Cryptocurrency compliance is complicated but not impossible. Here’s how to account for crypto regulation in existing compliance frameworks
Cryptocurrencies and other formerly niche digital assets have gained massive momentum in the past few years, and in many eyes they’ve entered the mainstream. In fact, a heated Senate debate over proposed cryptocurrency regulation delayed a $1.2 trillion infrastructure bill, demonstrating just how crucial cryptocurrency is becoming to financial services overall.
Traditional banks might be late to the cryptocurrency space, but you can bet they’re scrambling to get a piece of the pie. At its IPO, the Coinbase cryptocurrency exchange was commanding an $86 billion valuation (though it’s less than that now) and the publicly traded Robinhood exchange noted in its first earnings report that 41% of its $565 million in revenue came from commissions on cryptocurrency trading.
As banks move to incorporate digital assets into their products and services, their employees are undoubtedly experimenting with these assets as well, creating a challenging situation for compliance and risk-management teams.
THE COMPLICATED NATURE OF CRYPTO COMPLIANCE
Why is cryptocurrency compliance particularly challenging for financial institutions? For one, cryptocurrency trading doesn’t have the settlement cycle that accompanies the traditional securities exchange by financial industry members. For instance, stocks might have a T+2 settlement date for bank employees, making it more difficult for them to time their trades according to the release of material nonpublic information, or MNPI. In contrast, cryptocurrencies such as Bitcoin were designed around decentralized finance, or DeFi, and traders can buy or sell cryptocurrencies in minutes from their phones.
One other characteristic of DeFi is a fragmented market, and different exchanges might have different bid and ask prices for a given currency. This lack of uniformity means many traders actively participate in various exchanges, making their activity more difficult to monitor. Cryptocurrency regulation is highly complex, but it will only become more necessary as it proliferates among traders.
THE CURRENT STATE OF CRYPTO REGULATION
In the UK, one of regulators’ biggest priorities is eliminating the possibility of money laundering and fraud with cryptocurrencies. As such, they require any business offering services in the DeFi space to comply with anti-money-laundering legislation. So far, that’s prompted many organizations to withdraw their applications to register with the Financial Conduct Authority.
In the US, a broad regulatory framework is still a long way off. Still, the SEC and FINRA require institutions with services related to cryptocurrency to acknowledge fiduciary responsibilities and other obligations. It’s an early step in what will no doubt be a major push for a compliance framework that governs how firms should protect their cryptocurrency investors. To put your organization in the best possible position when that effort bears fruit, follow these three steps:
1. GET UP TO SPEED
The cryptocurrency market is still maturing and gaining mainstream adoption. It’s also complex and nuanced. Even financial services employees who consider themselves well-versed in the space can benefit from some education on the subject—especially compliance teams, who will need a deep understanding of the technologies underpinning DeFi and various cryptocurrency assets. Bring in third-party educators to share cryptocurrency expertise and ensure everyone has a firm foundation of knowledge.
2. ASSESS YOUR ORGANIZATION'S CURRENT DEFI POSITION
Take an honest look at your firm’s current position to maintain cryptocurrency compliance, and outline where you might need new tools and strategies to fill in the gaps. For example, do you have current systems that could support employee trade requests for digital assets? It could be a simple structure—such as a form employees complete online—but the sooner you have them, the better equipped you’ll be to build on them later as the cryptocurrency space evolves.
3. EMBRACE A CONTINUOUS APPROACH TO COMPLIANCE
If the speed at which the market has been growing is any indicator, the cryptocurrency space will likely change quickly and with little warning. Like other compliance processes and procedures, your policies around cryptocurrency regulation will need to stay flexible and adaptable. You must be prepared to pivot as cryptocurrency compliance issues garner increased attention and new SEC regulations take hold in response. Take a future-looking approach and outline potential scenarios now to help your firm craft informed reactions later.
The world of cryptocurrency compliance will continue to evolve in the coming years as more consumers increase exposure and financial institutions rush to keep up. As the situation unfolds, compliance teams must stay up to speed on cryptocurrencies, stay aware of where their organizations stand, and be ready to undertake a process of continuous assessment and improvement to produce a more prepared compliance posture.