Increased regulatory attention on digital currencies will help them develop into a mature investment product, several analysts said.
The U.S. Securities and Exchange Commission signaled late Tuesday that U.S. securities law may apply to initial coin offerings, sales of new digital coins to fundraise for projects based on the same blockchain technology as bitcoin.
“As the regulation of cryptocurrencies progresses, that’s actually a good thing for the currencies because they won’t be seen as the Wild West,” said Monica Summerville, senior analyst in fintech at Tabb, a capital markets research and consulting firm.
The SEC announcement specifically stated that a token launched last year called DAO was a security and issuers of such blockchain-based securities typically must register offers and sales with the SEC. But the regulator stopped short of bringing charges against DAO, and instead said it wanted to “caution the industry and market participants.”
“This removes a significant overhang from the market,” Brian Kelly, CNBC contributor and founder of BKCM, which runs a digital assets strategy, said in an email. “The worst case scenario was a complete and total ban which has now been removed.”
“I view this as positive long-run development,” Kelly said.
The equivalent of more than $1.2 billion has been raised so far this year in digital coin sales, according to a report this month from financial research firm Autonomous NEXT. The rapid speed at which some very early stage blockchain projects have raised funds using token sales has worried some about the potential for fraud.
The firms selling the new digital coins have also sought to protect themselves from the SEC by preventing U.S. investors from participating, sometimes rather than hiring expensive lawyers to navigate regulation.
A key selling point for cryptocurrencies has been their decentralized, global network in which anyone from any country can participate.
“There were a number of technologists who thought the technology supplemented securities law, and the SEC has made it clear it’s not the case,” said Stephen Obie, partner at law firm Jones Day and representative for Overstock.com on its use of blockchain.
The announcement “provides some needed guidance for the marketplace and enables those who comply with federal laws to structure their products in a way to do so,” Obie said. “There’ll be more opportunity for the average investor to capture appreciative value in these products in a more mainstream environment.”
The most well-known digital currency, bitcoin, has attracted much attention on Wall Street for more than doubling in value this year to around $2,500. Some respected market strategists have said in the last few weeks they bought bitcoin, or have issued reports discussing its potential to climb further to $5,000 or even $55,000.
The SEC confirmed in the announcement it would use a decades-old Howey test for considering whether different tokens are securities. The test says a security involves the investment of money in a common enterprise, in which the investor expects profits primarily from the efforts of others.
“This SEC report is well balanced, and a breath of fresh air for the industry,” William Mougayar, organizer of a New York conference in May about digital coins called Token Summit, said in an email.
“This is good for good ICOs, and bad for bad ICOs,” he said. “The outcome will be a test for those ICOs that can withstand an increased rigor in reporting compliance.”
However, the SEC release still did not answer a key question — whether coin buyers who primarily want to use tokens to participate in a blockchain project are subject to securities law, Marco Santori, who leads the fintech practice at law firm Cooley, pointed out in a tweet.
The SEC Tuesday also issued an investor bulletin on initial coin offerings that noted “investing in an ICO may limit your recovery in the event of fraud or theft.”
The CoinDash initial coin offering lost $7 million to hackers on July 17.Then in the last week, Veritaseum said hackers stole $8.4 million worth of tokens, the firm’s founder Reggie Middleton said in an online post Monday.
“Many ICOs, especially those that were fraudulent, had the indirect effect of making digital currencies seem like a scam to some,” Stuart Levi, partner and co-head of the intellectual property and technology group at Skadden, said in an email.
“While wild fluctuations in the value of digital currencies has attracted speculators, the long-term strength of these currencies depends on some level of stability,” he said. “ICOs have created some of these fluctuations and a more stable ICO market will likely mean a more stable digital currency environment.”