Hong Kong’s Competitive Leap: Fueling Tokenization Growth Across Asia

This month, we attended the Digital Assets Week Hong Kong conference and were struck by the rapidly growing ecosystem surrounding tokenization in the region. The gathering of regulator SFC and major institutions at the event sent a strong message: Hong Kong is positioning itself as a frontrunner jurisdiction for the tokenization of securities.

Hong Kong has witnessed the emergence of numerous live tokenized securities projects alongside the CBDC pilot program (e.g., HKSAR Government tokenized a green bond, HGI tokenized a fund, UBS tokenized warrant, wholesale CBDC pilot, …). The regulator provides clear guidelines, nurturing tangible use cases. This fosters regional competition for leadership in tokenization, driving the industry and the region forward.

Specifically, on 2 November 2023, the Securities and Futures Commission (SFC) announced two circulars related to tokenized financial instruments: “Circular on intermediaries engaging in tokenized securities-related activities” and “Circular on tokenization of SFC-authorized investment products”.

The guideline is straightforward: same securities, same rules, but with digital controls. There are four points we want to highlight:

1. Open for retail investors: Evolved from March 2019 “Statement on Security Token Offerings” where security token offerings are restricted only to professional investors (PIs), the new circulars permit primary dealings of tokenized SFC-authorized investment products by retail investors. These offers have to be authorized under Part IV of the SFO or have complied with the prospectus regime and not fall under any other applicable exemption under the Public Offering Regimes. Otherwise, the offers can only be offered to PIs.
2. Same business, same risks, same rules: The new circulars define that tokenized securities are fundamentally traditional securities with a tokenization wrapper, the existing legal and regulatory requirements governing the traditional securities markets continue to apply to tokenized securities.
3. Blockchain agnostic: SFC recognized all types of blockchain networks, including private-permissioned, public-permissioned, and public-permissionless. However, issuers have to address risks by implementing adequate controls regardless of the blockchains they use.
4. New risks management: Issuers have to address risks related to ownership (e.g., how it is transferred and recorded) and technology (e.g., forking, network outages, and cybersecurity). Elizabeth Wong from SFC emphasized in a panel during the DAW conference that issuers have to demonstrate to the regulators they have controls over their tokenized securities (e.g., recover tokens).

Here is an illustrative example of tokenized funds by SFC:

The risks highlighted in the circulars can be addressed with open-source ERC-3643, the validated and audited permissioned token standard:

1. Enforce compliance to ensure adherence to existing laws, and only eligible investors can interact with tokens, regardless of blockchain type.
2. Track ownership through identity-based on-chain registries to maintain the integrity of ownership records.
3. Take full control over their tokenized security to freeze or recover tokens as needed.
4. Enable multichain capability to address forking and network outage issues.
5. Upgradable implementation of smart contracts to ensure flexibility to address any vulnerability of the smart contract or updates of regulation.

Moreover, the circular mandates due diligence for tokenization technology, highlighting the importance of partnering with established players. With over 6 years of proven experience and enterprise-grade certifications like SOC2, Tokeny is well-equipped to support the Hong Kong market. The regulatory framework is in place, the technology is primed, and the market is set for rapid evolution!

Reach out to us to explore how we can empower you to tokenize in Hong Kong and beyond.