What Covers Three Quarters of the Position Paper? The Appendix!

The last week, our dear author made a step-by-step interpretation of the position paper that is listed below:

Ready for Your Exam? A Refined Illustration on the SFC’s Stance I & II

Ready for Your Exam? A Refined Illustration on the SFC’s Stance III & IV

Completing all this, our dear author once couldn’t help embracing these policies in brace — — “I’m familiar with every word and sentence of it!”


However, is it really the end?

With 54 pages in total, the first four sections only cover 15 pages. Once you turn to the 16th page, something peculiar would jump up to your surprise! A cover page!

The next page comes to the content, which is structured in totally 14 chapters. ↓

It hints that the previous four sections of the position paper are just appetizers. The main dishes just start right now!

So, in the subsequent series, we will come to the main dishes.

Today, speed up for the I, II. III, IV.

I keep nothing in my mind but working hard!

I + II +III:Interpretation, Codes and Guidelines, and Financial Soundness

First, when it comes to the main topic, the SFC once again listed six licensing conditions, which has been illuminated on the announcement:

o The licensee must only provide services to professional investors;

o The licensee must comply with the attached Terms and Conditions for Virtual Asset Trading Platform Operators;

o The licensee must obtain the SFC’s prior written approval for any plan to make a material change to an existing service or activity;

o The licensee must provide monthly reports to the SFC on its business activities in a format as prescribed by the SFC. The report must be submitted to the SFC within two weeks after the end of each calendar month.

o The licensee must engage an independent professional firm acceptable to the SFC to conduct an annual review of its activities and operations and prepare a report confirming that it has complied with the licensing conditions and all relevant legal and regulatory requirements. The first report must be submitted to the SFC within 18 months of the date of approval of the licence. Subsequent reports should be submitted to the SFC within four months after the end of each financial year and additionally upon the SFC’s request.

I. Explanations on Terminologies

“Associated Entity” : an “associated entity” of the licensee under section 165 of the Securities and Futures Ordinance needs to be incorporated in Hong Kong, hold a TCSP license, and be a wholly owned subsidiary of the licensee.

“Client”: a person to whom the licensee provides services in the course of carrying out the Relevant Activities.

“Client Asset”: client virtual assets and client money.

“Client Money”: client money is any money received or held by or on behalf of the licensee or the Associated Entity.

“Client Virtual Asset”: client virtual asset is any virtual asset received or held by or on behalf of the licensee or the Associated Entity.

“Group of Companies”: any two or more corporations one of which is the holding company of the other or others.

“Relevant Activities”: any virtual asset trading activities including any incidental services provided by the licensee to its clients;

“Virtual Assets”: digital representations of value which may be in the form of digital tokens (such as digital currencies, utility tokens or security or asset-backed tokens), any other virtual commodities, crypto assets or other assets of essentially the same nature, irrespective of whether they amount to “securities” or “futures contracts” as defined under the SFO.

II. Codes and Guidelines

In conducting the Relevant Activities, a Platform Operator is expected to observe the provisions of the Codes and Guidelines listed in Schedule 1heretoas if any reference to a financial product (for example, securities) or investment product included virtual assets.

III. Financial Soundness

In addition to the requirements under the Securities and Futures (Financial Resources) Rules(Cap. 571N), a Platform Operator should maintain in Hong Kong at all times own assets that are sufficiently liquid, for example, cash, deposits, treasury bills and certificates of deposit(but not virtual assets),equivalent to at least 12 months of its actual operating expenses calculated on a rolling basis.

IV. Operations

A Platform Operator should set up a function responsible for establishing, implementing and enforcing, which are listed as below, so that the decision-making process of including or removing virtual assets is transparent and fair.

o The rules which set out the obligations of and restrictions on virtual asset issuers(for example, obligation to notify the Platform Operator of any proposed hard fork or airdrop, any material change in the issuer’s business or any regulatory action taken against the issuer);

o The criteria for a virtual asset to be included on its platform (the factors specified in Paragraph 4.3 below, and the application procedures have been taken into account);

o The criteria for halting, suspending and withdrawing a virtual asset from trading on its platform, the options available to clients holding that virtual asset and any notification periods.

Due Diligence on Virtual Assets

A Platform Operator should perform all reasonable due diligence on all virtual assets before including them on its platform for trading, and ensure that they continue to satisfy all application criteria. Set out below is a non-exhaustive list of factors which a Platform Operator must consider, where applicable:

The background of the management or development team of the issuer of a virtual asset;

The regulatory status of a virtual asset in each jurisdiction in which the Platform Operator provides trading services, including whether the virtual asset can be offered and traded under the SFO, and whether the regulatory status would also affect the regulatory obligations of the Platform Operator;

The supply, demand, maturity and liquidity of a virtual asset, including its market capitalisation, average daily trading volume, whether other Platform Operators also provide trading facilitated for the virtual asset, availability of trading pairs (e.g., fiat currency to virtual asset), and the jurisdictions where the virtual assets have been offered;

The technical aspects of a virtual asset, including the security infrastructure of the blockchain protocol underlying the virtual asset, the size of the blockchain and network, in particular, whether it may be susceptible to a 51% attack, and the type of consensus algorithm;

The level of activity within the development community;

The level of adoption across the ecosystem;

The marketing materials of a virtual asset provided by the issuer, which should be accurate and not misleading;

The development of a virtual asset including the outcomes of any projects associated with it as set out in its Whitepaper (if any) and any previous major incidents associated with its history and development.

In relation to virtual assets which fall under the definition of “securities” under the SFO, a Platform Operator should only include those which are (i) asset-backed, (ii) approved or qualified by, or registered with regulators in comparable jurisdictions (as agreed by the SFC from time to time), and (iii) with a post-issuance track record of 12 month.

Submission of legal advice for each virtual asset

A Platform Operator should obtain and submit to the SFC written legal advice in the form of a legal opinion or memorandum on the legal and regulatory status of every virtual asset that will be made available in Hong Kong. (In particular, whether that virtual asset falls within the definition of “securities” under the SFO, and the implications for the Platform Operator.)

A Platform Operator should exercise professional scepticism before relying on any legal advice, and review such advice with due care and objectivity. In particular, if any information or assumption made in the legal advice is inconsistent with information known to the Platform Operator, the Platform Operator should conduct reasonable follow-up work to resolve the inconsistency and obtain revised legal advice as necessary.

The specific features of a virtual asset may change throughout its life cycle. A Platform Operator should have appropriate monitoring procedures in place to keep track of any changes to a virtual asset that may cause its legal status to change such that it falls within or ceases to fall within the definition of “securities” in the SFO.

Trading of Virtual Assets

A Platform Operator should NOT provide any financial accommodation for its clients to acquire virtual assets, and should ensure, to the extent possible, that no corporation within the same group of companies as the Platform Operator does so.

A Platform Operator should NOT conduct any offering, trading or dealing activities of virtual asset futures contracts or related derivatives.

A Platform Operator should prepare comprehensive trading and operational rules governing its platform operations for both on-platform trading and off-platform trading(where applicable).

These rules should, at the minimum, cover the following areas:

o Trading and operational matters;

o Trading channels (such as website, dedicated application and application programming interface (API));

o Trading hours;

o Different types of orders; detailed description of the functionality and their priorities;

o Order minimum and maximum quantity limits per underlying currency or virtual asset (in the case of virtual asset trading pairs);

o Order execution conditions and methodology;

o Situations in which orders can be amended and cancelled;

o Trade verification procedures;

o Arrangements during trading suspension, outages and business resumption, including arrangements during restart before entering continuous trading;

o Rules preventing market manipulative and abusive activities;

o Clearing and settlement arrangements;

o Deposit and withdrawal procedures, including the procedures and time required for transferring virtual assets from the platform account to a client’s private wallet and depositing fiat currencies to a client’s bank account when returning client money to the client;

o Custodial arrangements, risks associated with such arrangements, the internal controls implemented to ensure that client assets are adequately safeguarded, and insurance / compensation arrangements to protect against any losses arising from the custody of client virtual assets, if any(see paragraph 7.14below);

o The internal control procedures which have been put in place to ensure the fair and orderly functioning of its market and to address potential conflicts of interest;

o Prohibited trading activities, including, but not limited to, churning, pump-and-dump schemes, ramping, wash trading and other market manipulation aimed at creating a false representation of price and/or quantity;

o Actions the Platform Operator might take should it discover that a client is engaged in prohibited trading activities, including suspension and/or termination of the client’s account.

Fees and Charges

A Platform Operator should adopt a clear, fair and reasonable fee structure. In relation to admission, the fee structure should be designed to avoid any potential, perceived or actual conflicts of interest (for example, charging all virtual asset issuers a flat rate for admission). In relation to trading, the Platform Operator should clearly set out how different fees may apply based on the type of order(including whether the client is providing or taking liquidity), transaction size and type of virtual assets transacted.

Market Access

If the Platform Operator provides programmable access to its platform through one or multiple channels (API access), thorough and detailed documentation should be provided to clients. This includes, but is not limited to, detailed descriptions and examples for all synchronous and asynchronous interactions and events, as well as all potential errors messages. A simulation environment, simulating a reasonable amount of market activity, should be provided for clients to test their applications.

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