It has been more than 1½ years since regulations were introduced in the local cryptocurrency landscape and several months since registered digital asset exchanges (DAXs) began operating. Yet, a considerable chunk of trading continues to occur outside the regulated cryptocurrency space, industry players estimate.
Kelvyn Chuah, co-founder and managing director of Sinegy Marketplace (Sinegy), and Hong Qi Yu, founder of Tokenize Exchange (Tokenize), estimate that at least half of the total monthly cryptocurrency trading volume in Malaysia takes place outside regulated exchanges. Meanwhile, David Low, Luno’s general manager for Southeast Asia, says using a rough estimate based on website visits and posted trading volume in Malaysia, at least RM100 million worth of cryptocurrency is traded outside the regulated channel each month, which is more than half of total trades in the country. “This leaves some investors unprotected,” he says.
“The number is just a very conservative estimate, as unregulated exchanges that operate from countries outside Malaysia facilitate trading of many more cryptocurrencies than the four listed on our platform (bitcoin, ether, ripple and litecoin).
“These unregulated exchanges do not just operate in the spot market, but also offer derivatives and are involved in margin lending. These are the so-called ‘sexy’ services, and the trading volume in those spaces has not yet been considered.
“I also arrived at that number by assuming that cryptocurrency trades that happen through private chat groups make up 30% of the estimated trading volume that goes through unregulated exchanges. But it could be higher,” he says.
While the size of the unregulated cryptocurrency market has yet to pose a systemic risk to the financial markets, it is a worrying trend if unregulated players are allowed to continue to launch marketing campaigns to lure local investors and grow the unregulated space at a rate faster than that of the regulated one. Investors could be more susceptible and fall prey to scams. When they become victims, they will have no legal recourse.
“For instance, we heard of cases where some unregulated P2P (peer-to-peer) platform users used fake banking receipts to scam victims of their bitcoin. Let’s say I am selling bitcoin to you and you are paying me RM5,000 through interbank GIRO, which takes one to two working days for the money to be go through. Instead of actually performing the transaction, you generate a fake receipt. [I may not check my account to verify the transaction and instead] would send you my bitcoin in that one to two days,” says Low.
“Investors [in this case, the seller] will have no legal recourse against the scammers when things like this happen.”
Chuah concurs. “We have heard that users who traded through unregulated exchanges and P2P platforms did not get the money or amount of bitcoin they were supposed to receive. Some people are capable of gaming the system.
“In other cases, you might receive fiat currency through a third-party bank account instead of the person with whom you are supposed to trade. In this case, you don’t know what you might be getting yourself involved in and whether the money is clean,” he says.
Meanwhile, local scams related to cryptocurrencies have been on the rise. Low says Luno and other regulated exchanges have organised educational events for the Royal Malaysia Police (PDRM), as the latter is looking more seriously into the cryptocurrency-related space.
He says more sophisticated scams have also started to surface recently. “For instance, there are scammers who scan genuine classified advertisements (for sell orders) on [overseas] P2P cryptocurrency platforms. They then go to social media platforms to pretend to sell products [amounting to the same value as what the classified advertisement is asking for].
“Let’s say there is a classified ad selling a certain amount of bitcoin for RM1,000. The scammers will then place a fake posting on social media to sell, say, masks by asking the buyer to transfer RM1,000 into the bitcoin seller’s account directly in exchange for products that he does not intend to deliver.
“The scammer then tells the seller that he has already paid him RM1,000 [and quotes the bank account details of the mask buyer]. The scammer then benefits from the trade while the mask buyer has been scammed and the bitcoin seller [is unknowingly involved in the scam too]. This is considered a sophisticated scam,” he says.
Sinegy’s Chuah was recently invited by a brokerage firm to help solve a case related to cryptocurrency. To circumvent regulations, a client of the firm who sold cryptocurrencies asked his overseas buyers to deposit fiat money into his brokerage account, instead of his personal bank account.
“The person does not want the bank to know about the transactions [which can lead to the closing of] his personal bank account.
Photo by Haris Hassan/The Edge
“I was invited by the brokerage firm to help them solve the problem. The whole process involved conducting Zoom calls with all the people involved in the transactions to record their faces and voices to verify their identity and the source of money. At the same time, the brokerage firm also has to think about how to handle the money that has been deposited into the account,” he says.
Money laundering is another concern when trading through unregulated channels. Low gives an example of how it can be done.
“Let’s say you want to move some funds to Europe. All you need to do is buy bitcoin from the unregulated channel and find an unregulated exchange in Europe that provides the conversion of bitcoin to euros.
“Then, you send over your bitcoin to the exchange, convert it to fiat money [by selling the bitcoin on the exchange] and withdraw it from your bank account in Europe.
“Or, if the exchange allows you to withdraw your money in US dollars, you can even withdraw your bitcoin in US dollars through an offshore account under your name.
“Unregulated exchanges won’t verify your identity and source of funds. Even if they might, you can give an excuse and they will not look into it [further],” he says.
Higher cost and stricter operating environment
Unregulated trading activities have been happening locally. Richard (not his real name) has a rather lucrative side hustle as a cryptocurrency broker facilitating trades in the private market.
Richard has been doing this since 2017, when he was involved in the launch of an initial coin offering (ICO). On a good month, he can make RM20,000 and on a bad month about RM4,000, depending on the market trend for cryptocurrencies.
Richard, who works full-time as a brand consultant, sources his cryptocurrencies from unregulated exchanges overseas such as Remitano, a popular platform operated by a company incorporated in Seychelles, and Binance, one of the largest cryptocurrency exchanges globally. Sometimes, he does not even bother to go through an exchange (regulated or otherwise) and just buys the cryptocurrencies directly from sellers through private messaging platforms before selling them to buyers.
The number and size of his trades have dwindled since 2019, after bitcoin prices plunged from their peak. Trading activity began to pick up slightly since the Movement Control Order in March, however, as investors had time and spare cash to invest because of the loan moratorium.
Investors like trading through brokers such as Richard, as the fees are lower and they do not need to go through a thorough know-your-customer (KYC) process. “The fee can be 5% to 10% cheaper than trading through regulated, and even some unregulated, exchanges, especially to fulfil large volumes. Buyers also like that they get more privacy [through brokers like me],” he says.
The Securities Commission Malaysia’s (SC) decision to regulate the cryptocurrency space is welcomed by operators of regulated exchanges. However, they say unregulated trading activities have created an uneven playing field for regulated DAXs. The competition between the DAXs and the unregulated market is stiff, say the three regulated players.
Luno’s Low says the regulated cryptocurrency exchanges are required to comply with the existing regulations to protect investors’ interest. While the DAXs are happy to do so, it is obvious that their operating cost is higher than that of the unregulated exchanges and individual brokers.
For instance, DAXs are required to set up a proper KYC process and implement screening for anti-money laundering. These measures will verify their clients’ identity and make sure the money they receive is legitimate.
“Without such processes, you are running the risk of trading with criminals who conduct illegal business activities, including money laundering and terrorist financing,” Low says.
Regulated exchanges also need to pay custodian fees so that investors’ money and digital assets are kept in safe hands. This ensures that the exchange operators cannot swindle investors’ fiat money and digital assets, says Low.
Sinegy’s Chuah says DAXs are required to have proper measures such as a circuit breaker to prevent crashes on their exchanges.
“We need to put in place market surveillance to monitor market activities to ensure there is no market manipulation. We are required to maintain a fair and transparent market for our users,” he adds.
In addition, regulated exchanges need to keep investors’ digital assets in hot and cold wallets according to a specific ratio, to further safeguard their monies. They also need to ensure that their customers use two-factor authentication (2FA) to withdraw their assets, says Chuah.
Low and Chuah point out that setting up these processes and measures come with additional costs that unregulated exchanges and individual brokers do not have to fork out.
“Many exchanges out there might claim that they have their processes in place. In fact, they might only have some simple processes in place,” says Low.
A higher operational cost also means DAXs could be charging their users a slightly higher fee compared with unregulated exchanges. This puts them at a disadvantage, says Low.
In addition, DAXs are required to work closely with banks and custodians to facilitate fiat currency transactions between customers. It means some of their services, including fiat currency withdrawal, are not available over the weekends, says Low.
They will also need to make an application to the SC to list new cryptocurrencies on their platforms to protect investors from trading coins that could be scams.
“Our liquidity is also not as great compared with the unregulated exchanges, as we are required to maintain an order book that contains only Malaysian residents who have gone through our KYC process. If you sign up on Luno, you get access to the order book and transact with another user in Malaysia. The regulator does this for good reason, as cross-border trading can easily expose us to the risk of money laundering.
“Unregulated exchanges or individual brokers can, however, sign up any person around the world and include them in their order book. They do not care who is in the book. The more the better, as that means more liquidity,” says Low.
Investors who have fallen victim to scams or face issues with any of the DAX operators can file their complaints with the SC.
DAXs want tighter regulations and stablecoin listing
Platform operators also welcome the regulator’s decision to put the names of unregulated exchanges, including Binance and eToro, on its Investor Alert list.
They hope the regulator can introduce further initiatives to drive more cryptocurrency users to the regulated space. For instance, Low wants the SC to ban local users from accessing the website of unregulated exchanges such as Binance and eToro until global regulations on cryptocurrency exchanges are put in place.
“I certainly hope that they would go all the way to ban the IP address of the unregulated platforms. That would require collaboration between the SC and MCMC (Malaysian Communications and Multimedia Commission). That could be the first step,” he says.
“They should consider working with Apple and Google to inform them that these exchanges are operating illegally in Malaysia. The mobile apps of these platforms should also not be offered here,” he adds.
Meanwhile, Chuah hopes the regulators will allow the listing of Tether, a stablecoin whose value is pegged to the US dollar, on regulated exchanges. He says Tether is the most traded cryptocurrency after bitcoin.
“Once regulators allow for stablecoins, including Tether, to be traded on DAXs, we will be able to chip away at the trading volumes of the unregulated exchanges,” he notes.
For now, the four cryptocurrencies allowed for trade on regulated exchanges are bitcoin, ether, litecoin and ripple.
Hong of Tokenize says investor education is equally important so that people will trade on regulated exchanges knowing that their interests are well protected.
Edmund Yong, co-founder of Celebrus Advisory, a bespoke consultancy firm that specialises in blockchain development and business tokenisation, says regulators should regulate individual brokers who match cryptocurrency trades through private chat groups.
“It is fine if you are a private investor. It will be like collecting stamps or coins on a P2P basis. But, when you are doing it actively and facilitating trades, it is akin to operating a marketplace or running an exchange.
“The worst part of it is that they are facilitating trades of stablecoins pegged to the US dollar, such as Tether, in large volumes — some of them for cross-border business transactions. You cannot say you are a collector. They are essentially money changers,” he says.
Yong says the existing anti-money laundering and countering financing of terrorism regulations allow the regulator to take action against these individuals if the source of funds is illegal. In Malaysia, PDRM has the statutory powers of confiscation. The key challenge lies in enforcement of the regulations, which requires evidence gathering, says Yong.
“The onus falls on these unregulated cryptocurrency facilitators to report suspicious transactions to the regulators. But they won’t do that if they are not licensed or registered, as there are no reporting obligations,” he adds.
He says the Financial Action Task Force on Money Laundering, an intergovernmental organisation founded in 1989 to develop policies to combat money laundering, is not letting up on anti-money laundering efforts that involve cryptocurrencies.
“In fact, they are training their guns on individuals who facilitate these trades, not just the crypto exchanges,” says Yong.