Cryptocurrency firms warm up to regtech solutions to help comply with anti-money laundering rules

16 August 2017 8:31pm

7 August 2017. By Tsering Namgyal.

Cryptocurrency companies based in Asia are increasingly turning to regtech companies to help provide background checks on their clients as they find themselves under increasing scrutiny from regulators over possible violation of securities and anti-money laundering rules, MLex has learned.

While it is too early to say how the new anti-money laundering and terrorist financing guidelines might look like for issuers of the digital tokens known as initial coin offerings, or ICOs, it appears that regulators might ask cryptocurrency platforms to conduct "cursory screening" of the backgrounds of those subscribing to ICOs, it is understood.

Chionh Chye Kit, founder of Singapore-based regtech solutions provider Cynopsis, told MLex that the firms issuing the tokens, which have raised more than $1 billion globally so far this year for blockchain startups, might have to seek out and identify those who are subscribing to the tokens and establish a link between the "real world and digital identities."

Currently, most of the subscribers to the tokens are normally hidden behind digital codes, which makes it hard to identify the real person or the jurisdiction from which they originate. That makes it almost impossible to verify real world identities.

The cross-border and stateless nature of digital tokens throws up significant challenges to regulators. Even if they decide to devise formal guidelines or statutes to govern the tokens, it is difficult to determine how they should even begin to envision such new rules, he said.

The Monetary Authority of Singapore, or MAS, said last week that providers of digital tokens might be subject to securities laws, except in cases were exemptions apply, and all issuers of digital tokens and the intermediaries who deal with cryptocurrencies would be required to comply with all anti-money laundering laws. The US Securities and Exchange Commission made a similar statement pertaining to the digital token known as the Decentralized Autonomous Organization, which the SEC classified as securities.

Regtech solutions are already being adopted by other fintech startups such as automated wealth-management service providers, also known as roboadvisors, which use their software solutions to help them conduct background checks on their customers before signing them up.

Since fintech startups do not have the large compliance teams that banks do, or their complex legacy systems, they might be better positioned to use such software to help them ensure that they do not run the risk of violating the ubiquitous anti-money laundering and terrorist financing rules, analysts said.

​Some regtech firms also provide databases of identities based on blockchain technology platforms such as KYC Chain. The company has become a regtech poster boy after developing a know-your-client, or KYC, utility that allows users to manage their digital identity and lets anyone from banks to fintech startups to regulators tap into their vault of customer identities.

The challenge with these independent utilities is to ensure the authenticity of the data that do not come from central repositories such as governments. Since it is not hard for one individual to create many digital identities, such solutions "while conceptually great," are prone to abuse, Chionh said.

It is also difficult to imagine how such platforms would be able to accommodate millions if not billions of people from around the world, which makes the value of such utilities, especially in something as fluid and borderless as digital tokens, eminently questionable.

The next point of focus for ICO regulation would be the secondary market. Here the question is how regulators can ensure that once these tokens have been deemed securities and have begun trading on cryptocurrency exchanges, that investors who are trading these securities do not engage in practices that would normally be deemed illegal in the conventional capital markets.

Since these tokens do not trade on organized markets, how would regulators prevent, say, insider trading and market manipulation, and who would be held responsible in case of losses originating from untoward behavior in the secondary markets, after an ICO has taken place.

On the whole, software solutions — often powered by artificial intelligence, or AI — known as regtech are being adopted by financial institutions and regulators for everything from detecting suspicious transactions to flagging abnormal market movements and spotting rogue traders.

For the time being, it is not clear how the big banks are adopting regtech and to what extent, even though some have announced that they are experimenting with various regtech solutions.

Singapore-based OCBC Bank said last month that it has been using solutions provided by two fintech companies, Silent Eight and Black Swan Technologies, both of which were part of fintech accelerators run by OCBC Bank's fintech unit.

It does so mainly by plumbing Big Data, where software digitally scans Internet search engines, news sites and databases to put together a file on suspicious individuals, after the technology has filtered out extraneous information such as those with identical names but who aren't the target individuals, Silent Eight's CEO Martin Markiewicz told MLex.

Markiewicz, a mathematician who helped design and run hydroelectric power projects in Poland before packing his bags to try out his luck in the Singapore fintech sector, told MLex that his company reduces the time it takes to zero in on an individual from one hour to one minute.

Analysts said the next challenge is training existing compliance staff at banks on how to use the new technology and how it can co-exist with the compliance architecture that currently employs thousands of people.

This is perhaps the reason that regtech solutions are more suited to fintech and blockchain startups, which normally do not have the resources of existing financial behemoths.

Regulators have also been warming up to the power of technology such as Big Data, machine learning and AI to help in their own supervisory work, with some regulators publicly championing the role of regtech in detecting suspicious tranactions at banks.

Damage Limitation: Trucks & Cartel Claims