Advising Crypto: The Arrival of Regulatory Oversight

• Prevailing Trends in the Crypto Industry
• What's in Store for the Future?
• Crypto Regulations in Focus
• Regulatory Areas of Interest
• Looking Ahead: Crypto in 2024
• Expert Opinions
• Regulatory Hurdles for Businesses Engaging in the Crypto Market in 2024
• Navigating International Crypto Regulations

Prevailing Trends in the Crypto Industry

The last week did not pass unnoticed for the crypto industry as the Securities and Exchange Commission (SEC) sanctioned 11 bitcoin ETFs for legal trading in the U.S. This, however, came with its share of controversy following a hoax announcement on SEC's account, a situation later attributed a security breach. Regardless, the industry regulators are now at the center of the stage, and the first day of trading for these Wall Street-backed crypto ETFs saw record-breaking transactions worth more than $4.6B.

What's in Store for the Future?

Forecast by JPMorgan predicts a movement of $36B from other crypto investments to the ETFs. On the flip side, numerous firms are denying their clients the opportunity to invest in these products. Katherine Kirkpatrick Bos, the Chief Legal Officer at CBOE Digital, sheds light on what to expect in 2024 and the role that U.S. regulators will play in the crypto industry.

Crypto Regulations in Focus

In 2022, the crypto industry witnessed a crypto winter that came with a blizzard of bankruptcy, fraud, and excessive reliance on bad debt. These unfortunate events resulted in two significant outcomes: a regulatory backlash and the maturation of the industry. Projects have become more cautious, and there has been a natural increase in regulatory scrutiny aligning with the industry's growth.

In response to the enforcement environment and scrutiny on activities involving digital assets, projects are now looking to move offshore to evade U.S. regulatory pressure or doubling down on compliance and best practices. The year 2023 was a mix of challenges and stabilization in the crypto industry-traditional financial services entities scaled back their crypto and DeFi engagements, exploratory partnerships fell through, legislators responded with mixed reactions, and more entities sought safe, trusted crypto choices.

With the recent approval of the spot BTC ETF, which has invited more institutional and low-risk investors into the crypto market, what can we expect from the U.S. regulatory environment in 2024?

Regulatory Areas of Interest

Regulators have indicated their continued focus on anti-money laundering, DeFi, financial intermediaries, and conflicts of interest. To avoid enforcement, regulated entities in the crypto market will need to maintain transparency and compliance. Unregulated entities must have a clear reason for the lack of regulation or no ties to the U.S. or take active steps to block any engagement or marketing to prospective U.S. clients.

Looking Ahead: Crypto in 2024

Expectations for 2024 include the growth of institutional and traditional financial engagement with crypto, compelling projects to review their risk, compliance, and legal infrastructure. Watch the following growth areas and their regulatory risks:

• Crypto custody - This is an ongoing investment area for foreign banks due to client demand. It's underserved in the U.S. mainly due to regulatory concerns. As technology improves, safer and more secure solutions are emerging.
• Tokenization - There was a significant increase in R&D in this area from both traditional finance and crypto in 2023. Regulators have been more welcoming to tokenization. Banks have been leading the charge in this area.
• Anti-Money Laundering - This is a risky area for crypto. Parties should focus on entities with best practices in rigorous know-your-client processes and sanctions screening. Expect more advanced technological solutions, such as the use of zero-knowledge proofs and identity verification on-chain, which will facilitate this.

Given the continued activity expected from U.S. regulators in 2024, the best outcome would be growing engagement between the industry, regulators, and legislators to improve and build upon the status quo.

Expert Opinions

Regulatory Hurdles for Businesses Engaging in the Crypto Market in 2024

The impact of regulatory changes on crypto businesses is significant but varies depending on the nature of the business. Key regulatory challenges this year will include compliance with evolving global AML standards and understanding the nuanced differences in crypto-asset classifications across regions. For instance, a digital token might be considered a commodity in one jurisdiction but a security in another, necessitating a diverse approach to compliance. Businesses need to invest in robust compliance frameworks that are both flexible and responsive to these varying regulations, including financial crime prevention, asset classification, and market integrity. There will be a range of approaches to regulatory implementation in these areas.

Navigating International Crypto Regulations

Navigating international crypto regulations effectively requires a strategy that blends global compliance principles while adapting to local regulatory requirements

Edited by Jonathan Stoker