It’s every crypto asset investors nightmare. We wake up one morning to read that the Securities and Exchange Commission (SEC) and other regulators are seeking to immediately shutdown crypto exchanges and projects for operating outside of existing legal frameworks. Given zero time to adjust the entire market dumps, taking a generation of tech innovation and our investments with it.
For anarchists (believing governments to be obsolete) or internet trolls (who always claim to be “in it for the tech”) this ominous regulatory environment may not be concerning. Yet serious investors must examine the ramifications of securities regulations being applied to the crypto space.
So… What if cryptocurrencies are classified as securities by regulators?
To answer the question in depth, we need to review the regulatory process. If you’re short on time, skip to the last section of this article.
The Securities and Exchange Commission (SEC) has a broad definition of the term “security.” Under law, a security includes many familiar investment instruments such as notes, stocks, bonds, and investment contracts. For our purposes we must focus on “investment contracts”.
What is an investment contract? Glad you asked.
In SEC vs. Howey (how we got the “Howey Test”), an investment contract was defined as:
These attributes are why recent statements by SEC Chairman Clayton and former Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler have many in the crypto space concerned that regulators may classify a large number of existing (and therefore non-compliant) cryptocurrencies as securities.
Let’s now examine the top 3 crypto assets (Bitcoin BTC, Ethereum ETH, and Ripple XRP) and see how they align with the four attributes of an investment contract per the Howey Test.
SEC Chairman Clayton is on record saying, “I believe every ICO I’ve seen is a security.” Ethereum having conducted an initial coin offering (ICO) seems to place it firmly within his comments.
Former CFTC Chairman Gensler thinks Ripple (XRP) in particular is most likely a security. Although he does NOT believe Bitcoin is a security.
Being classified as a security would require certain compliance actions on the part of issuers (in this case crypto projects). Issuers would have to register with the SEC and disclose certain information:
Honestly it doesn’t seem like a huge deal at first glance, but cryptocurrency projects aren’t an easy fit for these disclosure requirements.
Most cryptos aren’t “managed” by a company. Audited financial statements are costly and kind of laughable in the context of crypto. For example, would we ever say that “Ethereum earned $1 per coin this quarter”? – The answer is NO.
As previously stated, crypto assets aren’t a perfect fit into existing regulatory frameworks. Because of this mismatch, we at CoinSavage see three possible scenarios playing out:
Given that NO regulators have exhibited a willingness to completely ruin the innovation taking place in the crypto space, we believe that some combination of scenario two and three is highly likely.
Recently Coinbase was reported to be in talks with the SEC over registration as a securities dealer. The report was dated April 6th 2018. The timeline is important because per SEC guidelines, the SEC has 45 days to respond by:
If Coinbase completed a full application to the SEC on April 6th, then we could see movement on its status as a securities dealer by May 21st.
This is EXTREMELY important because if a crypto exchange that can list securities is in place BEFORE regulators declare crypto assets securities, then the market turmoil will be mitigated.
If you skipped the regulatory walk through above, here are the key takeaways:
Disclaimer- We are long Bitcoin, Ethereum, and Ripple … and will continue to be long.