SEC gives clarity on primary and secondary crypto markets regulation

US watchdog shares its stance towards digital asset issuance and trading.

17 Nov 2018 3 min read

The US Security and Exchange Commission issued a statement yesterday to clarify their position on both the issuance of digital assets and their trading on third-party platforms.

After recent actions on Paragon, Crypto Asset Management, AirFox and EtherDelta, the SEC underlies three categories susceptible of controversy:

  • Initial offerings of digital assets as securities
  • Investment funds acting as cryptocurrency asset managers
  • Unregistered trading platform offering digital asset securities

Although the regulator states it will keep fostering innovation in the blockchain space, the division reminds token issuers and facilitators that they should comply with the existing security law framework.

market participants must still adhere to our well-established and well-functioning federal security law framework when dealing with technological innovation


Digital Asset Securities

The SEC qualifies both AirFox and Paragon Initial Coin Offerings (ICO) as "illegal unregistered offerings of digital asset securities" and issued settling orders to their respective founding teams.

They further mention that such digital asset securities that undertook an illegal offering will have to

  • "pay penalities"
  • "register the tokens as securities under Section 12(g) of the Securities Exchange Act of 1934" and
  • "file periodic reports with the Commission"

The statement further indicates these precautions are for the interests of investors and that they should be able to "seek reimbursement", although it does not clarify if reimbursements would occur in the cryptocurrency of purchase or in USD.

Investment vehicles in crypto

In September, the Commission issued a warning against unregistered hedge funds formed to invest in cryptocurrency for their customers.

With reference to the "Crypto Asset Management Order" the SEC states that such managers are "engaged in an unlawful, unregistered, non-exempt, public offering of the fund".

It clearly outlines that any financial advisors that manage digital asset investments for third parties require to be properly registered as per the Investment Advisers and Investment Company Act.

Digital asset securities trading

Recent law enforcement with a $400,000 fine to EtherDelta's founder has indicated the SEC ongoing actions to regulate cryptocurrency exchanges.

Although EtherDelta is a hybrid cryptocurrency exchange with decentralised features running on an Ethereum smart contract. Because of its blockchain architecture, regulators are not able to shut down the trading platform that, operates a "marketplace for bringing together buyers and sellers for digital asset securities".

The SEC blames EtherDelta's founder for "failure either to register as a national securities exchange or operate pursuant to an exemption from registration as an exchange".

It further states that any organisation facilitating the issuance or trade of digital assets should be registered as an alternative trading system (ATS), broker or dealer - irrespective of its decentralised features.

Beginning of active regulation

The SEC's involvement in the Paragon and AirFox unregistered sale indicates the agency is willing to create a path to compliance for early adopters of the ICO model. Although the conditions have not been disclosed, it suggests the US financial watchdog is planning to further regulate cryptocurrency primary markets.

Interestingly, the SEC's inability to shut down decentralised secondary markets forces the regulator to seek founding teams of such platform for clarifications, as depicted in the EtherDelta case. Not only they are blamed for organising unregistered trading platforms, but also for facilitating the exchange of digital asset securities - a point the SEC has been silent for the last 4 years.

This statement, coupled with their new FinHub initiative, reinforces the idea that the American regulator has decided to play an active role in the regulation of the cryptocurrency industry.

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