This article is a review of advice issued by the Cyprus Securities and Exchange Commission regarding investment in virtual currencies and related products in CySEC circular №С244 of 13 October entitled “Trading in virtual currencies and/or trading on contracts for differences relating to virtual currencies.” The focus is on the circular’s main regulations and the likely risks of trading in virtual currencies:    

The main conclusion that we can draw after studying the circular is that virtual currencies were not explicitly recognized as legitimate funds, while market participants were given the right to independently assess all the risks and possible financial implications of investing in virtual currencies and contracts as to the difference. Let’s consider the basic requirements that Cyprus Investment Firms (CIFs) have to comply with, which have received prior approval from CySEC and currently have the right to provide services related to virtual currencies or contracts with regard to the differences.

It should be noted that CySEC focuses on the availability of a sufficiently broad range of risks associated with investing in virtual currencies, the information that a CIF should bring to a client’s attention prior to providing them with the appropriate services. First of all, such transactions are not regulated by regulations on the territory of Cyprus, or by Directive 2004/39/EU on Markets in Financial Instruments (MiFID), which means that the relevant transactions are not included in the list of activities that are subject to regulation by this Directive. In addition, the circular states repeatedly that there is no EU regulation that would regulate trading issues with such products.Market participants should understand that these instruments are complex in nature and entail many risks, including the risk of loss of invested capital and the risk of significant fluctuations in the rates of virtual currencies, which can cause significant losses over a relatively short period of time. CySEC is calling for special attention to be given to other features that give rise to even greater caution, such as the promise of securing high income from investing with minimum or zero risk, or unsubstantiated proposals without a full analysis being undertaken of the risks that exist.

CySEC also draws attention to the fact that investors who do not possess the right knowledge and experience, as well as investors who do not fully understand the specific features of products and the risks associated with them, should avoid transactions with virtual currencies. In addition, potential investors should be aware of the lack of guarantees provided. For example, such investors are deprived of the right to receive protection from CIFs. Another example is the lack of access to the Financial Ombudsman of Cyprus in the event of any dispute with a CIF. The decree also introduces other requirements for CIFs. In particular, they must comply with the provisions of the Law On Investment Management Services and with CySEC’s Guidelines on organizational requirements and principles of commercial activity, accountability and capital adequacy, etc.The feed provider, particularly currency exchange providers and liquidity providers, as well as enlisted CIFs, must be duly licensed and have legal status in terms of their national jurisdictions.

CIFs should conduct a comprehensive review of financial service providers and counterparties prior to the establishment of legal relationships and carry out such checks on a regular basis in future. CIFs should involve more than one financial service provider and do a simultaneous cross-check in order to ensure that other providers of financial services give maximum execution. In the event of involvement of just one financial service provider, CIFs should identify and document the fact that they are complying with their respective obligations.

With regard to the expert assessment of this circular, it should be said that their views are divided. Some experts believe that the initial rejection and even the fears of individual countries, in particular Cyprus, as an attractive financial jurisdiction, to recognize the benefits of using virtual currencies have now changed to interest. In future regulatory acts regulating the use of virtual currencies will definitely be adopted in the EU.The supporters of this view are convinced that legal relationships that actually exist should be subject to appropriate regulatory assessment and that the Governments of the most developed countries will try to legitimize transactions with virtual currencies by introducing the taxation of such transactions.

The opposite view is that despite the circular not containing a direct ban on virtual currency investment operations being carried out, CySEC does not give proper recognition to such operations. Market participants have received the necessary clarifications regarding a wide range of risks associated with the conducting of such transactions. Thus, CySEC has actually transposed all the risks of any adverse effects of the relevant investment operations on the investors themselves by establishing only a relatively short list of requirements for CIFs. And so the investor’s final decision on whether or not to invest in virtual currencies is simply down to the investor himself.

For CySEC’s announcement, please click here.  A similar warning on cryptocurrencies was issued by CySEC on 31/3/2017.

For legal advice on regulatory matters, you can get in touch with the AGP FS Regulatory and Advisory Team.