Crypto and Securities Regulation:
An interview with Alexa Lam

Alexa Lam has over forty years of legal, regulatory and policy experience, including eighteen years in corporate and securities law practice in Hong Kong, New York and Chicago, sixteen years as a senior official at the Hong Kong Securities and Futures Commission (SFC), six years as a law professor at HKU and three years as a policy advocate on behalf of global regulated funds. She is qualified to practice law in Hong Kong, the State of New York and the United Kingdom, and holds law degrees from HKU and the London School of Economics.

Q1. Please introduce yourself and tell us about your current interests.

I trained as a lawyer first in Hong Kong and subsequently in Chicago and New York. In mid-career I became a regulator, and joined the SFC in late 1998, a year after the onset of the Asian Financial Crisis. There I spent 16+ years, at the time when the Hong Kong market evolved from a niche player to a financial hub in Asia. Those were intellectually and professionally rewarding years for me. I retired from the SFC in 2015 and have since been involved in teaching and nurturing students at The University of Hong Kong. During this period, I also spent some time working as a policy advocate for ICI Global, the U.S. trade association for global regulated funds.

Currently I am following the debates and regulatory developments around the world on the regulation of virtual asset activities. It is an intellectually stimulating exercise, watching how different markets adapt well-developed law and policy for securities, payments, custody and even banking to the world of virtual assets and investments.

Q2. For those not familiar with the role of a regulator, please describe what a regulator does and does not do, and how you see their role in the markets. Who typically becomes a regulator and is law the most common path into this field?

A regulator’s primary function is to enforce the law for appropriate investor protection and promote fair and efficient markets. Investor protection does not mean that you make choices for investors or that you decide what they should or should not invest in. That decision is for the investors to make. The regulator’s job is to ensure that investors are given all relevant, accurate information in a timely manner so that they are able to make informed decisions, and that they are treated fairly. Markets work best when they are transparent and fair.

Law is good grounding for a career in regulation, but the regulator is not a law firm, and regulation is not just about writing or enforcing law and rules. To be effective as a regulator, you must understand the market, the trends, the economy (or economies) that your market serves, investors’ needs and the larger socio-political environment in which your market operates. A background or experience in disciplines such as finance, economics, research or government and policy would equally equip you for the job of a regulator.

I have seen young people join the regulator, some even straight out of college. Some of them move into the market after several years’ experience at the regulator. Others (myself included) join the regulator mid-career, motivated no doubt by their interest in policy work and the desire to serve the larger community. Cross pollination of talents between the market and the regulator is a good thing.

Q3. As a securities regulator, you saw many kinds of financial instruments. What was your thought process when faced with a new financial instrument and is this similar to how you look at digital/crypto assets?

I believe that investors are best served if they are given access to a wide and deep choice of investments and products, supported by independent, professional advice. Innovation is the lifeblood of deep, vibrant financial markets. I took this as a guiding principle when new financial instruments came within my radar during my time as a regulator. When the market develops a new product or a new method of investment, a regulator should ask questions such as how does the product or method work, what outcome is it designed to deliver for investors, is there is a good and reasonable basis for the issuer/manager to believe that it is a fair outcome and that the product/method could deliver that outcome. Other considerations include who are the investors or types of investors that the product/method is suitable for, what steps the issuer/manager would take to ensure that product suitability obligations will be complied with and that the target investors would understand the risks, etc.

Crypto assets have since the debut of Bitcoins been an investment option (albeit still at a very small scale). Again, the philosophy that the addition of new products is a good thing informed my thinking. Yet, because crypto asset activities have been largely unregulated, the market has not developed in a healthy manner and there have been countless cases of fraud and failures leaving investors with significant losses. Regulation needs to come in to put in some guardrails for the crypto market for longer term health and sustainability.

Q4. There is this notion that digital/crypto assets are different from traditional securities and thus traditional regulatory frameworks do not apply. What are your thoughts on this?

The view that securities regulation has no place in the entire crypto space is misinformed. When you come to the market to raise funds through public offerings of investments or when you offer trading in these investments, securities legislation demands that you satisfy minimum requirements of adequate disclosures and proper conduct so that investors are given accurate and timely information with which to make investment decisions, and that there are sufficient safeguards against fraud and misconduct. Entrepreneurs who offer shares or equity in their companies must meet these requirements. Brokers who offer trading services for these investments must satisfy conduct and prudential requirements. Why should those who offer investments in projects just because they use digital tokens delivered though new technology be exempt from these requirements? Similarly, why should those who offer trading services for digital securities be exempt from conduct obligations in their dealings with their clients? The law looks at the economic reality of a transaction, not how it is labelled or delivered.

While it is relatively easy to determine if a crypto asset or offering falls within the definition of securities, we must admit that it may not be as easy for developers who use crypto assets in building new blockchain applications to determine how to be compliant with all requirements of securities regulation, which have been designed largely around the nature and attributes of the more conventional types of securities. I suspect that this might have contributed to the debate, or belief, that because there doesn’t appear to be an immediate fit, securities law and regulation do not apply. I would encourage crypto entrepreneurs to proactively engage with their regulators to work out a solution for their projects to satisfy regulatory requirements. As regulators are also interested in promoting innovation and growth in their markets, they will have good reasons to explore solutions while remaining faithful to the principles underlying their regulatory framework. A regulatory framework with clear rules will help the industry move forward and give it the branding that inspires investor confidence.

Q5. The pace of change in financial services and financial technology is rapid. Is it a fair criticism that regulators are often ill-equipped, either through experience or resources, to keep abreast of these changes and regulate effectively?

I believe that regulators by the very nature of their functions are behind the market. If they were ahead of the market, there would not be a real market for them to regulate.

It is important that regulators and their regulatees have frank and open dialogues, so that regulators are aware of the trends and needs of the market, and regulatees understand the regulatory objectives and priorities in their market. A revolving door policy that encourages a degree of cross pollination of skills between the regulator and the market would also give the regulator a better understanding of market issues and thus regulate more effectively.

Q6. How does a regulatory body adapt over time to new innovations and developments? When you were at the SFC did you feel you were ahead of the curve on regulating new instruments or often behind the curve playing catch up?

The market is fast-moving and multi-faceted. Innovations and developments are perpetually driving evolution and growth. The regulator has to constantly learn and adapt, and so does every player in the market.

Markets move in cycles, punctured every now and then by abrupt dislocations and crises, when we all scramble for solutions and, in the process, learn new lessons. We have just seen how the collapse of a small, non-systemic bank could pose systemic threats to the financial system if more than one small bank were to fail at the same time. Although it probably would not have altered the end result in the case of these small banks, it was still humbling for me to recall how we as regulators did not even question whether there might be circumstances when it would be prudent to require haircuts even for US treasuries that are held as collateral.

Q7. There is an argument made by crypto evangelists that regulations intended to protect mom and pop investors from high-risk, high-reward products (professional investor requirements, for example) contribute to inequality and they do not want these restrictions in place for the digital asset realm. What are your thoughts on this?

A key objective of securities regulation is to provide appropriate investor protection. The guiding principle is that protection is appropriate, not absolute. When investing, investors take market risks, and no amount of regulation can remove that altogether. However, investors should not have to take fraud, misconduct, false information, market infrastructure failure, etc., risks. Regulation is about removing or minimizing these risks for investors.

Given that professional investors generally have access to wider research and professional help, and the financial means to pursue their rights, the law gives certain exemptions to issuers and intermediaries from their product suitability and securities offering obligations when they deal with professional investors. With retail investors, however, issuers and intermediaries must comply with all obligations, as the law tries to ensure that they are treated fairly and are given all relevant information to help them make informed investment decisions. It is not about banning retail investors from investing in certain products. Rather it is about making sure that those who offer these products to retail investors are under a legal obligation to ensure suitability and full disclosure.

Q8. There is a strong anti-establishment, anti-regulation ethos pervading much of the crypto community. To be sure, there are groups looking for institutional capital who support tighter rules and oversight, but there are others for whom regulation is anathema to everything they stand for. Is there a place for both groups to co-exist in a regulated system?

In an open and transparent market, there are bound to be divergent, if not strongly opposite, views. If I may, there is this quip among regulators that if both sides of the divide are not entirely happy with your regulatory proposal, you are probably not too far from getting the balance about right.

Since the debut of crypto’s first token, the Bitcoin, in January 2009, the market has experienced huge volatility in value and volume. With little to no regulation, the market and industry have been plagued by scandals, scams, fraud, embezzlement, manipulation and price rigging. For the market and industry to move forward and thrive, regulation needs to come in to build trust and transparency.

Q9. Changing gears, in recent years, we have seen the weaponization of financial markets, payments and currencies to achieve geopolitical goals. What are your thoughts on this and should financial markets be used in this fashion? How does a regulator avoid becoming entangled in politics or being used as an instrument of government policy?

Traditional thinking has it that a financial market serves the underlying economy and in turn the strength of the economy drives growth and vibrancy of the financial market. Globalization of the capital markets and technological advancements have changed this. Today, capital and liquidity are allocated at the switch of a button, without constraints of physical geography. We have seen securities markets, such as those in London and Hong Kong, listing and trading the securities of companies with aggregate market capitalization several times larger than the size of the local economies that these markets serve.

However, inasmuch as financial markets are global, political priorities and laws are local. That is a reality. Governments around the world have wisely established regulatory bodies with governance frameworks that give them the autonomy of making independent regulatory decisions but subject them to oversight within the wider administrative and legislative structure. This is designed to ensure that regulators are able to enforce the law within the regulatory space without fear or favor. As regulators are not politicians, they should make decisions based on the merits of the case and with a view to protecting the interest of the public that they are tasked to protect.

Q10. It seems naïve to think regulators can exist outside of politics, social trends or technological innovation. If this is the case, what do you think are the skills or personality traits best suited to be a regulator in these difficult times?

Within the regulatory space that it supervises, the regulator has a powerful tool kit. Those in charge of this tool kit should demonstrate that they understand how the application of tools in the kit could impact the market and individuals and therefore they should carefully calibrate the use of these tools to deliver fair results that are not excessive or overreaching.

As the market is wiser than an individual or a bunch of individuals, a regulator should have an open and inquisitive mind, a sense of humility and a willingness to consider and accept different views. Having made a thoroughly considered decision, the regulator must have the courage to execute it, and the skill to tell the public why it has made that decision.

Q11. Sitting between two bickering superpowers with immensely powerful economies and financial systems, how can Hong Kong’s financial markets navigate the opportunities and risks inherent in its position at the coalface of the next geopolitical struggle?

Hong Kong was well positioned to capture the immense opportunities when mainland China opened its economy and market and the rest of the world wanted to connect with China. Yet the Hong Kong market could not have grown to the strength and size it is today had it not embraced the infrastructure and culture that it built to meet the challenge. That infrastructure includes a transparent rules-based market, an open market structure, clear laws and regulations firmly, fairly and consistently applied by an independent regulator, protection of property rights and a willingness to imbibe and integrate world class talents and skills.

With major geopolitical shifts now underway as the world enters a new phase of geopolitical uncertainties, Hong Kong will need to reassess its business model. The challenge is to create a causeway that could keep it safe from the buffets of the upcoming political cross winds while retaining the faith of global players in the integrity of the Hong Kong market. Given its relatively small size, Hong Kong’s best course is to stay out of the struggle while continuing to play to its strengths of maintaining an open and quality market, and demonstrate to the world’s capital allocators that we are committed to honoring the rule of law and international norms and practices, without fear or favor.

Q12. What do you miss most about being a regulator and is this a field you would encourage young people to consider?

Looking back to my years as a regulator, what I miss most is the policy and intellectual debates with my team, other colleagues, and my counterparts in overseas regulatory bodies.

Regulation is definitely a field that I would encourage young people to consider. It does not have to be their first and last career. But a stint at a regulatory body where you are taught how to craft policy is a professionally rewarding experience in one’s life journey of learning.

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