Digital token intermediaries facing tightened enforcement activities as well as new opportunities
The landscape in Singapore
14 September 2018
Digital token intermediaries are growing rapidly in Singapore. While recognising their potential, the Monetary Authority of Singapore (MAS) has demonstrated that it is prepared to take action against digital token intermediaries where breaches have been identified. This approach is in line with the increased general enforcement activity around ICOs in other jurisdictions such as Hong Kong and the US. At the same time, MAS proposed a new regulatory framework to facilitate innovation in financial services by recognising emerging new business models.
In a statement released on 24 May 2018 (the Statement), MAS disclosed that it has warned eight digital token exchanges in Singapore not to facilitate trading in digital tokens that are securities or futures contracts without MAS’s authorisation.
MAS cautioned that these exchanges are required to seek MAS's authorisation if the digital tokens traded on their platforms constitute securities or futures contracts under the Securities and Futures Act (Cap.289) (SFA). If the digital tokens constitute securities or futures contracts, the exchanges must immediately cease the trading of such digital tokens until they have been authorised as an approved exchange (AE) or recognised market operator (RMO) by MAS.
An undisclosed Initial Coin Offering (ICO) issuer was also warned to stop the offering of its digital tokens in Singapore. The issuer had contravened the SFA as its tokens represented equity ownership in a company and therefore would be considered as securities under the SFA. The offer was made without an MAS-registered prospectus, which is a SFA requirement. At the time of issuance of the Statement, the issuer had already ceased the offer and taken remedial action to comply with MAS’s regulations. It had also returned all funds received from Singapore-based investors.
This latest development is in line with the increased general enforcement activity around ICOs and digital token intermediaries globally, and the rules and principles relied on by MAS were expected. In A Guide to Digital Token Offerings (Guide) published in November 2017, MAS has foreshadowed that it would apply the securities laws (i.e. SFA and Financial Advisers Act (Cap.110) (FAA)) in regulating both the offers or issues of digital tokens and the intermediaries which facilitate such offers or issues.
The Guide clarified that digital tokens constitute capital markets products if they represent a share, debenture or a unit in a collective investment scheme. Such digital tokens may therefore be regulated by MAS.
It follows that offers of digital tokens which constitute securities or units in a collective investment scheme are subject to the same regulatory regime under Part XIII of the SFA, as offers of securities or units in a collective investment scheme made through traditional means. The requirements under Part XIII of the SFA include that the offer must be made in or accompanied by a prospectus that is prepared in accordance with the SFA and registered with MAS.
Further, MAS observed that one or more of the following types of intermediaries typically facilitate offers or issues of digital tokens:
- a person who operates a platform on which one or more offerors of digital tokens may make primary offers or issues of digital tokens – where the person is carrying on business in any regulated activity, or holding himself out as carrying on such business, he must hold a capital markets services licence for that regulated activity under the SFA;
- a person who provides financial advice in respect of digital tokens – such person who provides any financial advice in Singapore in respect of any digital token that is an investment product must be authorised to do so in respect of that type of financial advisory service by a financial adviser's licence, or be an exempt financial adviser, under the FAA;
- a person who operates a platform at which digital tokens are traded – where the person is establishing or operating a market or holding himself out as operating a market, he must obtain approval as an AE or be recognised as a RMO under the SFA.
Having explained in the Guide the application of the securities laws to digital tokens, it is no surprise that MAS now moves on to ensure compliance by taking actions against individual market players.
Similar sentiment has been expressed by regulators elsewhere. The Hong Kong Securities and Futures Commission (SFC) has issued public warnings about the potential risks of dealing with crypto exchanges and investing in ICOs. This was followed by definite action which included sending warning letters to seven crypto exchanges either based in Hong Kong or connected to the city, stating that they should not trade virtual currencies without a licence. In March 2018, the SFC halted Black Cell Technology's ICO stating that it was an unregistered Collective Investment Scheme which had to be registered with the regulator before being sold. Black Cell was also ordered to refund its Hong Kong investors of their investments in the token.
The US Securities and Exchange Commission has also aggressively asserted jurisdiction over products sold through ICOs. This includes issuing a public statement cautioning that many platforms may be operating unlawfully and bringing enforcement action in the digital asset space. Further details of the SEC's enforcement action can be found in our earlier briefing "More than a Token Risk – ICO Trading Platforms and Promoters in SEC Crosshairs".
Proposal of new recognised market operators regime
While emphasising that digital token intermediaries need to obtain appropriate licences and approvals under the securities laws, MAS was cogniSant that the existing regulatory regimes should be reformed to better match regulatory requirements with the risks posed by different types of market operators. To that end, MAS has proposed a new multi-tier regime for market operators.
MAS has proposed to expand the current recognised market operators regime from a single tier to three separate tiers. This was in response to the observation that entities seeking to become market operators now include private companies and start-ups seeking to operate private markets, alternative trading platforms using blockchain technology, or peer-to-peer trading platforms that allow end-investors to participate directly without going through intermediaries.
To lower the cost of entry for players that do not pose systemic risks and encourage vibrancy in the market operator landscape, the following three separate tiers were proposed:
- RMO Tier 1 is a new tier for market operators that serve a limited base of retail investors. Currently, the existing RMO regime does not allow access to retail investors. With this new tier, market operators that do not pose system-wide risks will be allowed to serve retail investors if they are able to meet additional requirements that pertain to retail investor protection. These requirements are more stringent than the existing RMO regime and include increased information disclosure.
- RMO Tier 2 is for market operators that qualify under the existing RMO regime. These market operators do not pose system-wide risks, and only serve non-retail investors. The regulatory requirements for this tier will be the same as those under the existing RMO regime. Market operators that are currently authorised as RMOs will be reclassified under this tier.
- RMO Tier 3 is a new tier for market operators that have a significantly smaller scale of business compared with more established operators under the existing RMO regime. This new tier is designed to facilitate new entrants that develop solutions for wholesale market participants, or market operators that have reached the end of their sandbox tenure and are commercially viable, but whose businesses are not able to meet the requirements of the existing RMO regime. Under this tier, they will be subjected to less stringent requirements on capital, technology risk management and outsourcing. Their scale of business activity will, however, be capped to limit the impact in the event of failure.
If the proposal is implemented, digital token intermediaries as well as other market operators will have greater flexibility to choose between different business models with regulatory requirements and compliance costs that are commensurate with their investor reach.
Further details of the consultation on PSB can be found in our earlier briefing "Second Consultation on Proposed Payments Regulatory Framework".
The regulator's message in Singapore is clear. As stated in the Statement by Mr Lee Boon Ngiap, Assistant Managing Director (Capital Markets) of MAS, “We do not see a need to restrict [digital token exchanges and digital token offerings] if they are bona fide businesses. But if any digital token exchange, issuer or intermediary breaches our securities laws, MAS will take firm action. The public should be aware that there is no regulatory safeguard if they choose to trade on unregulated digital token exchanges or invest in digital tokens that fall outside the remit of MAS’s rules.”