Anyone who has been on the London Underground in the past few years cannot have failed to notice the exhortations to invest in BitCoin, or the next big meme coin, as this freedom of information request shows. Social media is awash with celebrities and influencers flogging crypto, something that had already caught the attention of the UK’s financial services regulator, and the Advertising Standards Agency.
The Financial Conduct Authority (FCA) has made no secret of its views of cryptoassets, branding them as high-risk investments. If the FCA becomes aware that a crypto firm is offering tokens / services which fall within the existing “regulatory perimeter” (for example, because the tokens are securities), then it can be swift to act. However, most cryptoassets are unregulated which means that the FCA has limited options available to it, other than general warnings to consumers.
UK cryptoasset firms which arrange for the exchange or purchase of cryptoassets, or provide custodian wallets are within scope of the Money Laundering Regulations (MLRs) which means they are required to register with the FCA for supervision. The FCA can refuse to register businesses within the scope of the MLRs, and is taking an intentionally “tough stance”, with nearly 90% of firms reported as having been refused or withdrawing their application for registration. The FCA’s use of its supervisory powers in this way has attracted criticism, with many suggesting that its stance is stifling innovation.
Against this background, it’s no surprise that the regulatory net is widening for crypto.
HM Treasury confirms the promotion of “qualifying cryptoassets” will be regulated
In January 2022, the UK Government confirmed that the existing financial promotion regime (itself the subject of ongoing consultation) would be extended to bring some types of cryptoassets within its scope. The regime covers certain types of communications which are “invitations or inducements” to engage in investment activity: basically, promotional communications. This means that businesses communicating any promotional material relating to investment activities (such as buying or selling) involving “qualifying cryptoassets” will need to consider if their communication is caught by the regime, and if so, what that means for them.
Qualifying cryptoassets are defined in the proposals as “any cryptographically secured digital representation of value or contractual rights which is fungible and transferable”, which would catch cryptocurrencies such as BitCoin and Ethereum, previously entirely unregulated.
In essence, communicators of promotions (or originators of the communications) featuring such assets will need to either be authorized by the FCA, or have the contents of their promotion approved by a firm that is (something which is itself going to become more difficult to achieve in the future). There will also be strict rules setting out what a promotion that is permitted should and should not include.
What will the rules be?
The FCA is consulting on what its rules for promotions of qualifying cryptoassets will look like. Generally, financial promotions are required to be clear, fair, and not misleading. But in the case of high-risk investments such as cryptoassets, the FCA says this might not be enough, as a consumer still might not understand the investment offered. The FCA is also concerned about the speed and ease with which consumers can make crypto investments, and that they are doing so driven by “competition” and social media hype.
The FCA wants to add friction into the customer journey for obtaining high-risk investments such as qualifying cryptoassets, and proposes to:
- introduce a risk warning;
- ban inducements to invest (like free tokens for introducing friends);
- add “positive frictions” like personalized risk warnings;
- make changes to investor declarations so that investors are better able to understand what type of investor they are; and
- requiring firms to robustly assess investors’ knowledge and experience.
The FCA also wants firms to record the impact of the additional requirements at different stages of the customer’s journey (which suggests that if firms’ measures do not deter enough investors, further requirements might be imposed).
Given the importance of these proposals, I think it’s unlikely that the FCA will budge very far in its proposals (although the consultation is open until 23 March 2022).
The Government and FCA have had crypto in its sights for a while now, and the outlined proposals are another salvo fired. Crypto businesses in the UK which want to promote qualifying assets will need to make sure that their promotions meet the requirements of the new rules, and then find an authorized firm willing to approve that promotion: something which is unlikely to be easy (or cheap) to achieve. Authorized firms will need to implement procedures for identifying and reviewing promotions in line with the new rules.
What does this mean about the direction of travel?
Whilst the FCA notes the regulatory principle that consumers should take responsibility for their own investment decisions, the proposals highlight that in this area the FCA does not trust consumers not to give in to “social and emotional pressures to invest” (for which, read FOMO ).
The FCA quotes a BritainThinks research report on self-directed investors, stating that 45% of self-directed investors “did not view losing money as a potential risk of investing”. The research highlights a wider problem about education and opportunity. Creating opportunities for consumers to understand, identify and access suitable investments more generally is important: innovative and accessible FinTech solutions (yes, including some cryptobusinesses) are key to this.
Whether the extent of regulatory attention is fully deserved depends on your perspective; However, in my view this will not be where the music stops, and I expect further regulation to follow. I do not suggest that this is a bad thing: regulation would be generally welcomed in the industry, as legitimizing crypto businesses and providing a framework for consumer protection. However, the Government and FCA need to be careful that innovation is allowed to flourish (and if it is not, innovative businesses will move elsewhere).
I’m grateful to Charlotte Hill and Daniel Hirschfield for their assistance in putting this blog together.