The SEC has disclosed a significant increase in staffing in its crypto law department SEC enforcement has been used against numerous cryptocurrency issuers SEC Chairman Gary...
Key Takeaways
SEC reveals major staffing increase in its crypto legal department
SEC enforcement has been used against numerous cryptocurrency issuers
SEC Chairman Gary Gensler Urges Crypto Exchanges to Register as Securities Trading Platforms
Bitcoin is not among the crypto tokens that have received more regulatory scrutiny
Following the SEC’s recent legal actions against Binance and Coinbase, the crypto industry has taken legal action against so-called unregistered securities and coins such as Bitcoin and Ethereum that are not considered securities.
Last week, Robinhood revealed that it was removing Cardano, Polygon, and Solana from its platform. This is the latest fallout from the SEC’s operations, which have included charges against prominent cryptocurrency exchanges Binance and Coinbase for selling unregistered securities.
But what are registered securities and what are unregistered securities? What is the difference between a security and a commodity? And, why did SEC Chairman Gary Gensler say Bitcoin is not a security?
Registered and Unregistered Securities
The SEC used a 1946 U.S. Supreme Court ruling to support their claim that crypto assets are securities. The case was about an orange grove co-owned by W.J. Howey, in which investors had invested money.
According to the court at the time, an investment contract is a security, defined as “the investment of money in a common enterprise with profits derived entirely from the efforts of others.”
The legal case SEC v. W.J. Howey & Co. is known as the "Howey Test." There are three questions:
Is investing in the hope of making money in the future?
Is an investment enterprise a sharing enterprise?
Did the efforts of the promoter or a third party generate any revenue?
The court ruled that the SEC had the right to try to stop Howey from selling some of the land interests to out-of-state investors with the promise of sharing in the profits of the harvest.
Federal law requires that securities sold be publicly registered with the SEC and comply with certain disclosure standards unless an exception is granted. The law is primarily intended to protect investors so they can better understand the products they are buying, according to legal experts. Registration is also intended to stop fraudulent behavior, such as lying and misrepresentation, which are illegal.
If securities are unregistered, investors may lose levels of protection, including the ability to detect a clear money trail and determine if an investment has failed.
The SEC warned investors in March that no organization associated with Bitcoin, Ethereum and other crypto assets is registered with the regulator as a national securities exchange. In addition, since cryptocurrencies are not traded on any major national securities exchange, such as the New York Stock Exchange or Nasdaq, investors are at risk of front-running, manipulation and other types of dishonest practices.
This does not mean that cryptocurrency businesses have not shown interest in the registration process. According to Coinbase, the problem is that the SEC did not allow it to register, claiming a lack of regulatory direction.
Regardless, the fact is that there are still no specific instructions on how to register these exchanges or cryptocurrencies, let alone how they must comply.
Securities and Commodities
In the U.S., commodities and securities are two entirely different financial instruments, regulated by two different government agencies. The legal classification of cryptocurrencies as one of these financial instruments has significant implications for how they are marketed, where they are listed, and who may sue if issuers cross the line.
Given the size of the cryptocurrency market, there likely won’t be a one-size-fits-all judgment; instead, the answer will vary from token to token.
Securities are financial instruments such as stocks, bonds, and derivatives that reflect a claim against an issuer and are regulated by the U.S. Securities and Exchange Commission (SEC).
In contrast, commodities are tangible items that are traded in large quantities on exchanges. These can include precious metals such as gold and silver and agricultural products such as corn and wheat. Typically, commodities are traded based on their current market value. The Commodity Futures Trading Commission (CFTC), which oversees certain commodity trading violations in the United States, does not yet have comprehensive regulatory authority over spot trading, similar to the SEC's authority over securities.
Why Are Bitcoin and Ethereum Not Securities, According to the SEC?
Since its inception, the Commodity Futures Trading Commission (CFTC) has asserted that cryptocurrencies such as Bitcoin and Ethereum can be regulated as commodities under the CEA.
The CTFC’s core claim is that because a cryptocurrency like Bitcoin can be traded on an exchange for another cryptocurrency, it is a commodity because each Bitcoin has the same value as another Bitcoin of the same grade. The CFTC’s actions against stablecoin issuer Tether and cryptocurrency exchange Bitfinex confirm this conclusion. The organization claimed in a February 2021 filing that “digital assets such as Bitcoin, Ethereum, Litecoin, and Tether” are commodities.
Rep. Patrick McHenry (R-N.Y.) predicted in June 2023 that the U.S. will have a cryptocurrency bill (which would include Bitcoin and Ethereum) within two months that would address both securities and commodities. He recently filed a bill that would require the SEC and CFTC to have a clearer division of responsibilities on cryptocurrency issues.
It would open the registration process and specifically allow trading of crypto securities on alternative trading platforms, both of which fall under the SEC’s jurisdiction.
SEC Chairman Gary Gensler has said he believes his organization is capable of regulating cryptocurrencies and that “most crypto tokens are securities,” but he declined to say whether ether is a security during a contentious hearing in January.
However, in 2018, he said: “Bitcoin. Ether. Litecoin. Bitcoin Cash. Why do I say those four names? They are not securities.
The SEC withdrew the definition of “digital asset” from the final draft of the hedge fund rules in January 2023, saying they are currently “continuing to consider the term.”