Over the past few years, the crypto market has grown from a financial sideshow largely derided by the mainstream investment markets to one of the most important and hotly discussed asset classes in the world.
As decentralised assets that don’t fall under the direct oversight or control of any single entity, the promise of crypto has been to help facilitate a new type of financial platform free from the interference of governments or vested interests.
However, as crypto has grown into an investment phenomenon, drawing interest and capital from everyone from day traders to multibillion dollar hedge funds, it has also attracted the attention of global financial regulators that are concerned about the impact this loosely governed corner of the investment world could have on the economy.
With the crypto markets now valued at more than $2trn and the price of bitcoin higher than many traditional financial market operators would have ever dared predict, how could crypto regulation affect cryptocurrencies and related assets?
How is cryptocurrency regulated?
Different jurisdictions have taken varied approaches to regulating or attempting to assert some form of control over the crypto market, ranging from punitive taxes and stringent anti-money laundering controls to more accomodating approaches which are aimed at encouraging the sector to innovate.
Here we will look at crypto regulation in three major markets: the US, UK, and the European Union.
US crypto regulation
Despite being one of the largest markets for cryptocurrency companies and investors, as well as home to the only publicly -listed crypto exchange in Coinbase, the US is yet to implement a coherent regulatory structure around the industry.
Part of the reason for this has been a degree of regulatory confusion, with agencies such as the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commissions (CFTC) disagreeing over the exact legal status of the assets.
The SEC argues that many cryptos function as securities and so fall under its jurisdiction, the CFTC has designated some crypto assets as commodities, while the Internal Revenue Service has deemed crypto as property for the purposes of taxation, leading to uncertainty over its exact status.
The administration of President Joe Biden has called for a more unified approach to the issue, and proposed levying a tax on crypto exchanges as a means of funding proposed government spending increases, but the latter was ultimately dropped in the face of industry opposition.
Meanwhile, industry participants such as Coinbase have called for the government to set up a crypto-specific regulator to handle the industry, arguing that the existing legal framework is unfit for purpose to deal with the burgeoning market.
UK Crypto regulation
The UK has recently adopted a more strict approach to crypto regulation as both the government and regulator have grown concerned about the extent of purported retail investor speculation and leverage in the market.
Exchanges operating in the country have to comply with Know-Your-Customer (KYC) obligations as well as anti-money laundering (AML) laws. Crypto assets are also considered property for the purposes of taxation by Her Majesty’s Revenue and Customs.
UK traders were abruptly cut off from trading crypto derivatives earlier this year after the asset class was banned and the Financial Conduct Authority (FCA) released a consumer warning about Binance Markets.
However, the FCA also acknowledged that given the decentralised nature of Binance, it was unable to enforce any specific laws or regulations within its authority against the company.
European Union crypto regulation
While specific regulations for cryptocurrency differ between the various countries of the European Union, the asset class is broadly legal.
In July 2021, the European Commission proposed a new framework that would require companies which transfer crypto assets to collect details of sender and recipients on the recommendation of the Financial Action Task Force.
That would harmonise the scattered approach currently operated by countries in the bloc.
Under this Regulation on Markets in Crypto Assets (MiCA), exchanges would be responsible for investor protections, while so-called stablecoins, which are digital currencies pegged to another asset such as fiat money or commodities, would require a licence to be traded within the EU.
How will regulations affect cryptocurrencies and stocks?
While it looks like the crypto market is here to stay, the introduction of new regulatory requirements could have a significant impact on the industry and investors need to stay up to date with the latest developments.
Legal requirements imposed on stablecoins, which could include them being regulated in a similar manner to banks, would have widespread repercussions for the market as a whole, given the importance of instruments such as Tether in facilitating trades.
There are also likely distinctions to be drawn between wholly decentralised assets such as Bitcoin and Ethereum, which make up the largest portion of value in the market, and other crypto assets such as Non-Fungibile Tokens (NFTs) and other DeFi projects.
The SEC has previously argued that many DeFi projects such as initial coin offerings bear strong similarities to securities, which would then fall under the same rules as publicly listed companies, while Bitcoin and Ethereum are not controlled by any one entity and so could fall under different rules.
Regulation of the cryptocurrency derivatives market is also likely to be a critical aspect of any rules drawn up to protect investors, given that these allow retail traders to take on significant leverage without the backstops that mainstream stock exchanges have to offer or warnings for investors.
Biggest crypto companies that may be affected
Companies that allow users to transact, send and receive cryptocurrency are likely to be those most affected by regulatory efforts to control the sector.
Here are the three biggest firms by market capitalisation that offer customers the ability to trade and transact crypto assets, according to the comparative research by Capital.com.
As the world’s first publicly listed cryptocurrency exchange, Coinbase holds a prominent position in the industry and is the largest such company operating in the US.
The firm has consistently called for more clarity over crypto regulations and has supported the creation of a crypto-specific regulator and new cryptocurrency rules to govern the asset class to help bring more structure and certainty to help the industry develop.
As a public company, any move the firm makes comes under the purview of the SEC, and Coinbase was recently forced to back down from offering interest-yielding accounts after the regulator threatened to sue.
PayPal is the original online payment services provider, and the firm finally made its foray in the cryptocurrency world last year when it announced it would allow users to use crypto as a funding source for its 26 million merchants.
It followed that up in November 2020 by expanding its offering to allow users in the US to buy, sell and hold cryptocurrency on the platform, and while the firm secured a BitLicense from the New York State Department of Financial Services, any changes to regulation could affect this part of its business.
The digital payments company Square is part-owned by Twitter CEO Jack Dorsey and facilitates millions of dollars worth of crypto transactions.
With regulators putting increased scrutiny into the details of crypto transactions, more regulations could have an impact on the company’s bottom line.
The crypto industry has long called for an exchange-traded fund (ETF) to track bitcoin and other popular currencies as a means for investors to more easily gain exposure to the asset class.
That dream recently came true after the SEC gave its approval to the first US-listed Bitcoin ETF, the ProShares Bitcoin Strategy ETF (BITO). This ETF tracks the price of BTC using futures listed on the Chicago Mercantile Exchange.
A major risk for the ETF is that because it uses futures rather than investing directly in bitcoin to offer investors exposure, the price of the asset can differ significantly from the underlying asset it is designed to track.
Other fund management firms have applied for crypto ETFs of their own, such as the Valkyrie Bitcoin Strategy ETF (BTF), but SEC chair Gary Gensler has made clear that the regulator at this point was not comfortable with approving an ETF based on the bitcoin spot price, saying that such a fund would likely need necessary investor protections.
A decision on the approval for the Valkyrie fund was recently pushed back until next year by the SEC after it said that it needed more time to assess its structure and impact on investors.
The bottom line
As crypto markets have grown to become an ever larger part of the global financial infrastructure, regulators and governments around the world have become more resolved that they should fall within some form of official control.
With a significant portion of the industry itself now also calling for regulation to give clarity to existing firms and support innovation within a defined legal framework, it is inevitable that crypto services are going to be more heavily policed in future.
This will have an impact on cryptocurrencies themselves and related stocks as well as other assets, and investors need to be aware of the risks involved and how it could affect their portfolios.
The US is yet to implement a coherent regulatory structure around the cryptocurrency industry despite being one of the largest markets for cryptocurrency companies and investors, as well as home to the only publicly listed crypto exchange Coinbase.
Meanwhile, Europe and the UK have frameworks in place for some cryptocurrency regulation.
As cryptocurrencies have grown into an investment phenomenon drawing interest and capital from everyone from day traders to multibillion dollar hedge funds, it has also attracted the attention of global financial regulators that are concerned about the impact this loosely governed corner of the investment world could have on the economy.
Cryptocurrency may be more regulated in the future. Currently, different jurisdictions are taking varied approaches to regulating or attempting to assert some form of control over the crypto market, ranging from punitive taxes and stringent anti-money laundering controls to more accommodating approaches which are aimed at encouraging the sector to innovate.
The difference between trading assets and contracts for difference (CFDs)
The main difference between CFD trading and trading assets, such as commodities and stocks is that you don’t own the underlying asset when you trade using a CFD.
You can still benefit if the market moves in your favour or make a loss if it moves against you. However, with traditional trading you enter a contract to exchange the legal ownership of the individual shares or the commodities for money, and you own this until you sell it again.
CFDs are leveraged products, which means that you will only need to deposit a percentage of the full value of the CFD trade in order to open a position. But with traditional trading, you buy the assets for the full amount. In the UK, there is no stamp duty on CFD trading, but there is when you buy stocks, for example.
CFDs attract overnight costs to hold the trades (unless you use 1:1 leverage), which makes them more suited to short-term trading opportunities. Stocks and commodities are more normally bought and held for longer. You might also need to pay a broker’s commission or fees when buying and selling assets directly, and you’d need somewhere to store them safely.