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In a welcome move, the UK authorities have taken long-awaited decisions to bring the promotion of crypto assets under the umbrella of financial services regulation.

But the devil will be in the details. The government and the regulator, the Financial Conduct Authority (FCA), will have to act wisely to balance the need to protect investors with the important aim of encouraging the development of this huge financial innovation.

The official action is timely given the huge expansion of crypto investment, not least among retail investors, including many inexperienced people investing for the first time.

The recent turmoil in financial markets, including sharp corrections in crypto assets, highlights the risks of such investments and therefore the need for good regulation.

The Treasury, following a public consultation last year, has announced it is ready to put before parliament proposals to tighten the regulation of higher-risk assets including crypto.

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In a co-ordinated approach, the FCA published a consultation following last year’s discussion paper entitled Strengthening our financial promotion rules for high-risk investments and firms approving financial promotions”.

The proposed oversight aims to bring all crypto asset advertising and other promotions under the Financial Services and Markets Act 2000. This would apply to crypto in the same way in which a regulated financial services firm is required to approve ads for financial products.

Communications to clients and potential clients will need to comply with FCA rules: in particular, they must be fair, clear and not misleading. Furthermore, the FCA is looking to clarify what investments it deems higher risk, and for what kind of investor.

The proposed approach categorises three groups of assets. The least risky group is readily realisable securities (RRS) — for example, listed equities. These could be mass marketed to anyone.

Restricted mass market investments (RMMI), such as shares or bonds that are not listed on an exchange, or a peer-to-peer agreement, would be deemed higher risk. This category could be mass marketed under certain restrictions.

The third and highest-risk category is non-mass market investments (NMMI). These are pooled investments in an unauthorised fund or speculative illiquid securities such as a mini bond.

Why is the regulator acting now? First, it is responding to intense criticism over its alleged failure to protect investors who purchased mini bonds issued by London Capital & Finance (LC&F), which collapsed after investing client funds in highly speculative assets.

The FCA is also highly concerned about the broad increase of financial fraud and scams over the past 18 months, which increased during Covid-19.

Finally, the regulator has recognised a considerable increase in the retail adoption of crypto assets.

The FCA proposes placing crypto assets in the medium risk RMMI category, which would impose some restrictions on promoting crypto asset services.

The crypto industry is relieved there is no full ban on advertising to retail investors as we have seen in Singapore. However, as always with new regulations, a lot depends on the detail.

The recipient of a crypto asset promotion must be categorised as either a certified high net worth investor (HNWI), a certified sophisticated investor, a self-certified sophisticated investor, or a certified “restricted” investor.

Will the existing test applied by financial services companies taking on new clients be used? Is it even appropriate? For example, being classed as a HNWI does not indicate that a person understands digital asset custody risk.

Companies should be asked to check that potential clients understand the nuances between the offerings of a diverse range of organisations and services. Broad checks are not enough.

Promoting firms should also be required to consider the investor’s experience in a particular field. A blanket rule restricting access to HNWIs or sophisticated investors would not work as many younger people who are keen on crypto would not qualify even if they know a lot about crypto. They could then be forced to use exchanges that aren’t based in the UK or regulated.

The proposed requirements, if adopted, open up serious questions for the industry. One critical issue is defining who exactly will be considered a “competent authorised firm”, charged with approving promotions.

For instance, would a regulated representative with experience of traditional financial promotions — say for credit cards — be familiar enough with crypto assets to do the job?

Overseas promotions targeting UK consumers would be included under the planned rules even if they are issued by overseas promoters. It remains to be seen how effective this would be in practice.

As director of the crypto trade body in the UK, I can say that the industry generally welcomes formal regulatory clarity on advertising and promotions. In recent months, the Advertising Standards Authority has taken enforcement action against firms promoting crypto assets and related services.

But the reasons given for its decisions have often been vague, arbitrary and inconsistent. Many regulated companies which have successfully marketed other financial services have had to withdraw campaigns, losing hundreds of thousands of pounds, following enforcement action on crypto promotions.

It’s worth considering that although the UK authorities see crypto assets as an investment, they have many actual and potential uses. For example, El Salvador last year declared bitcoin as legal tender. For developing countries, bitcoin could be an excellent way to reduce corruption: the open-source nature of bitcoin networks enables anyone to track any transaction.

Closer to home, crypto could help democratise finance, wealth creation and the ability to raise capital. The crypto market lowers barriers to entry for raising finance, with no need for a broker or large personal wealth. Anyone can invest, so people are increasing their financial literacy and understanding of money.

Policymakers must ensure that regulatory frameworks balance the need to protect investors with nurturing new opportunities.

If the authorities do their job well, they can contribute to greater access to financial services, transparency and inclusion.

Ian Taylor is director of CryptoUK

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