In October 2019, securities regulators on six continents will promote investor education and protection through World Investor Week, an initiative of the International Organization of Securities Commissions (IOSCO). World Investor Week is a global campaign to raise awareness about the importance of investor education and protection, and to highlight the investor education and protection initiatives of securities regulators.
Virtual and digital currencies/assets are gaining popularity. However, it should be underscored that consumers need to assess the risks associated with holding and/or investing in virtual or digital assets prior to investing in these assets. In particular, consumers should be aware that providers of virtual or digital assets are mostly unregulated. Regional and global regulators emphasize that consumers should know the potential risks of buying or investing in virtual currencies and assets. High volatility, the lack of (proper) regulation, vulnerabilities concerning cybersecurity, misuse for criminal and fraudulent activities, and lack of transparency makes these types of high risk investments unsuitable for retail investors, or investors other than professional, accredited, or sophisticated investors.
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KEY FINTECH CONCEPTS
Crypto-assets are products that have captured the attention of media, both experienced and inexperienced investors, financial regulators, and governments. But what are they? How can they impact our lives?
This section will help you to better understand the key fintech concepts, and the concerns that regulators may have with people investing their savings in them. Click on the terms below to learn more.
The term “fintech” is simply a merger of the words “financial” and “technology”. It refers to the use of technology, including computer programs, to deliver or improve banking and financial services.
There have been many traditional financial services that have drawn the attention of fintech developers. Mobile banking and software apps that let you buy insurance online, or that provide investment advice over your mobile phone, are a few examples. When crypto-assets are used to meet financial services needs, they are considered fintech as well.
Advances in technology can bring new solutions that forever change the way that people do things. New technologies, like crypto-assets, often bring new risks, and it usually takes some time to understand how best to protect consumers and the public from those risks without stopping progress.
Crypto-assets is a term that captures a wide range of products. Examples include cryptocurrencies, crypto-coins, exchange tokens, non-fungible tokens, security tokens, utility tokens, and virtual currencies. Common to all of these is their reliance on distributed ledger technology (DLT), like the blockchain, to track and record key details, such as the ownership history of the crypto-asset.
Examples of crypto-assets that you may have heard of include cryptocurrencies like Bitcoin, Ethereum, Ripple and Litecoin.
How distributed ledger technology (DLT) is defined varies. However, the key concept with DLT is that a number of participants on a network of computers use cryptography (secret coding) to control the generation of units of digital assets and to record and verify transactions. In the case of cryptocurrency, the DLT used is called the blockchain.
With DLT, transactions are recorded digitally across the users on the network and the collective records must all match to be accepted. This is one of the key innovations of DLT. There is no centralised government authority or middleman, such as a Central Bank, involved in the process. The network is the first and final authority.
The lack of a central government authority may appeal to different users for various reasons. However, in some cases, it also attracts people with criminal intentions. In fact, crypto-assets have become a popular payment method for some frauds and other crimes which could impact you. For example, they are often used to facilitate ransomware payments.
Although the usage and acceptance of many crypto-assets and ways to exchange them for “real” money are increasing, by no means should you expect to go to the grocery store with your cryptocurrency, or that your landlord or the local power company must accept it from you.
Because “currency” is in the name, many people think that a cryptocurrency is a “currency” like US dollars, or euros. US dollars and euros are known as “fiat currencies”. Fiat currencies are backed by the governments that issued them and are legal tender in the countries where they are issued – meaning that everyone in that country accepts them as a means of payment. Cryptocurrencies are not backed by an issuing government. They are not legal tender.
Cryptocurrencyprices are usually based on supply and demand, and they can have very large price swings as a result. This makes them a poor way to measure or store value.
There are developers working on cryptocurrencies that maintain stable prices. These cryptocurrencies, known as ‘stablecoins’, have prices that are connected to the prices of stable assets, such as US dollars or gold. Unfortunately, they are often complex and still subject to supply and demand forces that reduce the stability of their prices.
Cryptocurrencies, crypto-coins and crypto-tokens are very similar terms, whose meanings are still not universally defined. ‘Token’ is the term many experts and regulators use more and more frequently when discussing cryptocurrencies and crypto-coins.
“Tokens” can be divided into three categories, depending on their features:
1. Exchange tokens
- intended for use as a means of exchange
- not issued or backed by a central authority
- used as a means of trade outside of the central payments and banking system
2. Security tokens
- features of securities
- may be regulated just like securities
3. Utility tokens
- grant access to an existing or prospective product or service
- do not qualify to be regulated like securities
When public companies need to raise capital, or a private company makes the decision to “go public”, they may sell shares of their company in an initial public offering (IPO). Similarly, developers looking to raise money for a project or new venture may use an initial token offering (ITO), where tokens are offered in exchange for money or other assets. ITOs are also known as an initial coin offerings (ICOs), token sales or a coin sales.
In well regulated capital markets, the promoter of an IPO must meet strict regulatory standards regarding the information they are required to share with the public about the investment. However, ITOs/ICOs are often unregulated, in which case the supporting documents of the ICO are not required to be reviewed by a regulatory body, or to meet the high standards for disclosure of material information as would be required for an IPO.
Once an ITO/ICO is complete, tokens may be traded on a cryptocurrency exchange. A cryptocurrency exchange is an online platform that allows you to buy, sell or exchange cryptocurrencies for other cryptocurrencies, or for fiat currency. In many instances today, cryptocurrency exchanges are still unregulated. As a result, investors do not have the same protections as they would on regulated securities exchanges.
Cryptocurrency exchanges are also frequently the target of digital theft. Many have been hacked and suffered notable losses.
Tokens are stored in digital wallets, or e-wallets, that require a password for access. These passwords are often very long and complicated, to reduce the chance of theft or hacking. However, if an investor loses his or her password or the wallet is hacked, the investor could permanently lose access to the wallet’s contents.
E-Wallets can be hot or cold. Hot wallets are online and connected to the Internet, so the user can access them to do transactions. However, as they are online, hackers may be able to access them too. To combat theft by hacking, some investors put their tokens into cold wallets. Cold wallets are stored offline and are away from exchanges. People who invest in cryptocurrencies usually have both cold and hot wallets.
You may have heard about people investing in cyrpto-assets and making lots of money quickly. While people have made fortunes on risky investments, like crypto-assets, many have lost fortunes and their life’s savings pursuing them. If you do not have a lot of investment expertise or you cannot afford to take heavy financial losses, there are some crypto-asset risk features that you need to know and understand.
- Risks of financial crime: digital assets can be used by criminals for illicit activities through their lack of transparency. More and more, crypto-asset investors have been the target of outright scams and have lost their entire investment as a result. Without regulation, these investors have no one to turn to.
- Risks in cybersecurity: tendency to cyber threats and attacks which means investors lose their investments or their assets are transferred out of the owners’ accounts and into others. Some investors have even had their e-wallets hacked or forgotten their passwords, and lost their investment as a result. Without regulation, investors have no one to turn to, for help to retrieve their lost assets.
- Risks to investing individuals/consumers: One of the most important tools any investor has is information that is accurate, timely, and fairly obtained, which helps them to make sound investment decisions. Unfortunately, there is a lot of hype and often misinformation surrounding crypto-assets, particularly during initial token offerings, when a digital token is first offered for sale to the public. If the token offering is not regulated, a regulator may not be able to help you, even if you were intentionally misled. Without proper knowledge about these products, the concepts and the risks, you may become a victim of a fraudster who will try to get you to invest in a system of unregulated digital assets.
- Risks to market integrity: increased vulnerability and abusive practices as a result of transparency and lack of regulation, may lead to financial losses and loss of market confidence with adverse financial stability implications.