Technology Gives Firms a Better Handle on Managing Digital Asset Risk


Regulated digital assets might sound like an oxymoron given that cryptocurrency was developed as an anti-establishment alternative to conventional finance. However, growing use of such assets has encouraged regulators across the world to take a closer look at this developing asset class.

It is therefore in the interests of all financial institutions to understand how regulatory frameworks are changing and what this means for their compliance function. 

How technology can give FIs a better handle on managing risks when it comes to digital assets.

Many crypto exchanges, mining companies and other participants in the distributed financial structure have recognised this and are trying to get ahead of the curve by self-regulating. They know it is only a matter of time until regulators prohibit companies that are not regulated from operating or doing business in their jurisdiction – and such regulations are likely to be imposed over a relatively short timeframe. Read more about the challenges of crypto asset compliance. 

 Firms operating in the decentralised finance space that have insufficient transparency around their digital asset business therefore face the prospect of very quickly losing access to key markets.

Those that are part of the traditional financial services infrastructure and are unable to trade crypto may also face difficulties recruiting younger employees who want to manage that asset class. There is a lot of competition in the jobs market so even traditional financial services firms need to adapt to market changes or face being left behind.

Once digital assets become a component of a financial services firm’s offering, the firm is obliged to monitor what its employees are doing to ensure there are no conflicts. This can be problematic because in many cases firms have not familiarised themselves with the specific characteristics of the asset class such as how it is stored, the speed with which new digital currencies can be created, and the emergence of related products such as NFTs.

 The first step they need to take is to create a policy around crypto trading to make it part of their broader conduct and conflict programme. They need to have automated systems in place because this type of activity is difficult to monitor manually as well as connectivity with the clearing houses in the same way they connect with brokerage houses when trading stocks. See hoe MCO helps firms manage personal trading compliance

 The typical workflow is ‘can I make this trade - yes or no’ where the answer is determined by what goes on within the wider market and within the firm. Once someone is given approval there needs to be a verification process that they did what they were allowed to do and also to ensure there is no conflict of interest.  

 A degree of speed is required with these actions. Over time as crypto becomes a more widely utilised asset class some of the same paradigms will apply to it as apply to equities, but they are not easy to implement - and the process becomes even harder for firms that are not on top of their compliance obligations.

 Chief risk officers, chief compliance officers, and executives are responsible for ensuring that conduct and conflict is managed appropriately. They might not all be au fait with crypto as an asset class, but they need to ensure they have systems and policies that are sufficiently flexible and configurable to adapt to a fast-changing market. Read about Crypto Regulations in Singapore and Recent Enforcements

 Financial services firms have a lengthy track record of product innovation – consider the development of derivatives such as mortgage-backed securities in their various forms. They are constantly developing new products so it is about taking that approach and applying it across their compliance and regulation function in the knowledge that it is only a matter of time before digital asset trading becomes regulated.

 You cannot stop individuals from behaving inappropriately, but if you don’t have the appropriate processes in place, it is the firm that is at fault.

 Firms that don’t have a sufficient level of focus on compliance will find themselves on the back foot. This doesn’t mean they have to figure out every aspect of digital assets, it is about having a framework for addressing changing needs that recognises it is only a matter of time before their compliance requirements increase.

 There is a natural inclination among financial services firms to focus on immediate or current compliance obligations. But firms that don’t have a flexible platform for addressing the regulatory implications of crypto and other digital assets will not be able to run their business effectively.

 When this becomes a business inhibiter rather than just a regulatory issue firms will respond differently. Likewise, when they look over their shoulder and see their peers in the market offering digital asset services but they can’t because they haven’t put the right guard rails in place this will create a sense of urgency. However, failing to contemplate it as part of broader strategy is a wasted opportunity.

 Read here for more information on how MCO can help your firm stay ahead of the Crypto Compliance curve

 You can also catch a recording of our webinar “Diving into Crypto Regulations” here.