The SEC’s insider trading case involving a former Coinbase employee is expected to ripple far beyond the crypto platform and underscores the SEC’s tough approach to wrangling the $1.3 trillion market.
“The SEC isn’t ceding any ground,” said Usha Rodrigues, a business law professor at the University of Georgia. “It has the jurisdiction to regulate in this space and it wants to assert its authority to do so.”
The SEC on July 21 brought a civil enforcement action against Coinbase manager Ishan Wahi for allegedly giving his friends non-public information so that they could buy tokens before they were listed on the exchange. Federal prosecutors in Manhattan brought related charges in their first cryptocurrency insider trading case.
The SEC said the scheme involved 25 assets in total but pointed to nine assets in its complaint that it says are securities.
The companies behind the crypto assets now alleged to be securities could face their own SEC enforcement actions for the sale and offer of unregistered securities. Coinbase could face SEC action for acting as an unregistered broker-dealer or exchange, said Teresa Goody Guillén, a securities partner with Baker & Hostetler LLP.
“This case sent shockwaves through the crypto industry,” Guillén said. “Confusion in the industry about the rules of the road for digital assets is indicative of the need for a more comprehensive regulatory regime that is streamlined among and between government regulators.”
Regulation by Enforcement
The same day as the enforcement action Coinbase filed a petition with the SEC asking the regulator to propose rules explaining which digital assets are securities. And at least one government official is coming to the company’s defense.
Caroline Pham, a Republican member of the Commodities Futures Trading Commission, called the SEC’s move a “striking example of regulation by enforcement.”
“The SEC’s allegations could have broad implications beyond this single case, underscoring how critical and urgent it is that regulators work together,” Pham said last week in a statement. Her comments follow much debate over how to classify digital currency and whether the SEC or the CFTC is best placed to regulate it.
Coinbase, the largest crypto platform in the US, argued that the assets at issue are not securities and pointed out that the Justice Department didn’t charge securities fraud in its action. “No assets listed on our platform are securities, and the SEC charges are an unfortunate distraction from today’s appropriate law enforcement action,” Coinbase said in a statement.
“There just isn’t clarity among digital assets as to what constitutes a security and what doesn’t,” said Toby Galloway, a partner at Winstead who was previously chief trial counsel at the SEC’s Forth Worth office. “I have a bit of sympathy for that position,” he said of Coinbase’s concerns.
More to Come?
The SEC’s enforcement action is sweeping and reflects the regulator’s more aggressive posture in the cryptocurrency industry, said Andrew Hinkes, a partner at K&L Gates, even if it’s not clear if the move is a “a one off or suggestive of a future strategy.”
SEC Chairman Gary Gensler has repeatedly said that he considers many cryptocurrencies to be securities and should be subject to the commission’s rules. He suggested earlier this month that the Wall Street regulator could exempt companies from certain securities laws to ease the road to compliance.
Rep. Brad Sherman (D-Calif.), chairman of the House Financial Services Subcommittee on Investor Protection, told Bloomberg Law that he believes many cryptocurrencies are securities and therefore fall under the SEC’s jurisdiction. He supports what he called the SEC’s expanded enforcement against “bad actors in cryptocurrency markets.”
SEC enforcement chief Gurbir Grewal testified before Sherman’s panel last week and asked for greater resources He noted that the division has already bolstered its crypto asset and cyber units to take on digital asset cases.
Another much-watched SEC case asserts that sales of digital currency XRP made by executives at currency exchange Ripple are securities. The SEC brought a lawsuit against Ripple in 2020 arguing that the company had not registered about $1.4 billion in XRP as securities.
James Cox, a securities law professor at Duke University shrugged off complaints that the SEC was regulating through enforcement actions. Past litigation has shaped insider trading rules and the decades-old definition of an investment contract was also set through litigation, he added.
The SEC, Cox said, must believe that the Coinbase insider trading case “is just a great set of facts to establish a precedent that coin offerings are in fact a security.”