Hong Kong Regulator Steps Up Awareness Campaign on NFTs

The Hong Kong Securities and Futures Commission (SFC) has stepped up its awareness campaign on non-fungible tokens (NFTs), cautioning investors against investing in them if they do not fully understand the risks.

“As with other virtual assets, NFTs are exposed to heightened risks including illiquid secondary markets, volatility, opaque pricing, hacking, and fraud. Investors should be mindful of these risks, and if they cannot fully understand them and bear the potential losses, they should not invest in NFTs,” the SFC stated.

The SFC noted that there are a number of NFTs that represent the digital representation of an underlying asset and in which case, it has little role to play in the trading of those assets.

However, the financial regulator said, there are NFTs that are portrayed as securities and these types must be licensed before it is offered to residents.

Assets that push the boundary between collectibles and financial assets, such as fractionalized or fungible NFTs structured as securities or collective investment schemes (CIS) in NFTs, do fall under the SFC’s mandate.

A CIS is an investment arrangement, to pool money around a certain asset or property. The Hong Kong Securities and Futures Ordinance (SFO) requires CIS to be managed in escrow, and its participants do not have day-to-day control over its management. They however are subject to receive profits, income, or other returns.

The solicitation of Hong Kong residents by companies engaged in these activities requires the issuer to obtain a license from the SFC unless an exemption applies.

SFC has mandated a license from Hong Kong residents who wish to issue fractionalized NFTs or to target local investors or be subject to certain authorization requirements under the SFO.

Anndy Lian, chairman, BigONE exchange, says a few well-known corporations that are based in China changed the descriptions of NFTs on their platforms to ‘digital collectibles’ to play down their links to cryptocurrencies last year.

“They did their homework way beforehand to avoid any possible issues with regulators in China and Hong Kong. I urge SFC to put a hard stop to all the bad actors who are trying to operate regulated activities in Hong Kong or target Hong Kong investors using NFT as a workaround,” Lian says.

Raj Kapoor, chief advisor of crypto advisory firm Acryptoverse says security issues are just a major legal concern when it comes to NFTs and that each different NFT model presents a unique legal issue.

“License uncertainty is another risk while IP ownership many a time is opaque. Copyright Infringement raises concerns as well. Deceptive and unlawful trade practices for misrepresentation of ownership of the work underlying an NFT is also a deep risk factor,” he added.

Money Laundering including self laundering is another as potential criminals purchase an NFT with illicit funds, transact with themselves to create records of sales on the blockchain, then sell to another party using clean funds.