Crypto is still in beta

“Take the platypus – that is not a finished product. It’s clearly still in beta.” — Stephen Colbert

To atone for my many sins, my career in traditional finance concluded with a short stint in compliance.?

As part of the training process, I attended a two-day workshop led by officials from FINRA, the regulator for US broker-dealers.

I’ve long since forgotten the subjects we covered, but I still distinctly remember my surprise at how sincere and well-intentioned those FINRA regulators were.

As a trader, I always viewed compliance as a nuisance to be avoided to whatever degree possible: It all seemed like an exercise in hoop-jumping that had no relevance to my actual job.

The few relevant rules (no frontrunning!) were so obvious there didn’t need to be a rule (if you front-ran a customer order, it was the last order you were going to get).

It was eye-opening to discover that the people writing those rules were doing so in good faith: They were not, in fact, out to make my life difficult — they were trying to apply securities law in the most useful and unobtrusive way possible.

I imagine staffers at the SEC feel they are doing the same.?

We all enjoy hating on Gary Gensler, sometimes with good reason, sometimes not.?

But, either way, I suspect our vitriol is unproductive: My impression is that SEC staff are not just taking orders from the top. Instead, they are likely making a good-faith effort to protect investors by applying current law the best they can.

Personally, I’d prefer they didn’t apply it at all: I’d like to retain my right to continue losing money in whatever manner I so choose.

But I also believe the regulators at the SEC are sincere in their paternalistic desire to stop me.?

If so, that would mean we don’t just need a new SEC chair — removing Gensler would not make crypto’s regulatory issues magically disappear — we need new laws.

Fortunately, new bills on crypto regulation are making their way through Congress — and they are surprisingly thoughtful.

The most recent bill (if I’m reading it correctly), would, for example, be highly supportive of Coinbase’s long-standing contention that it does not list securities.

Unfortunately, that bill is still a long way from becoming law.

Even more unfortunately: After this morning’s news, it’s not so clear whether Coinbase will still be here to enjoy its vindication by the time it does.

Consider yourself enjoined

The fun thing about crypto is that it forces you to learn about finance from first principles — far more so than you do in regular finance, even: During my 20 years as a trader, I don’t think I read a single legal document or piece of proposed legislation, for example.

By that measure, crypto has had a banner week: This morning’s SEC complaint against Coinbase runs to 101 pages; yesterday’s complaint against Binance was 136 pages; and Friday’s McHenry-Thomson draft bill on crypto market structure weighs in at 162!

All those pages have been a mixed bag: The good news from this morning’s complaint is that it’s mercifully free of the comically self-incriminating quotes that made yesterday’s complaint against Binance such a page-turner.

The SEC’s case against Coinbase is more conventional, with no allegations of fraud or deceit: refusal to register as a broker-dealer is as spicy as it gets.?

The 101-page complaint boils down to a simple question of what is and isn’t a security — which is something reasonable people can disagree on.

The bad news, however, is that 1) The SEC still thinks nearly every crypto is a security 2) They really want Coinbase to stop letting people buy them: The SEC is asking that Coinbase be “permanently restrained and enjoined” from doing so.?

Gary Gensler noted on CNBC this morning that, to win its case, his agency only has to prove that one of the roughly 250 crypto tokens tradeable on Coinbase is a security.

And if they do so, it could be enough to completely shut down Coinbase’s core business, according to Preston Byrne .

This, I’m guessing, is why Coinbase’s stock is down 13% on the news, whereas Binance’s BNB token was down only 5% yesterday on its seemingly much worse news.

Still, Coinbase will get its day in court, and its prospects seem far better than those of Binance: There is a very reasonable case to be made that most crypto tokens are not securities.

Friday’s McHenry-Thompson bill makes that case.

The platypus asset class

On the all-important question of whether crypto tokens are commodities or securities, the McHenry-Thomspon bill is decisive in its answer: YES.

Because, much like an egg-laying mammal, a crypto token can, in their view, be both commodity and security.

The bill proposes that a token be deemed a security when it’s sold by something that looks like an issuer (a foundation or large token holder, say) … and that it be deemed a commodity when sold by anyone else.?

This seems an elegant solution for an asset class that is effectively a mashup of equity, commodity, and currency: Securities law is mostly about regulating the promises that a seller makes to buyers, as a company does when it issues stock.

But there are no legal-entity issuers making promises in crypto — there’s just code.

McHenry-Thompson would put restrictions on sales of tokens made by the people that have influence over the code that backs a token.?

And it would leave everyone else, with no promises made, to buy and sell at their own risk.?

This may reflect effective lobbying by Coinbase as it so neatly matches their own rationale as to what makes crypto different and why none of the tokens they list are securities. (See page 38 here .)

It also has precedent in TradFi: Shares sold in a direct listing IPO are regulated differently than shares sold in a traditional IPO. And shares acquired in a private transaction are regulated differently than shares in the same company acquired on a stock exchange.??

That, I think, makes McHenry-Thompson a solution appropriate to a hybrid asset class and likely a good outcome for everyone involved: Crypto projects would have a clear path to US compliance, exchanges would know what they’re trading, and investors would know what they’re buying.

And the platypus asset class, still in beta, would have a safe place to grow up.

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