A new era has dawned for digital assets in Hong Kong, a crypto-crazed city where investors frequent scores of over-the-counter Bitcoin outlets and ads cover walls and subway coaches.

On February 29, the city’s Securities and Futures Commission closed applications for exchanges that want to serve retail crypto investors.

Now those firms that did not apply for a virtual asset trading platform licence will have until May 31 to wind down services in Hong Kong.

Regulators hope the new regime marks a turning point for a market rife with crypto crimes and scandal. Authorities are investigating exchanges that have disappeared with hundreds of millions of dollars worth of assets from customers.

And lawmakers and investor advocates are urging Hong Kong regulators to get a handle on the situation as a bull market drives even more action.

Smoother pathway

At the same time, Hong Kong officials are keen on reviving the city’s reputation as a springboard for global financial firms. Getting a crypto licence in Hong Kong may be a step in that direction.

“It signifies a company’s adherence to some of the most rigorous regulatory standards globally,” said Patrick Pan, the CEO of OSL, a Hong Kong Stock Exchange-listed company that expanded into digital assets in 2018..

“It not only bolsters a company’s reputation but also facilitates a smoother pathway to obtaining licences in other jurisdictions,” Pan told DL News in an email.

‘With increased understanding and confidence in digital assets as a legitimate asset class, we anticipate a broadening of the investor base.’

—  Patrick Pan, CEO of OSL

A total of 20 applicants have applied to be regulated, and it is not clear when they might be approved by the Securities and Futures Commission.

Two exchanges, OSL and HashKey, which were licensed under a previous framework, have already been approved.

As a result, Hong Kong will probably be home to fewer but significantly more dependable and compliant operators, Pan said.

“The potential market for digital assets among retail investors is vast and expanding,” Pan said. “With increased understanding and confidence in digital assets as a legitimate asset class, we anticipate a broadening of the investor base, leading to substantial growth.”

The applicants run the gamut from international exchanges such as Crypto.com and Bybit to local player Amber Group (through its subsidiary Whalefin).

Binance may be backing one of the exchanges on the list, according to The South China Morning Post.

Several applicants are traditional finance organisations such as Victory Securities, which also offers digital asset services. Other applicants are less familiar and include small companies that don’t appear to have working exchanges.

Hope for greater protection

This new era comes with some caveats, however.

For Hong Kong regulators, ensuring exchanges are licensed should give greater protection to consumers in the city.

Licensed exchanges are subject to stringent rules around auditing, how they store customers funds and how much capital they have.

But Hong Kong users of crypto exchanges may simply continue to use ones that are unlicensed, especially as the cost of becoming licensed in Hong Kong may be passed on to customers.

Binance, for instance, remains the most popular crypto exchange in the Philippines despite regulators saying it is unlicensed. The reason is simple — lower fees.

It’s not clear how many people in Hong Kong have invested in crypto. It feels like a lot. There’s plenty of crypto ads around town and over-the-counter shops on the streets. 7-Eleven stocks an NFT magazine. Banks and other financial institutions have deployed virtual asset strategies.

But the Hong Kong Monetary Authority itself acknowledged in a 2022 paper that there was a lack of comprehensive analysis for the Hong Kong crypto market.

It said one company, TripleA, had attempted to quantify it. It puts the percentage of people holding crypto in Hong Kong at slightly more than 3%.

If accurate, that works out as about 242,000 people in Hong Kong investing in crypto.

The Opportunity

Even with fewer exchanges operating in the market, those that remain may struggle to make a profit. The cost of applying can run into the millions of dollars — all to access a very small market.

“I think the Hong Kong local market is not attractive,” said Legislative Council member and crypto advocate Johnny Ng. “The population is not large and the penetration rate is low.”

But the retail market in Hong Kong is not what’s appealing.

Hong Kong still serves as a “connection point” between East and West and can attract crypto companies and exchanges with its status as an important financial city, Ng said.

‘I think every stock investor or trader has the potential to become a crypto investor.’

—  Patrick Pan, CEO of OSL

The retail market isn’t the only driver behind the wave of applications in Hong Kong. Exchange management teams are also hoping accreditation in Hong Kong can help them gain licences elsewhere.

Tony Tang, a co-founder of Hong Kong Blockchain Association, concurs. Despite its political difficulties and losing ground in Asia to Singapore, Hong Kong still has a good reputation when it comes to regulation.

“If you’re licensed in Hong Kong, I think people will believe in the [company],” he said.

All-time high

With Bitcoin getting close to a new all-time high, crypto ventures are under pressure to seize opportunities in this new bull run. If that means complying with new licensing regimes, so be it.

“I think every stock investor or trader has the potential to become a crypto investor,” Jupiter Zheng, a partner at HashKey Capital, told DL News.

He points to the traditional capital markets, where even though Hong Kong is small, it has international investors.

A lesson learned

“We have a few hundred stockbrokers in Hong Kong,” Zheng said. “And most of them are making money, even though the Hong Kong stock market trading volume is not very high.”

“So that is a lesson to learn from the capital markets.”

He is also holding out hope that future regulatory updates may allow exchanges to offer more complex products like crypto derivatives.

“I think the whole industry is working on that. We need to tackle the risk associated with tokens and derivatives. I think it’s very promising but there’s a long way to go.”

Callan Quinn is DL News’ Hong Kong-based Asia Correspondent. Get in touch at callan@dlnews.com.