issuance information by the International Capital Markets Association. With regard to green bonds or other bonds that have particular targeted purpose or impact outcomes, the Report also encourages studies on the feasibility of incorporating real-time impact tracking and reporting features, making them accessible to end investors to take advantage of the data handling functionality of distributed ledger technology in service of such targeted capital deployment.
In addition, in the Report, the HKMA considers potential solutions to address market fragmentation concerns, such as establishing inter-operability and cross-platform connectivity as between DLT platforms and conventional systems. These issues are forefront of mind for investors and market infrastructure providers globally and it is noted that scaling is unlikely to be achieved until interoperability for different underlying systems, including as between cash and assets ledgers as well as between different asset ledgers, is solved.
The HKMA also considers the possibility of enhancing the legal and regulatory framework with a view to improving liquidity. In particular, the HKMA notes that some overseas exchanges have developed listing solutions for issuers, such as the Luxembourg Stock Exchange (which offers issuers the possibility of registering their digital bonds on its Securities Official List without admission to trading) and the SIX Digital Exchange in Switzerland (which completed issuance of a digital bond in 2022 on the DLT-based CSD of SIX Digital Exchange). It sees more established platforms as having the benefit of providing greater certainty and stability in the market, which in turn enhances attractiveness of the market to potential issuers.
What other ESG-related initiatives have been launched in Hong Kong and where does the Tokenised Green Bond fit in?
The issuance of the Tokenised Green Bond also needs to be seen in the context of wider ESG-related developments in Hong Kong. In recent years, Hong Kong regulators have been increasingly focused on developing the ESG regulatory regime and promoting sustainable finance initiatives. Please refer to our ESG Guide – Hong Kong published in November 2022 for further details.
In parallel, the Hong Kong Government and certain regulators in Hong Kong have been eager to explore various initiatives to develop Hong Kong as a sustainable finance hub and a hot spot for investors seeking to bring green and sustainable finance products to market (with the Tokenised Green Bond being seen as something of a flagship).
Below we set out a few examples of the initiatives of the Hong Kong government and the regulators.
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Authored by Andrew McGinty and Vanessa Kwok.
