Analysis of Regulatory Standards on Tokenized Financial Products in Hong Kong

Analysis of Regulatory Standards on Tokenized Financial Products in Hong Kong

The Hong Kong Monetary Authority (HKMA) recently introduced new regulatory standards for tokenized financial products in an effort to promote innovation and protect consumers. This initiative comes as a response to the rapid advancement in tokenization technologies and their increasing application in the financial sector. The guidelines aim to establish clear principles for the sale and distribution of tokenized products by authorized institutions, ensuring that existing rules and protections for traditional financial products are equally applied to tokenized products.

The regulations set by the HKMA delineate the scope of tokenized products that fall under the new regulatory framework. These regulations explicitly exclude products already covered by existing laws such as the Securities and Futures Ordinance and specific regulations by the Securities and Futures Commission (SFC) and HKMA. However, the guidelines do cover structured investment products and tokenized precious metals that are not regulated by the Securities and Futures Ordinance. It is important to note that stablecoins are not covered under these regulations.

Due Diligence Requirements

Authorized institutions are required to conduct thorough due diligence before offering tokenized products to customers. This includes understanding the nature, features, and risks associated with the product, as well as continuous monitoring to adapt to any changes. Additionally, institutions must perform due diligence on issuers and third-party service providers involved in the tokenization process, assessing their experience, track record, and associated risks.

Institutions offering tokenized products must act in the best interests of their clients by providing full disclosure of key terms, features, and risks. This includes disclosing risks related to the underlying distributed ledger technology (DLT) networks, potential security threats such as hacking, and legal uncertainties regarding ownership and finality of transactions on DLT networks. Clear and transparent disclosure is essential for ensuring that consumers are well-informed before investing in tokenized products.

Risk Management Framework

Risk management is a critical aspect outlined by the HKMA in the regulatory standards. Authorized institutions must establish robust policies, procedures, systems, and controls to identify and mitigate risks associated with the sale and distribution of tokenized products. This includes implementing a comprehensive risk management framework covering areas such as policies, internal controls, complaint handling, compliance, internal audit, and business continuity planning. Institutions providing custody services for tokenized products must also adhere to the HKMA’s expected standards for digital asset custody to ensure the security and reliability of these services.

The regulatory standards set by the HKMA on tokenized financial products in Hong Kong are aimed at fostering innovation in the financial sector while ensuring robust consumer protection. By establishing clear principles, conducting due diligence, implementing transparent disclosure practices, and developing a comprehensive risk management framework, authorized institutions can navigate the evolving landscape of tokenization technologies with confidence and compliance. The guidelines provide a solid foundation for the responsible sale and distribution of tokenized products, contributing to the sustainable growth of this emerging field in Hong Kong.

Regulation

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