The rising star of virtual asset exchanges is budding in the compliant soil of Hong Kong.

Author: kayle

After the US regulatory authorities imposed a hefty $4.3 billion fine on Binance, this protracted trial has come to a temporary end. In the past few years, regulatory control over the cryptocurrency industry has significantly increased. Prior to Binance, major cryptocurrency giants such as Bitfinex, BitMex, Bittrex, Ripple, and FTX have taken turns clashing with regulators, signaling the end of the wild era of cryptocurrencies.

With the advent of strict regulation, the old order of the cryptocurrency industry has been disrupted, and a new group of industry giants will emerge from the compliant soil. Amid the changes and opportunities, people naturally turn their attention to Hong Kong. Since the release of the "Policy Statement on the Regulatory Framework for Virtual Asset Portfolios" in October last year, this historically significant international financial center has provided a stage for the cryptocurrency industry to flourish.

In just over a year, two compliant virtual asset trading platforms, OSL and HashKey, have been launched, and other platforms such as VDX and PantherTrade have appeared on the list of license applications. Behind them are the shadows of traditional securities firms, such as Success Securities and Futu Holdings. With the entry of compliant players, pressure has been placed on native giants, and the industry is witnessing an unprecedented reshuffle, marking the arrival of a new era for compliant virtual asset exchanges in Hong Kong.

Judging Binance

"Early compliance was not good enough, and mistakes had to be punished," said Binance co-founder He Yi after the US Department of Justice issued a judgment against Binance, publicly admitting to the mistakes.

According to the plea agreement, Binance has been confirmed of multiple charges, including money laundering, unlicensed money transfers, and violations of US sanctions. As part of the settlement, Binance will be forfeiting $2.5 billion and paying a criminal fine of $1.8 billion. The former CEO, Zhao Changpeng, also stepped down under regulatory requirements.

The regulatory judgment against Binance has revealed the "original sin" of early cryptocurrency exchanges in terms of compliance and officially declared the end of the wild era.

Looking back at Binance's history, it was born in the still imperfect regulatory market of China in 2017, and later went overseas due to the ICO ban. Its early style of operation was known for being bold and aggressive, quickly becoming a cryptocurrency exchange giant by listing a large number of high-risk AltTokens to rapidly acquire users.

During its six years of overseas expansion, Binance has repeatedly emphasized the importance of compliant development, including obtaining virtual asset-related licenses in multiple countries and regions, and facilitating fiat currency transactions. Despite making many efforts in compliance, Binance's early success was largely built in an unregulated market environment, with imperfect compliance and even resistance to scrutiny quietly embedded in its genes.

If this is the case for Binance, it is even more difficult for other small and medium-sized platforms to shake off this original sin. Prior to this, cryptocurrency exchanges such as BitMEX, Bittrex, and FTX have also been penalized by regulatory authorities for compliance issues, and numerous small exchanges have been involved in fraud and run away. These early wild-growing trading platforms have revealed the dark side of the cryptocurrency industry, causing many traditional financial institutions and investors interested in virtual assets to hesitate.

Opportunities in Hong Kong

Fortunately, with Binance's admission and punishment, regulation is gradually falling into place, leading to industry changes.

Binance's new CEO, Richard Teng, who succeeded Zhao Changpeng, made compliance the "Bible" on his first day in office, emphasizing cooperation with regulators to provide important user protection.

However, despite the US regulators issuing multiple fines against cryptocurrency exchanges, the SEC has yet to clearly define how trading platforms should operate within a framework and regulations. Even the US cryptocurrency exchange giant Coinbase is quite confused about this. Last year, Coinbase submitted a petition to the SEC to draft new rules for digital assets, but did not receive a response. As a result, Coinbase sued the SEC in April of this year, and the latter responded two months later, stating that it would take about four months to respond to the request, but ultimately did not fulfill it. Last month, Coinbase publicly accused the SEC of continuing to employ a "delay tactic."

On social media, Coinbase's CEO Brian Armstrong has "attacked" the SEC more than once, stating that it refuses to communicate and meet, implements a policy of intimidation, and refuses to provide written opinions to the industry on "what" and "why."

Compared to the uncertainties in US regulation, Hong Kong has opened the door for the establishment of compliant exchanges. On June 1st of this year, the Securities and Futures Commission (SFC) of Hong Kong released the "Guideline for Virtual Asset Trading Platform Operators," which meticulously specifies the financial, business conduct, competence, operation, market manipulation prevention, client asset custody, internal controls, and network security for licensed platforms.

In the context of the closed attitude of the US SEC, the clear and open policies and guidelines of Hong Kong regulators provide important compliant soil for the exchange industry, and are expected to nurture new unicorns.

Budding Newcomers

Since the release of the "Policy Statement on the Regulatory Framework for Virtual Asset Portfolios" in Hong Kong over a year ago, the cryptocurrency industry in Hong Kong has flourished, with several new virtual asset exchanges taking center stage.

According to the latest list of virtual asset trading platforms from the Hong Kong SFC, OSL and HashKey are currently licensed to provide virtual asset trading services, and there are 9 other exchanges such as BGE, VDX, and OKX applying for licenses.

Looking at the backgrounds of the 11 licensed/applying platforms mentioned above, it is clear that traditional financial forces are beginning to penetrate the cryptocurrency asset industry.

Except for VAEX, which is supported by OKX and Kucoin, the other 9 platforms have varying degrees of background in the traditional financial industry. For example, the founder of HashKey, Xiao Feng, previously worked at the Shenzhen Economic Special Zone Branch of the People's Bank of China and the Shenzhen Securities Management Office; the CFO of BC Technology, the parent company of OSL, Hu Zhenbang, has worked for several enterprises including a listed technology company, investment bank, and one of the Big Four accounting firms; and the co-founder of HKVAX, Wu Weiliang, previously served as the Managing Director of the International Department of China CITIC Futures.

VDX and PantherTrade, with traditional securities firms holding shares, further demonstrate their status as "regular troops." According to publicly available information, the former is backed by the traditional securities firm Success Securities, and the latter is a wholly-owned subsidiary of Futu Holdings. Recently, Success Securities was approved to become the first securities firm in Hong Kong to provide virtual asset trading services to both institutional and retail investors.

Talents from the traditional financial industry and securities firms are increasingly involved in the virtual asset industry, ushering in the integration of classical finance and emerging cryptocurrency industries. Under the compliant era, the rules of the cryptocurrency industry will also move closer to the mature regulations of the securities market.

In the past, an exchange almost encompassed everything from customer acquisition, asset custody, trade matching, fund transfers, etc., while in the traditional securities market, exchanges mainly focus on trade matching, with users coming from various brokerages, assets distributed among asset management and custodian institutions, fund transfers involving banks, and regular audits by auditing firms.

The control of the virtual asset industry by Hong Kong regulators to a certain extent follows this mature paradigm, giving rise to more specialized roles, leading to different business focuses for the aforementioned exchanges. While most platforms such as OSL and HashKey engage in both B2B and B2C businesses, there are also platforms like VDX that focus only on the B-side, serving as a "bridge" for traditional financial institutions to enter the cryptocurrency industry.

Different positioning reflects differences in understanding. Officials from the exchanges have stated that as the cryptocurrency industry in Hong Kong becomes more standardized, more traditional securities firms and financial institutions are looking to enter, and they are the main sources of incremental funds and users. The market needs capable and pure B-side roles.

According to the "2022 Hong Kong Private Wealth Management Report" released by KPMG, 53% of surveyed clients plan to allocate more than 1% of their assets to virtual assets, and 17% of private wealth management institutions are interested in virtual asset services. In addition, many securities firms such as Tiger Brokers, Nanhua Securities, and Changqiao Securities have expressed their intention to enter the virtual asset field.

As regulatory policies gradually deepen, it is expected that the virtual asset market in Hong Kong will continue to grow, with funds continuously flowing from the over $5 trillion market size of the Hong Kong Stock Exchange to the virtual asset field. The rising star of virtual asset exchanges is budding in the compliant soil of Hong Kong.

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