SEC to exchange token proponents: No, you can't buy a vowel

Yesterday the U.S. Securities and Exchange Commission reminded the world once again that the label of a thing matters less than the substance of the thing itself. 

In other words: you can call a duck an elephant, but if it quacks, it is definitely a duck and subject to duck-related laws.

I am referring specifically to yesterday's "Investor Alert" from the SEC's Office of Investor Education and Advocacy on “Initial Exchange Offerings” (or IEOs).  These tokens were touted in some circles as a way to deal with the, um, excesses (OK, blatant illegality) of the 2017/18 ICO craze. 

The idea was that if you sell digital assets to raise money but do it on an exchange instead of directly, it will be better.

From a U.S. perspective, not only was the IEO approach maybe not a heck-of-a-lot better, it also managed to potentially add a couple more securities law issues into the mix. This is, in sum and substance, what the SEC’s latest alert tells us. 

First, the fact that something is called an ICO or an IEO (or a duck) token doesn’t mean that it is or isn’t a security. Depending on the facts and circumstances it might be (read, probably is in the case of ICO or IEO tokens). If so, it’s subject to federal securities laws and registration requirements (assuming you sell into the US).

Second, the trading platform itself may need to register as a national exchange or operate under an exemption “such as an alternative trading system (ATS).” 

Now, you may think this is a pain in the neck, but the benefit of these requirements is that they provide some assurance of investor protections that non-registered exchanges don’t have. 

You may recall that this is what got EtherDelta in trouble back in 2018. Long story, short: it was an online platform that allowed people to trade Ether and ERC20 tokens. It met the criteria of an exchange under the ’34 Act but hadn’t registered as a national securities exchange or operate under an exemption. 

Third, the platform might need to be a broker-dealer under federal law and be subject to FINRA membership and registration requirements.   

So: “what’s it all mean, Palley?” 

It’s no surprise at all that changing the name of a thing from ICO to IEO doesn’t get rid of securities law issues. There isn’t a single lawyer I know who follows the space who was surprised. It’s moderately interesting that it might actually make for more, not fewer, complications. I do wonder about the long-terms viability of tokens as an asset class on centralized exchanges. So much compliance, and at the end of the day, for what? 

When I posted about this on Twitter yesterday, at least one person responded by saying: “well, these things really aren’t offered in the U.S. anyway, are they?” 

The best that I can come up with on a really informal basis is BNB token, which Binance emphatically says is not a security.  Indeed, Binance goes to the trouble on its website of listing “all the ways you can use BNB” so certainly the company is well aware that utility beyond financial speculation is key. 

On the other hand, I wonder what percentage of the people who buy BNB buy it primarily for speculative trading purposes and rely on Binance’s managerial and entrepreneurial efforts to make it worth something.

Anyway, if experience is a guide, people will forget that changing letters and names isn’t a substitute for, you know, actual securities law compliance. 

So I am sure that we are in for more SEC advisories that state what ought to be perfectly obvious at some point in the not-too-distant future.

Disclaimer:  These are my opinions only.  They are not legal advice and don't reflect the views of employers, clients, or poets who I like.  I also,I might change my mind. I contain multitudes.