Cryptocurrency Regulation Update (February 2019)
This piece is part of a monthly series covering regulatory updates related to cryptocurrencies. This piece provides important regulatory updates that have happened in the past month, broken down by developments in the United States and the rest of the world.
- Kik Interactive plans to fight an expected enforcement action from the SEC over a 2017 initial coin offering the company conducted (Jan 27th). As reported by the Wall Street Journal, the SEC’s enforcement division believes Kik issued an unregistered security when it sold $100 million in “kin,” a digital token that Kik says works like a currency on the its platform, according to Kik Interactive CEO Ted Livingston. At issue is whether Kin, a digital asset sold through an ICO process, should be considered and investment security or not. Previously, the SEC chairman Jay Clayton has stated that “every ICO I’ve seen is a security.” Companies like Kik and other issuers, however, believe that tokens represent a new kind of asset and should not be subject to the same set of rules that govern stock or bond offerings. As the Wall Street Journal further explains, “A court battle with Kik could help determine the scope of the SEC’s authority to tame the unruly ICO market, which has been used by legitimate startups and scammers alike to raise more than $20 billion since 2014. The SEC has taken aim at several token issuers, but a judge in a civil case has yet to rule on the central question of whether ICOs should be considered securities offerings.” Mr. Livingston clarified that the SEC is not accusing Kik of fraud. Rather, its enforcement division believes Kik failed to register the sale with the SEC and thus didn’t give investors the proper information.
- Two Colorado senators filed for a bill, known as the Colorado Digital Token Act, that would exempt cryptocurrencies and certain digital tokens from securities laws (Jan 7th). The bill states that creating the Colorado Digital Token Act will, “enable colorado businesses that use cryptoeconomic systems to obtain growth capital to help grow and expand their businesses, thereby promoting the formation and growth of local companies and the accompanying job creation and helping make Colorado a hub for companies that are building new forms of decentralized ‘Web 3.0' platforms and applications.” The move is aimed at addressing concerns raised by operators within the crypto space that regulatory uncertainty has led to firms being forced to move very slowly and cautiously while competitors in other countries with more favorable regulatory policies can move more quickly and aggressively. The consumptive purpose of digital tokens, according to the document, is “to provide or receive goods, services, or content, including access to goods, services, or content,” according to the document. To qualify for exemption, the consumptive purpose for a token must be available within 180 days of its sale or transfer and the initial buyer cannot resell or transfer the token until the consumptive purpose is available. Solidifying the consumptive nature of the token is important as a way to ensure that it is not deemed a security as determined by the Howey Test .
- A report from the U.S. Securities and Exchange Commission’s Committee Office of Compliance Inspections and Examinations (OCIE) has included crypto as one of its six examination priorities for 2019 (Jan 11th). Every year, the SEC unit highlights six areas that present heightened risk to “the integrity of the U.S. capital markets,” the report said. In addition to digital assets, the agency is also looking at anti-money laundering, cybersecurity, and select areas of FINRA, for example. “These priorities are not exhaustive and will not be the only issues OCIE addresses in its examinations, risk alerts, and investor and industry outreach,” said the report, which went out just before Christmas.
Rest of World
- Executives from the Korean exchange Komid were sentenced to jail for faking volume (Jan 18th). Korean authorities sentenced two executives at Komid, a South Korean cryptocurrency exchange, to jail terms on January 17 for their role “in orchestrating fraudulent trading volume” as reported by Blockinpress. CEO Hyunsuk Choi received 3 years and another executive named Park received 2 years. Choi and Park allegedly created five accounts through which they were able to fabricate 5 million transactions. According to the court documents, the faked volume deceived both investors and new users, which led to Choi and Park earning about $45 million in fees. The issue of whether or not reported trading volume from exchanges on sites like CoinMarketCap is real has recently gained additional attention following reports from the Blockchain Transparency Institute (BTI) alleging that “more than 50 exchanges wash trade >95% of their volumes.” In rejecting Bitcoin ETF filings, the SEC has mentioned numerous times that they have not gained confidence that the market for Bitcoin is sufficiently resistant to price manipulation. A reduction in suspected fabricated trading volumes may begin to build confidence in the spot market for Bitcoin.
- Japan is considering approving a crypto-backed ETF (Jan 6th). As reported by Bloomberg, “Financial Services Agency (FSA), a Japanese financial regulator, is considering approving exchange-traded funds (ETFs) that track cryptocurrencies. … Just last month, FSA decided that it would not revise the securities law in order to allow crypto futures to trade on financial exchanges, citing concerns over heightened speculation. The regulator is currently gauging industry interest in the crypto ETFs and the ruling party could submit the legislation as soon as March. If approved, the proposed change could become law in 2020.” Japan has long been an important market for cryptocurrencies, with many of the early exchanges originating in the country. A crypto-backed ETF could be a major step forward for the space by giving investors exposure via a wrapper that they are familiar with and can hold in their brokerage account.
- South Korea maintains ICO ban (Jan 31st). As reported by CoinDesk, “South Korea’s top financial regulator has said it will not lift the ban on domestic initial coin offerings (ICOs) after finding that some projects have been violating rules. As ICO investment is a ‘high risk’ activity, the Financial Services Commission (FSC) said, calling on the public to exercise caution when investing in token projects.” While the country has maintained its ban on ICOs, projects have still attempted to solicit funds from Korean investors, according to a survey conducted by the Financial Supervisory Service (FSS). The survey found that firms had been setting up paper companies in Singapore to circumvent the ICO ban while raising money from Koreans with Korean language white papers and marketing materials. China issued an ICO ban in early September 2017 and South Korea followed suit shortly thereafter at the end of September 2017.
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