The dawn of Web3 in Hong Kong came quietly

Text/Yin Ning

Produced / Gyro Research Institute

** The high-profile new Hong Kong encryption regulations have been dusted. **

On May 23, the Hong Kong Securities Regulatory Commission issued the “Consultation Summary on the Proposed Regulatory Regulations Applicable to Operators of Virtual Currency Trading Platforms Licensed by the Securities and Futures Commission”, fully disclosing the previous consulting cases, and Accordingly, the “Guidelines Applicable to Operators of Virtual Asset Trading Platforms” and “Guidelines for Combating Money Laundering” were gazetted on the 25th, and both guidelines came into effect on June 1.

However, compared with the menacing concept of Hong Kong in April, when the policy boots really landed, the market expectations were not as good as before, and the heated discussions that were imagined did not appear. Looking at the circle, in addition to the license plate promotion of mainstream exchanges, only the images reported by CCTV linger on the homepage of encrypted retail investors.

In a lukewarm market environment, the tightening of compliance licenses, restrictions on retail investment and blurring of mainland channels have made the attractiveness of Hong Kong’s policies looming like water mist. Coincidentally, the US’s complaints against Binance and Coinbase have led to a gradual chaos in the regulatory situation, and the speculation between the East and the West has intensified.

In a daze, the dawn of Hong Kong’s encryption policy is quietly coming.

01. Hong Kong supervision: get up early, catch up late

As a typical legal capital, the establishment of Hong Kong’s policies emphasizes the principle of “same business, same risk, and same rules”. Business and risk attributes are subject to regulation.

In terms of policy trends, as early as 2017, when the encryption field was still in a mixed state, Hong Kong has paid attention to this field. Bitcoin Futures Contracts and Investment Products Related to Cryptocurrency” clarified the regulatory objects, and took the lead in establishing the regulation of cryptocurrency and futures contract transactions with securities nature.

In 2018, in the face of stricter supervision in the Mainland, Hong Kong also immediately expanded the scope of supervision, and issued the “Statement on the Regulatory Framework for Virtual Asset Portfolio Management Companies, Fund Distributors and Trading Platform Operators”, which included virtual asset management business Incorporate supervision, cryptocurrency exchanges and other operating platforms into the sandbox;

In 2019, Hong Kong established licensing development through the “Standard Terms and Conditions for Licensed Corporations Applicable to Management of Investment Portfolios Investing in Virtual Assets” and “Position Statement: Supervision of Virtual Asset Trading Platforms”.

Until now, judging from the new regulations, the core of Hong Kong’s encryption policy has not changed, and the protection of investors is still the priority. The definition and scope have been improved and optimized in the original framework, except for the necessary AML, compliance requirements, In addition to risk management, the two most different points from the previous compliance framework are the way to obtain licenses and the expansion of investment categories.

In the original encryption framework, Hong Kong focused on a centralized virtual asset trading platform that provides security token trading services. The platform obtains a license based on a voluntary licensing system, that is, the platform can voluntarily choose whether to be licensed, and it is stipulated that non-security tokens are not regulated. However, in the new regulations, virtual asset trading platforms uniformly implement a compulsory licensing system, and the scope of supervision is expanded to all centralized virtual asset exchanges that operate business in Hong Kong or actively promote their services to Hong Kong investors, regardless of onshore or offshore, Whether to provide security token trading services must be licensed and regulated by the China Securities Regulatory Commission.

The exchanges that have been in operation before have a 9-month application period, during which they can operate normally and have a 12-month non-violation period, and institutions that are not licensed and do not plan to apply will face liquidation after June 1. If you do not return, you will face legal responsibility.

**In the vernacular, those with a license will live, and those without a license will go. **

For the required licenses, the original licenses for security tokens are No. 1 and No. 7, but under the new regulations, non-security tokens are added to the VASP license again, which means that transactions after June 1 It is necessary to obtain the No. 1 license, No. 7 license and VASP license at the same time. Under the dual license mechanism, the compliance pressure of the exchange has further increased.

On the other hand, previously licensed exchanges were only open to professional investors (personal assets of no less than 8 million Hong Kong dollars and institutional assets of no less than 40 million Hong Kong dollars), and the liberalization of retail investors will be implemented in the second half of the year. Brand exchanges can provide trading services to retailers, but the SFC requires opinions with a track record of at least 12 months, and the currency should be included in at least two acceptable, investable, independent suppliers. In the index, only highly liquid non-security tokens will be considered for inclusion. Screening based on this condition, only BTC, ETH, LTC, DOT, LINK, BCH, Solana, Cardano, Avalanche, Polygon and more than 10 tokens However, as the United States Securities Regulatory Commission recently classified all currencies except BTC, ETH, and USD as security tokens, the specific judgment still needs to be determined by Hong Kong in the second half of the year.

It is worth noting that some content of the policy has not yet been clarified. Stablecoins have not been included yet, and regulatory arrangements will be implemented in 2023/24. NFT is difficult to define due to its nature, and has not been clearly mentioned in the framework, but this point can be compared to EU MiCA. Although NFT is not mentioned, it is Under the financial attribute, it is still under the supervision of the China Securities Regulatory Commission.

Looking back on the policy path of Hong Kong, it can be said that we got up early and caught up late.

In 2017 and 2018, when Singapore, Europe and other mainstream regions were still in the early exploration and wait-and-see stage, a basic framework was formed, and a number of representative companies such as FTX and Bitmax emerged, but it was precisely because of the premature establishment of a regulatory mechanism , Superimposing the government’s principle of free development in this field, the encryption field that is still in chaos has opened the era of great exploration, users, enterprises and institutions are gradually migrating to Western countries, the right to speak in encryption is gradually declining in the East, and Singapore has risen as a springboard for the West. Over time, Dubai, the United Kingdom, Japan and South Korea and other countries have formulated plans to rush in to seize the market.

Although compared with the United States, the mainstream country, Hong Kong still lacks the right to formulate global virtual asset rules, and the new encryption regulations are more conservative, but in the world, Hong Kong can be regarded as an area that has clear boundaries on issues such as retail investors, KYC, and currency listing. First, especially in the context of Singapore’s hesitation and selective enforcement by the United States, Hong Kong’s encryption framework is undoubtedly forward-looking and open.

However, in the face of the rare policy window, the market’s reaction was slightly flat.

02. The market is cold: compliance is becoming stricter, and channels are difficult to distinguish

On May 24, a short video with a duration of 1 minute and 38 seconds was circulated in the encryption community. The content was that CCTV announced that the Hong Kong Securities Regulatory Commission announced that all preparations for Hong Kong virtual asset transactions were basically ready. From June 1, the Hong Kong Securities Regulatory Commission will implement Mandatory licensing system for virtual asset trading platforms.

In the interpretation of the encryption community, this video, as a major move to support cryptocurrency in the mainland, provides an opportunity to attract new traffic. There are many in the community who use the support of the central government and the take-off of BTC as selling points to attract new people; Zhao Changpeng also tweeted that historically, This behavior will lead to a bull market, and there is quite an attitude of bullish propaganda.

** But other than that, there is no other splash in the market. **

The most intuitive thing is the currency price, which is perfectly presented in the secondary market. Compared with the Hong Kong concept currency, which skyrocketed hundreds of times in the rally in April, this sector did not rise during this policy announcement, and even generally fell. Take the CFX released by the domestic public chain Conflux as an example. 197.3%, but as of June 9, it fell by 21.16% within 7 days, and fell by 44.69% in the past 30 days. Hashkey, a licensed exchange that was directly affected by the positive news, and the ecological token GARD issued by its capital department Hashgard Community, fell by 9.1% on May 25th, even though it was still in a downward trend on June 1st.

**Although the spreading bear market is still mainly responsible, in the public discussion, the high frequency of compliance costs, retail liberalization and mainland channels also indicates a hesitant attitude towards Hong Kong policies. **

For the exchange, although obtaining a license is beneficial to the first-mover advantage, the high cost of compliance in Hong Kong has also become an important factor for its market consideration. Take the typical No. 7 license as an example. Compared with the No. 1 and VASP licenses, the No. 7 license is a license that can provide automated trading services, which is very important for exchanges. However, the application for the No. 7 license is not easy. The cost of the license application process is at least 300,000 per month. It needs to have a complete set of IT systems, mature configurations such as trading, liquidation, and custody, and there are not a few shareholders’ financial assets and labor costs. For example, At least 2 Responsible Officers (ROs) with experience in virtual asset services must be appointed among the requirements.

The operation and maintenance after applying for a license is more expensive. Taking insurance as an example, Hong Kong requires the No. 1 licensed exchange to purchase corresponding insurance to hedge risks. The industry fee is usually about 2% per year, which is a lot of money for huge assets. BC Group, the parent company of the exchange OSL, which has obtained licenses No. 1 and No. 7, disclosed in its 2022 financial report that the 43.8 million Hong Kong dollars in administrative and other operating costs in the 22 fiscal year were mainly for the establishment of corporate and technical infrastructure for the digital asset business ( Including technology, legal and compliance, insurance), the total amount of this item is 89.8 million Hong Kong dollars.

** “Compliance is nothing more than the establishment of rules. It will not create a market. It is unnecessary to apply for a license just for compliance. It is necessary to consider where the market is.” A senior person expressed his opinion on this. **

The actual market has already proved this statement. The compliant exchanges in Hong Kong have a severely limited living space. Still taking OSL as an example, the IFRS revenue of the OSL digital asset platform in FY22 was only HK$71.5 million, the total annual trading volume was HK$455.9 billion, and the average daily trading volume was about HK$1.3 billion, which is comparable to that of the top exchanges. The difference is more than a star and a half. The high cost will also be reflected in the listing fees. According to market sources, the STO listing fees for real assets on Hong Kong compliance exchanges are as high as millions of dollars. Compared with overseas compliance exchanges that only cost tens of thousands of dollars, the disadvantages are prominent .

Secondly, the positive impact of this policy on retail investors is also extremely limited. On the one hand, the degree of liberalization of retail is still insufficient. It is expected that there are many restrictions on investable currencies, and the key DeFi field has not yet been clarified. How this field will be included in the investment portfolio of retail investors in the future remains to be seen. On the other hand, transaction costs are also a point of concern for retail investors. Compared with the 3% cost of compliant exchanges, the fees of mainstream exchanges such as Binance and OKX are basically within one-thousandth, and the low handling fees of overseas exchanges Obviously friendlier.

**Finally, it is difficult to distinguish the opening of the mainland channel. **

Although there is no restriction on deposits and withdrawals in the rules, there should be no restrictions on deposits and withdrawals of Hong Kong dollars and encryption, but even if it bears part of the shares of Southeast Asia, Japan and South Korea, the market capacity of Hong Kong is extremely limited, and the opening of a broader mainland channel is the only way to become window key. Only from the current point of view, the financial mouth does not seem to buy it for the policy. Although the Hong Kong Monetary Authority (HKMA) made it clear that it will not set higher thresholds for virtual asset platforms alone, some small banks such as Zhongan have publicly stated that they can accept encrypted deposits, and some state-owned banks are actively engaged in encrypted business, but in reality In business, considering compliance costs and risk control, even licensed companies have difficulties in bank accounts. An executive of an encryption company holding a Hong Kong Type 9 license said, “We cannot open a bank account in Hong Kong, so we can only choose overseas banks to cooperate with. It is not clear what information the bank needs, and the bank itself is obviously not very clear.”

One side is actively introducing, while the other side is standing still. The opposition between the two sides makes the industry think that a consensus has not yet been reached. Phyrex@Phyrex_Ni, a senior analyst, said frankly on his Twitter, “The biggest problem in Hong Kong is not compliance. For risky assets, local stock funds are hardly worth mentioning. The real problem is who is the current leader in the cryptocurrency market. The main buying force, then whether this force can take advantage of Hong Kong’s compliance to come to the stage, if it can, it will inevitably make the circulation of funds uncontrollable.”

On the other side of the channel is the local old money in Hong Kong. The general consensus in the industry is that compliance will promote the intervention of traditional capital, but the reality is not without resistance. First of all, the old money in Hong Kong is highly conservative and has a wait-and-see attitude towards encryption. "The entry is intentional, but for Laoqian, the choice of portfolio targets is highly diverse, and the encryption industry still has a high degree of uncertainty. Although there are also subsidiaries to test the water, at this stage, it is more to wait and see than to participate. .” Said the person in charge of the new economic business department of an asset management company. In terms of investment philosophy, Laoqian is also quite different. Due to the tightly coupled real estate economy, local funds have limited knowledge of technology companies, and most of them highly recognize the platform rentier model, and their pricing power is more than inferior to that of overseas companies. , This point can be seen from the stock market. Nasdaq is fond of high-tech stocks, while the Hong Kong market has a preference for luxury stocks and real estate stocks. It will take some time for cognitive changes. There is still a time lag in the entry of old money, which also adds a bit of calm to the current Hong Kong market.

03. The future of policy: Occasional sparks, but still waiting to start a prairie fire

Under the influence of many factors, the enthusiasm for the policy is somewhat flat, but the spark brought by this policy is still igniting the prairie fire.

On the one hand, Hong Kong’s liberalization of funds from the mainland is more predictable, and mainstream exchanges have not given up on possible markets. Many leading exchanges have publicly announced that they will apply for a virtual asset service provider license. Taking OKX as an example, its founder Xu Mingxing said that OKX has been preparing to apply for a Hong Kong encryption license since 2022, and established a Hong Kong entity in March Officially launched virtual asset services in Hong Kong.

Laoqian is also interested in making moves. Although most of the measures are pilot projects and the focus is on the secondary market, there are also traditional institutions targeting this field and taking actions in the primary market by trying to apply for licenses, such as asset management companies Yibo Finance, brokerage companies Tiger Brokers, Interactive Brokers, etc. The project leader of a large local trust institution also told the author, “We are building a hybrid financial platform and preparing to apply for a license, and we are already recruiting ROs.”

On the other hand, Hong Kong’s compliance also seems to have stirred up the murky waters of global regulation. The encryption situation in the United States is deteriorating, and political wrestling and personal conflicts broke out. A few days ago, the US SEC filed 13 charges against Binance and Changpeng Zhao. The shock in the industry also led to rumors of Binance’s coaching change. It is rumored that the successor CEO is in charge of the compliance sector. People’s daydreams, and then another local giant, Coinbase, could not escape the suspicion of suing.

As the SEC listed as many as 67 cryptocurrencies as securities, except for the strong currencies such as BTC and ETH, the market fell by more than 20% on June 10. In view of FTX’s political party donations and civil-based litigation types, the industry has shown great distrust of the timing and purpose of regulation. It believes that the SEC’s move is only to ease financial pressure, transfer conflicts, and compete for law enforcement power, but from the core Look, the SEC’s accusation is not groundless. Most tokens based on POS consensus are indeed suspected of being securities. Fortunately, there is also a positive side. SEC supervision more or less forces Congress to clarify the encryption attributes and framework. In the long run, it remains to be seen whether the U.S.’s move will lead other regions to follow suit and screen market participants through compliance. In this context, the clarity of regulatory boundaries is particularly important.

Hong Kong, as a city that proposes a complete and clear encryption framework, its compliance is at the forefront even on a global scale. But compliance alone is not enough. There is not only one place where compliance can be obtained in the world. At a high cost, it is necessary to obtain the flow of people and capital brought about by encryption, the linked industry, supporting cognition and the real deal Only by having a proper funding channel can it go further.

In this regard, Hong Kong has obviously also taken action. Green bonds, digital Hong Kong dollars, and the Web3 Association all show their determination. In response to U.S. regulation, Hong Kong SAR Legislative Council member Wu Jiezhuang tweeted that global virtual asset exchanges (including Coinbase) are welcome to come to Hong Kong to apply for compliance exchanges and discuss listing plans, and he is willing to provide assistance. Chen Haolian, deputy director of the Financial Affairs and Treasury Bureau of the Hong Kong government, also said that the Hong Kong government is actively participating in the virtual asset value chain, and aims to launch a stable currency regulatory framework by the end of next year.

It is worth emphasizing that, whether it is a clear framework or strong supervision, compliance is an inevitable product of the development of the industry to a certain stage. It is meaningless to describe it only from the perspective of good and bad, and only on the premise of compliance Only under the guarantee of safety and security, off-market funds will consider entering the market. After all, for the market value of the traditional financial industry as high as tens of billions, trillion-scale encryption is only a scratch.

After the quiet dawn, will Hong Kong Web3 usher in the hustle and bustle of the day?

East and West are in an encrypted century horse race, and the outcome is still unpredictable.