Comparison of the Regulatory Status and Prospects of Cryptocurrency OTC Trading in Hong Kong, Singapore, and the United States

Author: Bai Zhen, Mankun Blockchain

As of the latest data, the trading volume of cryptocurrencies on centralized exchanges (CEX) reached $4.29 trillion in the first quarter of 2024, showing a significant increase compared to previous quarters. In contrast, the over-the-counter (OTC) market, primarily aimed at institutional and high-net-worth individual investors, has seen significant activity but typically does not reach the trading volume levels of CEX due to its more private and customized nature. Specific OTC trading volume data is harder to determine due to the lack of centralized reporting, but the OTC market continues to expand alongside the overall growth of the cryptocurrency market.

OTC Trading vs Exchange Trading

In the cryptocurrency trading space, OTC trading and exchange trading each have their own characteristics, catering to different types of trading needs and user groups. There are significant differences between the two in terms of liquidity, privacy, price slippage, flexibility, counterparty risk, security, regulation, ease of use, and typical users.

1. OTC Trading

OTC trading refers to transactions conducted directly between two parties without going through a centralized exchange, usually facilitated by intermediaries or OTC desks. The main advantage of this method is the ability to handle larger trades with minimal impact on market prices, while also providing higher privacy and anonymity since transactions are not publicly recorded. Additionally, OTC trading can minimize price slippage for large trades through pre-agreed prices, offering flexible trading solutions, including customized trade sizes and specific settlement terms.

However, OTC trading also presents some challenges. Since transactions do not occur on an exchange, participants face higher counterparty default risks, and security relies on the reputation and reliability of the OTC intermediaries or desks. Typically, OTC trading is less regulated, offering more freedom but less protection, and it requires finding trustworthy OTC intermediaries, which may not be very user-friendly. Therefore, OTC trading is generally suited for institutional investors or high-net-worth individuals looking to transfer large amounts of cryptocurrency.

2. Exchange Trading

In contrast, exchange trading occurs on centralized platforms, matching buy and sell orders through an order book. This method provides high liquidity for various cryptocurrencies and is suitable for trades of different sizes. Exchange trading is transparent and publicly recorded, allowing for market visibility, although there is a possibility of price slippage, especially for large trades that need to be executed at multiple price levels. The standardized environment of exchange trading has fixed rules and procedures that ensure the normativity of transactions. With the backing of a centralized platform, the counterparty risk in exchange trading is lower, and the security measures taken by exchanges provide users with higher safety, although they may become targets for hackers. Exchange trading is typically regulated, offering additional protection but may have trading restrictions, and its user-friendly interface and additional features like market analysis tools and trading bots enhance ease of use.

However, exchange trading also faces some challenges, such as platforms potentially being subject to regulatory restrictions, preventing users in certain regions from accessing them. Additionally, because exchanges must comply with strict KYC (Know Your Customer) and AML (Anti-Money Laundering) regulations, this may affect users' trading privacy. For some traders, the fee structure of exchanges is also a consideration, as it may increase trading costs. Overall, exchange trading is more suitable for retail investors and traders of various sizes seeking a convenient and standardized trading environment.

In summary, OTC trading and exchange trading each have their pros and cons, and the choice between the two primarily depends on the specific needs and preferences of the trader. For those needing to handle large trades and valuing privacy and flexibility, OTC trading is an ideal choice. Conversely, for those wishing to enjoy high liquidity, security, and a user-friendly interface, exchange trading is more appropriate. By understanding the differences between these two trading methods, traders can make more informed choices based on their circumstances to achieve optimal trading outcomes.

Below is a visual comparison of the two.

Comparison of Cryptocurrency OTC Trading Regulatory Frameworks

In terms of cryptocurrency regulation, the regulations and regulatory environments in Hong Kong, Singapore, and the United States each have their own characteristics. Below is an overview of the regulatory frameworks for cryptocurrency in these three countries/regions.

1. Hong Kong

Cryptocurrency regulation in Hong Kong is overseen by the Securities and Futures Commission (SFC), with key regulations including the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (AMLO). In Hong Kong, Virtual Asset Trading Platforms (VATP) are required to obtain mandatory licenses and set up a licensing system, with strict compliance requirements. In terms of anti-money laundering, Hong Kong must adhere to the AML regulations stipulated by AMLO, focusing on customer asset protection and KYC processes. The SFC regulates OTC trading activities, and VATPs must comply with strict regulatory standards to protect customers. Recently, Hong Kong has strengthened regulation under AMLO, emphasizing compliance and investor protection while intercepting funds from illegal channels. Facing future challenges, Hong Kong needs to balance market development with investor protection, ensuring that the regulatory environment adapts to the ever-changing market.

Currently, Hong Kong's cryptocurrency exchange shops are very active, with many shops offering OTC trading services, typically involving large sums of money, where customers can buy and sell virtual assets in-store using cash or other forms. Essentially, anyone can set up an OTC virtual asset shop in Hong Kong, which presents certain loopholes in the current virtual asset regulatory framework.

On February 8, 2024, the Hong Kong Financial Services and the Treasury Bureau (FSTB) launched a public consultation aimed at establishing a licensing system for OTC virtual asset trading services. According to the proposal, OTC operators will need to apply to Hong Kong Customs for a two-year license. Once licensed, individuals engaged in virtual asset trading can only exchange virtual assets available on at least one Hong Kong-approved trading platform. The FSTB plans to submit a bill regarding the OTC virtual asset licensing system to the Legislative Council as soon as possible.

• Key requirements for OTC virtual asset business operators include:
• If operating a physical OTC virtual asset business: having a suitable place of business in Hong Kong;
• If operating an online OTC virtual asset business: having a management office, communication address, and storage location for books and records in Hong Kong;
• Employing at least one qualified compliance officer;
• Employing at least one qualified anti-money laundering reporting officer;
• Having a suitable corporate structure and experienced, knowledgeable personnel to run the business;
• Conducting business with honesty, fairness, and due diligence;
• Implementing appropriate risk management measures, including AML/CFT policies and procedures;
• Maintaining records of transactions and fund flows, and providing a complete list of wallets used for business.

According to the proposal, OTC virtual asset businesses licensed by Hong Kong Customs will not be allowed to conduct conversions between virtual assets but will be permitted to provide conversion services between virtual assets and fiat currency. If the business requires conversions between fiat currencies, it must also obtain a Money Service Operator license in Hong Kong.

These proposals also provide protections for retail investors, stating that OTC virtual asset businesses cannot offer virtual assets that retail investors cannot buy or sell on SFC-licensed VATPs, nor can they offer virtual assets issued by stablecoin issuers not licensed by the Hong Kong Monetary Authority (HKMA). These restrictions do not apply to individuals who qualify as professional investors in Hong Kong.

Once the proposal takes effect, existing OTC virtual asset businesses will need to act within a six-month transition period. During this period, they can only continue operations if they submit a license application within the three months prior to the transition period.

2. Singapore

Cryptocurrency regulation in Singapore is overseen by the Monetary Authority of Singapore (MAS), primarily under the Payment Services Act (PSA). Any platform facilitating OTC trading of crypto assets may be considered as providing cryptocurrency services and is subject to PSA regulation. For example, the following cryptocurrency-related services are currently regulated under PSA as cryptocurrency service providers:

• Buying or selling cryptocurrencies;
• Establishing or operating cryptocurrency exchanges;
• Participating in and providing financial services related to the issuance and/or sale of cryptocurrencies;
• Transferring or transmitting cryptocurrencies from one cryptocurrency address to another;
• Guiding (or attempting to guide) anyone to buy or sell cryptocurrencies (without the cryptocurrency service provider actually accessing any funds or DPT).

If a company provides cryptocurrency services in Singapore, it will need to obtain one of two main licenses: (i) a Standard Payment Institution license or (ii) a Major Payment Institution license. For the Standard Payment Institution license, the specified threshold refers to accepting, processing, or executing cryptocurrency transactions of up to SGD 3 million on average per month within a calendar year. In contrast, if a company intends to provide cryptocurrency services without transaction volume or fund limits, it should apply for a Major Payment Institution license. This means that if a company exceeds the SGD 3 million threshold in average total value of all transactions through its cryptocurrency services within a calendar year, it will require a Major Payment Institution license. Given that the PSA aims to safeguard payment service transactions, the process of applying for a cryptocurrency service license can be lengthy and cumbersome.

In terms of anti-money laundering, the PSA requires compliance with AML/CFT procedures, strict customer due diligence, and transaction monitoring. MAS regulates OTC trading under the PSA, ensuring that market makers and OTC platforms meet specific requirements. Recently, MAS introduced stricter regulations for DPT service providers, emphasizing compliance with their jurisdictional services. In the future, Singapore will seek regulatory clarity to address risks associated with cryptocurrencies while promoting innovation.

3. United States

Cryptocurrency regulation in the United States is overseen by multiple agencies, including the Securities and Exchange Commission (SEC), the Commodity Futures Trading Commission (CFTC), the Financial Crimes Enforcement Network (FinCEN), and the Office of the Comptroller of the Currency (OCC).

Under the oversight of these agencies, cryptocurrency trading platforms and OTC dealers must comply with strict regulations and requirements.

First, cryptocurrency trading platforms must register as Money Services Businesses (MSB) with FinCEN and implement comprehensive anti-money laundering and Know Your Customer measures, including customer identification, transaction monitoring, and suspicious activity reporting (SAR). These measures aim to prevent money laundering and terrorist financing and ensure that trading platforms meet regulatory standards.

Second, the SEC is responsible for regulating cryptocurrency transactions involving securities. If a cryptocurrency is deemed a security, the trading platform must comply with SEC securities regulations, including registration and disclosure requirements. The CFTC regulates trades that treat cryptocurrencies as commodities, such as Bitcoin and Ethereum futures contracts. Trading platforms must comply with relevant commodity futures regulations to ensure market transparency and fairness.

In recent years, the SEC and CFTC have continuously issued guidance and enforced relevant regulations to strengthen oversight of the cryptocurrency market. These measures focus not only on investor protection and market integrity but also aim to establish a clear regulatory framework in the rapidly evolving digital asset space.

Regarding recent regulatory developments in the U.S. concerning virtual assets, California's Digital Financial Assets Law (DFAL) will officially take effect on July 1, 2025. DFAL will regulate "digital financial assets" and require companies engaged in "digital financial asset business activities" to obtain a license issued by the California Department of Financial Protection and Innovation (DFPI), with certain exceptions similar to New York's BitLicense. To obtain a BitLicense, a comprehensive application must be submitted to the New York State Department of Financial Services, including detailed information about business operations, compliance policies, anti-money laundering/KYC procedures, cybersecurity measures, and financial status.

Once California's DFAL takes effect, OTC cryptocurrency dealers operating in California will be required to obtain licenses, as will other businesses involved in the following categories:

• Exchanging or issuing digital financial assets: exchanging, transferring, or storing digital financial assets, or issuing convertible digital financial assets.
• Holding electronic precious metals: holding electronic precious metals or digital certificates on behalf of others, indicating their share in precious metals, or issuing shares or digital certificates representing interests in precious metals.
• Exchanging game currencies/tokens: exchanging game currencies or tokens, either to obtain digital financial assets from game or application publishers or to obtain real-world currency.

With DFAL, California will become the third state, following New York and Louisiana, to establish a licensing system for cryptocurrency assets.

In the future, the challenges facing the U.S. include further enhancing regulatory transparency, effectively addressing market manipulation and fraud, and promoting technological innovation and market development while protecting investor interests. This requires regulatory agencies to continuously refine regulatory policies while remaining sensitive to market changes to ensure the U.S. maintains its competitiveness and leadership in the global cryptocurrency market.

Overall, the similarities and differences in cryptocurrency regulation among Hong Kong, Singapore, and the United States are reflected in their regulatory agencies, legal frameworks, licensing requirements, anti-money laundering requirements, OTC trading oversight, recent developments, and the challenges and future directions they face. The regulatory environments and policies in each region have their own focuses, reflecting different market demands and regulatory goals.

Below is a visual comparison of the two.

Outlook for Cryptocurrency OTC Trading

As previously mentioned, Hong Kong, Singapore, and the United States, as global financial centers, each have their own characteristics in the regulation of cryptocurrencies and their OTC trading. Below, we analyze the prospects and friendliness of OTC trading in these three regions.

1. Hong Kong

Hong Kong takes a proactive regulatory approach to cryptocurrency OTC trading through the Securities and Futures Commission (SFC), demonstrating a high level of importance placed on this sector. The introduction of a licensing system under the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (AMLO) showcases Hong Kong's commitment to investor protection and regulatory clarity. The implementation of this system aims to ensure that market participants operate in a regulated environment. However, the strict compliance requirements and the transition from a non-compliant period may pose challenges for market participants initially, requiring them to adapt to the new regulatory environment. While this process is complex, it will contribute to establishing a more stable and trustworthy market in the long run.

Hong Kong is striving to position itself as a regulated center for cryptocurrency activities, which may attract institutional investors seeking compliant platforms. By providing a regulated and transparent market environment, Hong Kong is expected to become a major hub for cryptocurrency trading in Asia, attracting more international and local investors.

2. Singapore

Singapore's regulatory framework under the Payment Services Act (PSA) is continuously evolving, aiming to enhance protective measures and impose stricter regulations on digital payment token (DPT) service providers involved in OTC trading. The Monetary Authority of Singapore (MAS) demonstrates a cautious yet supportive stance towards the crypto market through its strict approach to licensing and compliance, as well as recent emphasis on custodial responsibilities. These measures not only enhance market transparency and security but also boost investor confidence.

Singapore combines strict regulatory oversight with efforts to promote innovation, making it highly attractive for companies looking to operate compliantly in a secure regulatory environment. By balancing regulatory rigor with support for innovation, Singapore provides a favorable development environment for cryptocurrency businesses, positioning itself as a leader in fintech innovation in the Asia-Pacific region.

3. United States

The OTC trading environment for cryptocurrencies in the United States is complex, with strict regulatory requirements imposed by the dual oversight of the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC), along with anti-money laundering and Know Your Customer compliance obligations from the Financial Crimes Enforcement Network (FinCEN). Despite achieving some regulatory clarity in securities and commodity trading in recent years, stringent requirements and occasional regulatory uncertainty may still pose challenges for new market entrants.

Despite these challenges, the U.S. market remains attractive due to its deep liquidity and market maturity. Once compliance barriers are overcome, these characteristics may attract larger institutional participants. The well-developed financial markets and innovative capabilities in the U.S. maintain its significant position in the global cryptocurrency market, drawing businesses looking to operate in a large and mature market.

Overall, Singapore, with its clear regulatory framework, strong investor protection measures, and supportive stance towards fintech innovation, is likely to attract a broader range of OTC cryptocurrency trading activities. Meanwhile, Hong Kong and the United States are also actively advancing their respective regulatory and market development strategies, each facing challenges but also providing different opportunities and environments for cryptocurrency market participants. By understanding and adapting to the regulatory characteristics of these regions, market participants can better plan their global strategies.

Conclusion

As global acceptance of cryptocurrencies continues to rise, Hong Kong, Singapore, and the United States, as global financial centers, exhibit different strategies and advantages in the regulation of cryptocurrencies and their OTC trading. Market participants should choose the most suitable region for their layout and development based on their needs and goals. In the ever-evolving global cryptocurrency market, understanding and adapting to the regulatory dynamics in various locations is crucial for seizing opportunities and achieving sustainable development.