Days after the Financial Conduct Authority’s ban the sale of crypto-derivatives to retail consumers came into effect in the UK, the price of Bitcoin has surged past the $40,000 mark.
The FCA’s reasoning behind the ban, which came into effect the 6 January 2020, was that the products were “ill-suited for retail consumers due to the harm they pose”.
The regulator explained that cryptocurrency derivatives cannot be reliably valued by retail consumers because of the “inherent nature of the underlying assets” as well as the “prevalence of market abuse and financial crime in the secondary market”.
It also cited the extreme volatility of cryptoasset price movements, “inadequate understanding” and a “lack of legitimate investment need” for retail consumers to invest in the products.
“These features mean retail consumers might suffer harm from sudden and unexpected losses if they invest in these products,” the FCA added.
Over the last year, the prices of various cryptocurrencies have surged. Seven out of the top 10 performing non-leveraged ETFs were cryptocurrency trackers in 2020.
Source: FE Analytics
However, retail investors who wish to buy cryptocurrencies such as Bitcoin will now be forced into less-regulated exchanges according to Bradley Duke, chief executive of crypto firm ETC Group.
“It's a real case of regulation which isn't actually doing what it's supposed to be doing. It's not actually protecting the investor. It's pushing them into harm's way,” he argued.
“Retail investors are still going to trade crypto, but they're just going to do it in a way that's much less safe and much less controlled.
“The retail investor now has to go into often unregulated cryptocurrency exchanges, where regulation is nowhere near as extensive as a place like Deutsche Borsa, XETRA, a major European exchange.”
ETC Group launched a Bitcoin-linked ETF listed on the XETRA exchange in Germany in June 2020 under the ticker ‘BTCE’.
Duke continued: “With a product like BTCE and similar ones, retail investors get all the protections of hundreds of years of financial services regulation.
“They're getting these exchanges that have been around for a long time. They must go through broker-dealers who are highly regulated, there's all the KYC [know your client] and AML [anti-money laundering] rules that are enforced.
“All these protections that have been accumulated, market abuse protections at the exchange, source of funds, making sure that there's an orderly market that has ample liquidity, all these things that happen on the exchange have been derailed.”
However, the FCA has previously said it believes cryptocurrencies have “no intrinsic value” and therefore no reliable basis for valuation, which was the basis for its decision made back in October 2020.
The banning of the sale, marketing and distribution to all retail consumers of any derivatives (i.e. contracts for difference or CFDs, options and futures) also included exchange-traded notes (ETNs) that reference cryptoassets in the UK, such as BTCE.
Sheldon Mills, interim executive director of strategy & competition at the FCA, said at the time: ‘This ban reflects how seriously we view the potential harm to retail consumers in these products. Consumer protection is paramount here.
“Significant price volatility, combined with the inherent difficulties of valuing cryptoassets reliably, places retail consumers at a high risk of suffering losses from trading crypto-derivatives. We have evidence of this happening on a significant scale.”
The FCA estimated that retail consumers will save around £53m from the ban.
However, ETC Group’s Duke said the most worrying part is that retail investors will now have to manage their own crypto holdings.
He said: “It's not simple: it’s easy to lose your key, to be swindled by somebody online because you don't really understand what you're doing. Whereas with products like BTCE, it's like trading a stock, it gets stored in your brokerage account and then that's it – no one can steal it there.”
Additionally, Duke cited the growing economy around digital assets and blockchain, which he said is employing increasingly more and more people.
“The FCA has kind of given a very strong signal that the UK is not open for business at least for at least for certain segments of the market,” he said.
“This is music to the ears of the other major regulators around Europe who see an opportunity here in one of the biggest growth areas that we've seen in the last decade.”
Florian Ginez, an associate director of quantitative research at WisdomTree said: “A lot of new buyers have been entering the market: wealth channels, family offices, asset managers, hedge funds.
“So, Bitcoin has definitely been getting more interest from in the investment community lately. Only this time, the attention is also coming from financial institutions, and not exclusively from retail investors.
“We believe that what we witnessed this year were only the early stages of a new paradigm to come for Bitcoin, shifting away from a quasi-exclusively retail asset to a widely accepted financial instrument.”
Indeed, in November 2020, a mainstream UK investment house Ruffer revealed that the £416m Ruffer Investment Company initiated a 2.5 per cent “defensive” position in Bitcoin, funded by trimming its allocation to gold.
Just a few days ago, US investment bank JP Morgan Chase & Co said it believes Bitcoin could rise to $146,000 as it competes with gold.
US-listed companies Square and MicroStrategy have both invested millions into Bitcoin, whilst financial services firm PayPal has launched a new service allowing its users to buy and sell digital assets on its network of merchants in 2021.
However, despite this, Edward Park, chief investment officer at UK investment advisor Brooks Macdonald, said Bitcoin is not an asset class that his firm invests or intends to invest in the short to medium term.
“The main reason for this is that we struggled to provide a genuine valuation for assets which don’t have an intrinsic value. That’s going to be our position for a while,” he said.
“There are plenty of investment opportunities out there where you can analyse the intrinsic value of bonds or stocks, assess their upside or downside using fundamental analysis and hold a view.
“Equally in terms of macroeconomics themes, you have a view of the flows around the world, the view about economic tailwinds, which areas or sectors will benefit from them.”
“You can’t do the same with Bitcoin.”