Hong Kong Fintech Week Recap - Product X Efficiency X Connector

Tokenisation, Project Ensemble and Stablecoin

To follow on from our previous updates¹, Hong Kong awaits the promulgation of the draft bill introducing legislation that implements a licensing regime for fiat-referenced stablecoin (FRS) issuers in Hong Kong. Though the draft legislation has yet to be published, the Securities and Futures Commission (SFC) and the Hong Kong Monetary Authority (HKMA) have both alluded to possible public usage of regulated stablecoins by as early as 2025.

In the meantime, great strides have been achieved through the adoption of tokenization in securities transactions, which are now guided by circulars issued by the SFC². Following the launch of the first authorized product by the SFC recognizing the use of technology as a wrapper around conventional securities and investment products end of first quarter 2024, this has sparked immense market commotion in exploring the usage of tokenization in financial product offerings that promises greater efficiency, enhanced transparency, and lowered costs for both buy-side and sell-side participants. As of today, we are aware of market participants interested in adopting tokenization in the offering of money market products, bonds, and even solar panels.

Further, through HKMA’s Project Ensemble, a financial institution has tested using institutional investors’ tokenized deposits to subscribe and redeem tokenized money market funds. As alluded to in our earlier updates³, in the foreseeable future, the usage of regulated stablecoins as a means of payment to achieve atomic settlement for the acquisition/divestment of tokenized assets will likely be trending. To encourage greater adoption of tokenization in the capital market, the HKMA is finalizing its detailed guidelines on its Digital Bond Grant Scheme, which will offer a maximum grant of HK$2.5 million for each eligible issuance, to incentivize digital bond issuance in Hong Kong.

Virtual Assets Market Developments

Being one of the earliest jurisdictions to promulgate legislation to supervise the conduct of virtual assets service providers⁴, Hong Kong’s virtual assets licensing regime currently applies only to virtual assets trading platform operators (VATPs) with 3 being licensed and 11 “deemed to be licensed.” The regime is due to possibly expand and flourish as the SFC has indicated that the government is looking to determine whether virtual asset trading and custody services providers ought to be licensed.

However, before further regulating additional service providers in the virtual assets industry sector, the SFC reported on enhancements to its virtual assets service providers licensing regime through (a) adopting a three-pronged approach to processing license applications and (b) establishing an official consultative panel for licensed VATPs to contribute to the development of a comprehensive virtual asset white paper.

Traditionally, license applications undergo a paper-based review. But now, with a view to truncating processing time, the SFC will conduct an on-site inspection of the license applicant and will provide feedback to the applicant for agreed rectification actions to be undertaken. Once the applicant implements the rectifications, the applicant will be granted licenses to operate on a restricted scope basis. Thereafter, after the completion of an external third party’s review, jointly with the “deemed” licensed VATPs, of the applicant’s business operations, the SFC is prepared to uplift the restrictions imposed on the licensed VATPs.

Given that VATPs are a niche and unique species in the financial markets, to level the playing field and to create an official channel of communication between the SFC and VATPs, the constitution of an official consultative panel is anticipated to expedite the development and onboarding of products and services that may be offered by VATPs on the one hand and, on the other hand, to ensure that such offerings are made with the consensus of both the SFC and licensed VATPs with the latter being subject to mutually agreed compliance and risk management obligations.

Global Market Connector

Off the backdrop of the China Securities Regulatory Commission’s support of Hong Kong’s role as an international financial center, the SFC has relaxed the scope of eligibility criteria (fund size and weightings of underlying index) of exchange traded funds (ETFs) under the Stock Connect. Various enhancements have been proposed to be made through, among others, (a) including real estate investment trusts into the Stock Connect; (b) supporting the inclusion of RMB-denominated stocks into southbound Stock Connect; (c) relaxing cross-boundary sales limits, for example, of the scheme of mutual recognition of funds; and (d) supporting the listing of leading Mainland companies in Hong Kong. These enhancements further bolster Hong Kong’s attractiveness as the preferred access to potential and untapped investor wealth in Mainland China.

Diversifying its risks and turning its focus onto its role as global connector, the Hong Kong government, the SFC, and the HKMA have all taken steps to foster collaboration opportunities between Hong Kong and the Middle East. During the second quarter of 2024, regulatory requirements for offering Hong Kong–domiciled funds have been introduced to facilitate distribution of funds in the Dubai International Financial Centre. This avenue will enable Hong Kong–domiciled funds (both private and publicly offered funds) to be marketed exponentially in the wider United Arab Emirates (UAE) market through the UAE fund passporting regime.

Additionally, as of 31 October 2024, there have been two successful cross-listings of ETFs on the Saudi Exchange and Hong Kong Stock Exchange. It is anticipated that additional cross-border fund flow, including cross-border payments using regulated stablecoins, will be on the horizon between Hong Kong and the Middle East.

Conclusions

Collating the joint strengths of Hong Kong as an international asset management hub and third-largest capital market in the world, the launch of groundbreaking yet safeguarded listed and non-listed investment products (such as tokenized retail gold products and virtual asset spot ETFs) have undoubtedly attracted market participants’ attention and led to the overwhelming participation at the Hong Kong Fintech Week.

After all the hype at Hong Kong Fintech Week 2024, the market eagerly awaits the (a) promulgation of new legislation governing the regulation of issuance and offering of fiat-referenced stablecoins, (b) issuance of consultation conclusions on regulating new virtual asset service providers (i.e., custodians and/or over-the-counter traders), (c) issuance of detailed guidelines on the Digital Bond Grant Scheme, and (d) implementation of the various enhancements to increase the size and liquidity of the Hong Kong capital market brought about by Hong Kong undertaking the role as global connector between Mainland China and the Middle East.

Hong Kong continues its journey of financial market evolvement through diversification of its product offerings with the use of technology. Through the cautious and measured approach in embracing innovation, Hong Kong strives new heights in being a pioneering international financial center that offers unparalleled transaction efficiency and unrivaled market access to global investors and market participants alike.

¹ “Hong Kong Tokenization Buzz 2024: Hong Kong Proposes Regulatory Regime for Fiat-Referenced Stablecoin Issuers”, Sidley Update, August 2024”
² “Hong Kong Fintech Regulatory Update: From “A Leap of Faith” to “A Vote of Confidence” Part II: Exploring Technology (Tokenisation)”, Sidley Update, November 2023”
³ “Hong Kong Tokenization Buzz 2024: Tokenized Real World Assets X Tokenized Deposits = “Atomic” Settlement — a Reality?”, Sidley Update, August 2024
⁴ “Hong Kong Virtual Asset Trading Platform Operators Licensing Regime: Closing Remarks”, Sidley Update, June 2023”