U.S. Developments

Regulatory Updates

SEC Commissioner Peirce Says Guidance on Crypto Token Sales Is Coming

In a speech at the University of Missouri School of Law, Hester Peirce, one of the SEC’s commissioners, said that the agency is working on “supplemental guidance” to help projects determine when securities laws might apply to crypto token sales. The commissioner said that the traditional standard for determining whether something is a security—the Howey Test—can sometimes be “overbroad” and that there is a “need to tread carefully” as token offerings do not always resemble traditional securities offering. She did not give any indication as to when the guidance might be issued, however.

Read the full speech here.

State AGs Oppose CFPB Proposal to Create Fintech Sandbox

On February 11, 2019, twenty-two Democratic state attorneys general (AGs) wrote a letter to the Consumer Financial Protection Bureau (CFPB), asserting that the CFPB lacks the authority to create a fintech sandbox that provides certain immunities from state law. The CFPB released draft policies on its fintech sandbox, which would permit it to shield a particular entity or industry from liability for a specified time period and related issues, in late December 2018 without a formal rulemaking (available here).

The state AGs’ letter focused on the broad immunities from federal and state law that the CFPB’s fintech sandbox would provide. The letter argues that the CFPB misconstrues its authority to provide immunity from state enforcement actions and lawsuits brought by private parties. Specifically, the letter notes that the CFPB claims the ability to grant immunity by citation to the safe harbor provisions of the Truth in Lending Act, the Equal Credit Opportunity Act, and the Electronic Fund Transfer Act, yet the AGs think this should be interpreted far more narrowly to provide an affirmative defense only where the company can demonstrate good faith in conformity with CFPB’s official guidance. Moreover, the letter argues that, even if the CFPB could grant such broad immunity, such a grant is ill advised because new technology in the consumer financial market is not well understood by either the creators of the technology or the regulators.

The letter states that the CFPB “has no authority to issue such sweeping immunity absent formal rulemaking,” and therefore requests that the CFPB withdraw and reissue the relevant policies subject to a notice and comment period.

Also among the concerns raised by the state AGs is the CFPB’s proposed revision to its no-action letter (NAL) policy. In 2016, the CFPB established a process by which entities regulated by the CFPB could apply for nonbinding guidance—in the form of an NAL—stating that “the CFPB does not intend to bring an enforcement action vis-à-vis a particular product or service.”

The proposed revision would appear to make NALs binding on the CFPB indefinitely. The AGs’ letter again questions the CFPB’s authority to enact such a policy without a formal rulemaking. The letter says, “[u]nless and until these technologies—and their implications for consumers—can be better understood, it would be irresponsible to give companies employing them what may effectively be a permanent get-out-of-jail-free card.”

You can read the state AGs’ letter here.

SEC Obtains Preliminary Injunction Against Blockvest LLC and Its Founder in Reconsideration of Earlier Order

On February 14, 2019, the SEC was granted a preliminary injunction against Blockvest LLC and its founder Reginald Buddy Ringgold, III—aka Rasool Abdul Rahim El—for making fraudulent offers of securities, reconsidering the court’s prior order. Initially, the court issued an opinion denying the SEC’s request for a preliminary injunction, which some lauded as a victory for initial coin offering (ICO) issuers.

The SEC argued that Blockvest used the SEC seal without permission and falsely claimed that their crypto fund was “licensed and regulated” and that Ringgold promoted his firm’s ICO with a regulatory agency he named the “Blockchain Exchange Commission.”

The court ruled that based on the contents of defendants’ website, whitepaper and social media posts concerning the ICO of BLV tokens to the public at large, Blockvest was indeed making an “offer of securities” under the Securities Act.

SEC Asks Reality Shares to Withdraw ETF Application

Reality Shares, the California-based investment company, the first company to sell blockchain exchange-traded funds (ETFs), filed a registration form with the SEC earlier this week to list a registered investment company that would include exposure to Bitcoin (BTC) in an ETF. However, only days later, the agency requested the issuers to withdraw their filings.

According to the application, which provided details about the “Reality Shares Blockforce Global Currency Strategy ETF,” the fund would not be exclusively comprised of BTC futures. The fund would also have invested in short-term sovereign debt, money market mutual funds, or other cash equivalents. The SEC has not yet approved any issuers’ plans for BTC or cryptocurrency ETFs.

Industry Updates

JPMorgan Introduces the First U.S. Bank–Backed Cryptocurrency

JPMorgan became the first major U.S. bank to introduce its own digital token for real-world use. JPMorgan said it began working last year on what became JPM Coin to help its large institutional customers, including major corporations and other banks, move money quickly and securely. JPM Coin is based on blockchain-based technology and enables the instantaneous transfer of payments between institutional accounts.

When customers want to move dollars using the bank’s “permissioned, secure blockchain system”, money in their JPMorgan accounts will be converted into JPM Coins, with each coin backed by a dollar in JPMorgan’s accounts. According to the company, the token will be able to move nearly instantaneously on the coin’s ledger, which will be based initially on JPMorgan’s Quorum blockchain. Once transfers are compete, the coins can be converted back to dollars.

JPMorgan stressed that the current prototype is specifically designed for institutional use and not for public investment, but it hopes to increase the coin’s versatility over time.

The prototype will remain in the testing phase for several months, but after that, JPMorgan said they plan to work with regulators to gain permission for broader uses of JPM Coin, including plans to expand it to represent currencies beyond the dollar.

Read more about JPM Coin here.

Public Pensions Invest Substantially in Morgan Creek’s New Blockchain Fund

Morgan Creek Digital, a hedge fund backed by Morgan Creek Capital, launched the Morgan Creek Blockchain Opportunities Fund, aimed toward investing in the digital asset industry.

The two largest contributors to the new investment fund are the Fairfax Country, Virginia Police and Employee’s pension plans.  There has been talk about public pension funds investing in the digital asset market since last year. On Christmas Eve, Morgan Creek Digital founder and partner Anthony Pompliano encouraged public pensions to invest in the blockchain space in a blog where he detailed his belief that Bitcoin has the potential to save the United States from its potential pension crisis.

The fund originally planned to raise $25 million, but due to investor interest its cap almost doubled, to $40 million. The new fund also includes participation from a hospital system, a private foundation, an insurance company, and a university endowment.

Read more about the fund here.

Blockchain Oil Platform Vakt Hires Etienne Amic as its CEO

Vakt, a blockchain oil platform that launched late last year, has hired former JPMorgan Chase energy trader Etienne Amic as its CEO. Amic is also co-founder and chairman of Vortexa, a cargo and analytics company focused on global crude oil and refined products markets, and founded CommodiTech Ventures, a group that funds innovative commodities technology.

Vakt is backed by leading oil companies such as BP, Shell, and Chevron, traders Mercuria and Gunvor, and banks such as ING and ABN Amro.The platform was developed in November to speed up trades and reduce costs by eliminating the paper-based trading process. The trading of physical oil can be sluggish as it typically involves buyers and sellers of the raw material, in addition to pipeline operators and service providers. According to the company, the underlying platform provides speed, security and an audit trail that cannot be altered.

Read more about the hire here.


International Developments

Quadriga “Inadvertently” Moved More Bitcoin to an Inaccessible Wallet

Quadriga, the Vancouver-based digital exchange, “inadvertently” transferred 103 Bitcoins on Feb. 6 to offline storage accounts known as cold wallets that are protected by passwords held by the company’s founder, Gerald Cotton, who died unexpectedly in December, leaving the company unable to access cryptocurrency valued at C$468,675 ($354,300).

This disclosure is part of an update by Ernst & Young Inc., the monitor appointed by the Nova Scotia Supreme Court to oversee the digital exchange’s restructuring under creditor protection. Ernst & Young did not disclose how the latest transfer occurred. Quadriga sought help from the court after suspending operations in January, saying it was unable to retrieve about $190 million in Bitcoin, Litecoin, Ether, and other digital tokens held for its customers, nor can it pay the $70 million in cash those customers are owed, according to earlier court filings following its CEO’s sudden death.

Read more about the accidental move here.

Mitsubishi, Japan’s Biggest Bank, Plans to Launch Blockchain Payments Network in 2020

Mitsubishi UFJ Financial Group (MUFG), a large Japanese financial group, and the world’s fifth largest bank by assets, has announced its plan to launch a blockchain-based payments network next year. The company announced that it has formed a joint venture with Akamai Technologies, a U.S. based fintech firm, to develop the platform “by the first half of 2020.”

The system is called the “Global Open Network,” which MUFG says will be capable of processing over 1 million transactions per second. MUFG and Akamai also plan to incorporate internet of things and Akamai’s cloud computing platform into the network. “The new venture launched with capital of 250 million yen ($2.26 million); MUFG holds an 80 percent stake and Akamai holds 20 percent.”

Read more about the launch here.

The Bank of Spain Warns Against Crypto Usage

The Bank of Spain has published a warning on its blog (in Spanish) regarding the unregulated cryptocurrency market in the country. The blog post largely discusses the risks associated with making purchases or payments with cryptocurrency, but it also notes that the European Union’s own understanding of cryptocurrencies is continuously evolving.

The Bank of Spain explained that because no laws regarding cryptocurrency regulation have been approved in the country, any kind of crypto-related companies or exchanges are not supervised or authorized in any manner by the bank. The post also cautions that crypto platforms are not subject to Spain’s Deposit Guarantee Fund, which protects customers’ bank deposits up to €100,000 in the event that a bank goes bankrupt.

To properly regulate the cryptocurrency market in Spain, in December 2018, García Egea, the secretary general for the Spanish ruling party, Partido Popular (the People’s Party), announced that the party would introduce a draft bill on cryptocurrency and blockchain regulation in an effort to provide security to the country’s investors.

Australia’s Digital Transformation Agency Warns of Blockchain Gaps

Australia’s Digital Transformation Agency (DTA) cautioned other government agencies of the limitations of using blockchain technology to share and exchange information. In an advisory, The DTA, which worked in a cross-agency team to determine the suitability of blockchain technology for government services, discovered gaps in the technical and business aspects of technology when applied to trial projects and in comparison with different technologies.

The gaps include additional risks encountered when using permissioned consortium blockchains, where leading users often control the blockchain. The DTA also noted that there is no default encryption for blockchains, and that data is available to all users regardless of whether a blockchain is private or public. The DTA suggested that agencies should halt their experimentation and prototyping and instead focus on real-world applications that use proven alternatives and are available for immediate use, adding that agencies should focus on the needs of their users and explore applications that will meet those needs. This latest advice from the DTA is timely, as interest in blockchain technology is growing in Australia.

Read more about the advisory here.