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1.INTRODUCTION
Since 2012, over the counter (OTC) derivatives have been brought under the regulatory framework of the European Market Infrastructure Regulation (EMIR). Following Brexit, the EMIR was retained by the UK Government through the enactment of statutory instruments under financial services in order to align with the global market.1 OTC derivatives therefore fall under two main regulatory structures in the UK: the regulated activities framework under the Financial Services and Markets Act (FiSMA) 2000, and the EMIR clearing and reporting structure. However, whether crypto derivatives are a regulated product under both structures remains an ongoing and perplexing conundrum. Although derivatives are regulated investment products under the FiSMA framework, the underlying or referencing assets (crypto assets) to the derivative are not. The heart of the issue concerns these underlying assets - cryptocurrencies. While the derivatives have been well regulated thus far, underlying cryptocurrencies remain a challenge for regulators, as does their volatility. The primary challenge is the constant emergence of new digital currencies which are created on the basis of software and protocols that have no tangible form, yet have fungible characteristics.
Towards the end of 2020, the Financial Conduct Authority (FCA) in England and Wales announced the publication of final rules banning the sale of derivatives and exchange traded notes (ETNs) which reference certain types of crypto assets for retail consumers.2 Such an announcement is known as a policy statement (PS).3 Policy statement (PS20/10), published in October 2020, directly prohibits the sale to retail clients of investment products that reference crypto assets,4 and came into force on 6 January 2021. Following a consultation call in 2019, the FCA became concerned that retail customers are unable to reliably assess the value and risks of crypto derivatives. A cost benefit analysis (CBA) conducted by the FCA generated tables which compared the volatility of the prices of cryptocurrencies in 2015-2018 and 2018-2019, respectively. During the latter, albeit shorter period, a considerable loss was sustained by retail investors. Thus, consumers might suffer a substantial loss due to the availability of crypto derivatives as financial products that offer investors meaningful purposes other than speculation. The risk of the underlying assets lies in the following four issues: (1) they have no inherent value and differ from other assets that have physical...