A Year Ago

The UK Financial Conduct Authority (FCA) has been in consultation with organisations involved with Cryptocurrencies and, following its statement in 2018 that it would offer further guidance, has now issued a press release confirming how it will be regulating different types of Digital Assets.

The FCA has categorised Digital Assets into four groups, broadly in line with the guidance that it gave in its consultation paper CP19 in January 2019, as to the way tokens will be regulated, giving the industry much-needed clarity. However, be assured all Digital Assets will need to comply with FCA money laundering regulations - which is to be welcomed:

  • Exchange tokens – will be treated as being “unregulated” and therefore will not be under the remit of the FCA e.g. Bitcoin ought to be an Exchange token, but there is some doubt if Ethereum is one too.

  • Security tokens – are classified as “specified investments” and will be under the FCA’s domain, which means that any organisations dealing in security tokens will need to be regulated.

  •  Stablecoins – for those tokens backed by “Fiat”, these are to be treated as e-money and fall within the FCA’s remit to be regulated. This is consistent with current regulations, as one does not need to be authorised to trade bank deposits i.e. if you offer a service whereby you manage someone’s “cash” by moving it between say $,€, Yen CHF, £, etc, but all held within a multi-currency deposit account, you do not need to be authorised by the FCA!

  • Utility tokens – these, in “most circumstances”, will not be regulated and therefore not the responsibility of the FCA. 

Many tokens, especially during the ICO mania of 2017/18, claimed to have been utility tokens but may find that the FCA now classifies them as security tokens, which could prove a regulatory challenge for the firms that issued them and their advisors.

A firm can issue security tokens without needing a regulatory license, in the same way, that issuing shares do not require a license. But in many scenarios in which the tokens are traded, the advisers and brokers handling the tokens, and the financial promotions regime, will need authorization”, it was stated by the FCA. It then went on add, “If a security token is tradeable on the capital market, it will further be considered transferable security under the European Union’s Markets in Financial Instruments Directive (MiFID), and that regime will apply too”.

It is worth noting that if an asset is not regulated and falls outside the scope of the FCA’s regulation, then investors will not be covered by the Financial Services Compensation scheme or be able to take any complaint they have about such an investment to the Financial Ombudsman!

The FCA guidance is a positive step forward for the Digital Asset industry as it would appear that there is, without doubt, interest in the digitisation of many asset classes, enabling markets to operate more efficiently. The FCA’s latest guidance gives compliance staff in banks, brokers, asset managers and professional advisors greater clarity to position themselves, as they increasingly become more engaged with Digital Assets.


Financial Regulation
Last year, the European Union agreed on new prospectus regulations which will come into force on July 21st and will give clarity as to how much capital a company is able to raise when doing a securities offering in each member state.

It will be possible to raise up to 8 million euros within any 12-month period from the general public, without the need for a prospectus.

The image shows the different amounts that each country will be able to raise before a prospectus is required.
This new regulation will be of great assistance to firms which intend to launch a Securities Token Offering (STO), in particular, those STOs that wish to raise a small amount of capital. STOs will also benefit as more Digital Exchanges are launched, which themselves will list these newly created securities.

Digital Asset Exchanges are where you can trade Digital Assets for others, or fiat currencies, such as £, US$, Yen CHF or Euros. If you need access to technical analysts’ tools, stop losses, profit targets, etc, then you are likely to have to open an account. However, if you just wish to make the occasional trade, there are Exchanges (often referred to as platforms) which you can use that do not require an account to be opened. There are typically three types of Digital Exchanges:

• Trading Platforms – connect buyers and sellers and take a fee from each transaction.
• Direct Trading – these platforms offer direct person to person trading where individuals from different countries can buy and sell. Direct trading exchanges don’t have a fixed market price, instead, each seller sets their own price that they wish to trade at.
• Brokers – anyone can use these to buy Digital Assets at a price set by the broker and are similar to foreign exchange brokers.

In the UK and many other jurisdictions, pension managers, mutual fund managers, and many private client portfolio managers are often restricted by their investment mandates and client agreements, to hold but only a small percentage of assets in securities that are not listed on a recognised exchange. There are many exchanges/platforms around the world that are able to trade Digital Assets - such as Coinbase, Kraken, Binance, Poloniex - and you can find a list here that gives a brief summary of ten of the better known Digital Exchanges.

It is not just new exchanges, but we are also seeing traditional exchanges entering this sector, such as the London Stock Exchange, which has recently listed UK’s first Digital Asset (2030) and has even licensed its technology to the Hong Kong Stock Exchange AAX. The world’s largest operator of Stock Exchanges, Intercontinental Exchange (ICE), is active in this space. ICE is a Fortune 500 company which owns the New York Stock Exchange (which is the world’s largest).

We have just seen new legislation being introduced in Europe, the 5th Money Laundering Directive (5MLD), which will bring it in line with the US. The 5MLD will impact Digital Assets which are involved in the provision of two different services:

• Digital Asset Exchanges – where one can buy and sell Digital Assets and traditional fiat currencies.
• Custodian Digital Wallets - firms which hold private keys

European members will now have 18 months to implement...

Capital Markets
Financial Regulation