Crafting the future of Cayman’s VASP industry

On 13 February 2024, the Cayman Island’s Ministry for Financial Services (MFS) issued their long-awaited Virtual Asset (Service Provider) Act (VASP Act) amendments for consultation. This is a significant milestone because it signals the implementation of “Phase 2” of the VASP Act, which includes significant revisions and additions such as a licensing regime for virtual asset trading platforms and custodians, an issuance approval regime for virtual asset issuers and a sandbox regime for testing innovative financial technologies. While the MFS has signalled the start of the licensing regime for trading platforms and custodians when the amendments are finalised, the timeline for the full implementation of all VASP Act provisions remains uncertain.

The Cayman Islands is a leading global financial hub emerging as an ideal destination for FinTech companies. The jurisdiction offers a well-documented host of benefits for international FinTech firms, and the appropriately tailored VASP Act provides a strong foundation for a thriving, well-regulated virtual asset industry. This article explores opportunities for Cayman Islands to expand on or clarify the proposed VASP Act Amendments and enhance the attractiveness and effectiveness of the VA regime.

Virtual asset issuances

The Cayman Islands was once a global leader in virtual asset (VA) issuances. In part, the VASP Act was designed to ensure that the Cayman Islands was fully compliant with the Financial Action Task Force (FATF) recommendations for virtual assets. However, although the FATF guidance does not require that issuers of virtual assets be subject to an authorisation regime, the decision was taken to include a registration requirement and issuance approval regime for VA issuers in the VASP Act. This inclusion has resulted in a migration of issuers to jurisdictions like the British Virgin Islands (BVI), which have maintained consistency with the scope of FATF recommendations.

The VA issuance market has evolved significantly from the initial coin offering (ICO) boom in 2017. It now includes a diverse range of products such as stablecoins, tokenised securities, real-world assets, and tokens that serve in the governance of decentralised autonomous organisations. It is widely expected that VA issuances will become a cornerstone of the next generation of finance. To quote Blackrock CEO Larry Fink (not exactly a crypto native), “the next generation for markets, the next generation for securities, will be tokenisation of securities." The Cayman Islands have the opportunity to be a leader in the next generation of markets and create a more diversified and innovative economy. However, the current approach to the regulation of issuances could see much of this opportunity slip through its grasp. One such missed opportunity is a recently announced Blackrock tokenisation project launched through a BVI structure.

Although there are currently two firms registered to provide VA issuances with the Cayman Islands Monetary Authority, greater clarity with respect to government and regulator expectations and associated timelines for approval would be of benefit and an incremental improvement. However, bold action and a deconstruction of the current approach will be necessary to truly become a global leader in the space. A potential roadmap could be:

• ‍Stage 1: Amend the VASP Act to create a separate category of authorisation for issuances that, at the initial stage, do not require registration but include due diligence requirements for directors, beneficial owners, etc., and notification requirements to CIMA when an issuance has taken place. This approach could be supplemented by an interim Statement of Principles or code of conduct for issuers.
  • Stage 1(a): Additionally, for tokenised securities, prior to the implementation of a tailored regime, an alternative option could be to explicitly exclude them from the VASP Act and treat tokenised securities as securities under the Securities Investment Business Act (SIBA).
• ‍Stage 2: Implement a general disclosure/white paper regime similar to what will be implemented for crypto-asset issuers in the European Union under Markets in Crypto-assets (MiCA). Codify in the VASP Act or CIMA rules basic conduct, cybersecurity, and anti-money laundering (AML) and combating the financing of terrorism (CFT) requirements. For stablecoins, include safeguarding requirements for reserve assets.
• ‍Stage 3: Develop sector-specific rules for initial coin offerings, stablecoins and tokenised securities based on leading international precedents, approaches and intergovernmental organisation guidance.

Adopting a staged approach of this nature would offer greater clarity to the industry with internationally consistent, escalating regulatory safeguards, ensuring that VAs are issued prudently and do not expose the jurisdiction to reputational or economic risks. The Cayman Islands have long been the leading international fund issuance jurisdiction by adopting a pragmatic approach to regulation that allows industry to thrive in a safe and compliant manner. If this approach is brought to the VA issuance space, the jurisdiction can also count on being a leader in the next generation of markets.

Virtual asset derivatives

VA derivatives play an increasingly central role in the virtual asset market and are a staple on most major VA trading platforms and in all VA platforms’ future plans. Progressive jurisdictions, including Bermuda, have recognised this and explicitly included VA derivatives within the scope of their virtual asset legislation, attracting important market participants to their jurisdiction.

For VA trading platforms planning to offer or already offering VA derivatives in Cayman under the VASP Act, there is currently a level of uncertainty with respect to whether authorisation or exemption under the SIBA will be required. The VASP Act and proposed CIMA rules and guidance for VA trading platforms represent one of the most well-designed and proportionate regimes for VA trading platforms in the world. Conversely, SIBA does not include a trading platform regime. Therefore, there would be no regulatory benefit to requiring dual registration, and the mechanisms of the Act which require CIMA to undertake this analysis for trading platforms are unnecessary.

The VASP Act should be amended to bring trading platforms that offer VA derivatives exclusively within its scope. This would be a relatively minor fix that would significantly enhance the clarity and transparency of the regulatory treatment of a core product line for VA trading platforms. This added clarity will encourage leading global VA trading platforms to choose the Cayman Islands for their operations and help to develop the jurisdiction as a global hub for this critical market infrastructure. ‍

Conclusion

The Cayman Islands is a progressive, pragmatic, and open-minded international financial centre ideal for FinTech businesses. The VASP Act, proposed amendments and associated rules and guidance issued by CIMA represent a leading framework for the regulation of VAs. Certain proposed amendments could be adjusted to provide greater regulatory clarity and certainty to the Act and the internationally leading VASP regime could be enhanced by including a staged approach to the regulation of VA issuances and exclusively regulating trading platforms offering VA derivatives under the VASP Act.

The MFS’s novel consultation through the collaborative GitHub tool indicates that they genuinely encourage dialogue and input to work together to make the Cayman Islands the premier international jurisdiction for well-regulated VASPs. XReg encourages all market participants with an interest in the Cayman Islands VASP regime to submit comments through the GitHub Consultation site before 3 April 2024.