Something is wrong with Coinbase. It appears that US officials are looking into whether or not it operates as an unregistered stock exchange and allows people to trade digital assets that are regulated by the SEC.
The investigation began when the SEC charged Coinbase’s former chief product officer Ishan Wahi and two others with insider trading on at least 25 digital assets.
At least nine of the cryptocurrencies are securities, the SEC says. Securities issuers, like public companies, must release financial statements and other information so investors can make smart investment decisions.
A week after Wahi’s charges were made public, Bloomberg reported that the SEC was already looking into Coinbase for the insider trading case. The next day, Coinbase shares fell sharply.
Coinbase wants to list all possible tokens.
Bloomberg reports that the SEC began monitoring Coinbase more closely as the platform began to give US traders access to a wider range of digital assets.
Coinbase “opened the door” to token issuers when it launched its “Asset Hub” in January of last year. The “asset hub” is basically a form that entrepreneurs can fill out if they want Coinbase to list their digital assets.
Coinbase has explained its listing criteria, which include whether the asset is viewed as an investment or not with an expectation of profit, whether there are concerns about centralization in terms of control of the protocol or user funds, and the overall quality of the code.
Brian Armstrong, CEO of Coinbase and a millionaire, later tweeted that the company’s goal is to list “every asset where it’s legal to do so,” but that the market shouldn’t think that listing an asset means Coinbase supports it if it doesn’t meet its basic requirements. .
The registration process is similar to the “Howey Test”, a four-part test used by US regulators to decide whether an asset is an investment contract and should be regulated as a security.
The phrase “sufficiently distributed” is not part of the Howey test.
The SEC has only said what it thinks about one digital asset, bitcoin, which it calls a commodity.
In 2019, former chairman Jay Clayton said that ether used to be a security but has turned into something else. In January, the current boss, Gary Gensler, made things more complicated by forgetting to include ether as a non-secured digital asset alongside bitcoin.
In an email to Blockworks, Dario de Martino, a partner at the law firm Allen & Overy, said SEC officials had emphasized the importance of decentralization when deciding whether a token could be regulated as a security. “However, there has been no good advice on how to define or achieve ‘sufficient decentralization,’ which has caused confusion among market participants,” de Martino said.
Even though the SEC released a lengthy document in 2019 explaining how it works, Coinbase and many other cryptocurrency companies have continued to complain that there isn’t enough regulatory clarity when it comes to digital asset securities.
In a blog post this week, Paul Grewal, Coinbase’s general counsel, said the SEC looked at its internal system for deciding which tokens to register, which includes components that determine whether those assets could be considered securities. “Coinbase does not list securities on its platform.” Grewal wrote: “Episode.”
A cat-and-mouse game based on puns
A partner at New York law firm Anderson Kill Preston Byrne says Coinbase made a business decision to try to gain the largest market share by listing as many coins as possible in the United States.
US traders can buy and sell more than 150 cryptocurrencies, so Byrne thinks that when Coinbase says it doesn’t list any securities on its platform, it’s just playing with words.
“Tokens are not a way to keep things safe”
“It’s an investment contract, and like securities, it’s governed by securities laws,” Byrne said.
“From a business perspective, I think it’s likely that a lot of the things on Coinbase are investment deals,” he said.
Byrne says Coinbase’s problem is that the regulator is willing to let the exchange be willfully ignorant of the truth about the assets it sells.
“Because regulators have not said that most of the things on their platform are securities, Coinbase is operating on the basis that they are not until they are told otherwise,” Byrne said.
This cat and mouse game ended in December 2020, when the SEC sued Ripple Labs and its top executives over the XRP coin. In response to the lawsuit, Coinbase removed XRP from its site almost immediately.
Last year, Coinbase stopped offering interest-bearing crypto accounts, which would have given customers a 4% return on USDC deposits. This was done after the SEC threatened to sue and after authorities questioned a similar product from crypto lender BlockFi.
Byrne said, “There is no agency in the United States that is tasked with running all investment deals through this rigorous test and providing a legally definitive conclusion that everyone else can rely on.”
Instead, law enforcement agencies like the SEC have given this job to token issuers and their lawyers. These people are now the gatekeepers of public markets by not giving false or stupid information. According to Byrne, token publishers need to follow the law and the advice of their lawyers.
In its current form, Coinbase has one major legal obligation: it cannot operate as an unregistered stock exchange. Byrne said “which means if they are careless or negligent or intend to trade securities on their platform, they could be in trouble.”
In an email to Blockworks, a Coinbase spokeswoman said the company has a “robust review process” because it does not believe current securities regulations apply to digital asset securities.
“The rules governing the stock market were developed decades before the advent of crypto. “When these authors were writing rules to regulate square pegs, they did not consider how these rules would affect the unpredictable round holes of the future,” they said.
Even though Coinbase claims to be secure in its processes, the company’s desire to list as many tokens as possible has put it in conflict with the SEC. Coinbase’s desire to be the market leader may have just come back to haunt them.
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