- As the public cryptocurrency craze begins to settle down, the SEC is coming in to clean up the mess.
- Following a wave of subpoenas to ICO-related participants, now the SEC is moving on to cryptocurrency exchanges and stating they likely will have to formally register.
- These companies that have long advertised themselves, either functionally or explicitly, as exchanges will now have to comply with the legal disclosure and reporting requirements of securities exchanges.
- Cryptocurrency prices collapsed across the board in response, with it initially unclear why as the statement was against exchanges rather than the cryptocurrencies themselves.
- Greater cryptocurrency exchange restrictions may affect supply and demand for cryptocurrencies, which have been a major determinant of current market prices, supports, and movements.
The Securities and Exchange Commission's statement on Wednesday that cryptocurrency (OTCBB: COIN) (OTCBB: GBTC) exchanges likely will need to formally register with the SEC, as other securities exchanges do, may affect cryptocurrency supply and demand as the primary mechanism many buyers and sellers utilize is potentially disrupted.
However the immediate crypto-price reaction seems to come from the greater fear of the "regulatory sharks" now finally circling cryptocurrencies, which in a market as soft as cryptocurrencies could have just as great an impact.
Cryptocurrencies do not require an exchange to function, as cryptocurrencies can be directly transferred between participants. However cryptocurrency "exchanges" have allowed many who want the ease and security of securities exchanges, thereby becoming a major mechanism for cryptocurrency acquisition and disposition.
These exchanges number in the hundreds and allow users to quickly acquire and dispose of cryptocurrencies, switch between different cryptocurrencies, hold the cryptocurrency, fund and withdraw from their accounts with fiat currency, and all the other aspects of a typical securities exchange such as the NYSE or NASDAQ.
These exchanges also function not only as an exchange but also as a broker-dealer, helping their users acquire and dispose of their assets in that market. They, of course, charge various transaction and user fees, resulting in what has been a quite profitable business for many of these exchanges due to the billions of volume each day for cryptocurrencies.
The SEC Says "The Party's Over"
That is where the SEC's statement comes in. Just days after the SEC began issuing subpoenas to a broad array of ICO and cryptocurrency companies, as compared to the previously targeted approach against clear and outrageous fraudsters, the SEC issued the following extremely strong statement which states, in part, after a warning to investors to "market participants operating online trading platforms":
A number of these platforms provide a mechanism for trading assets that meet the definition of a "security" under the federal securities laws. If a platform offers trading of digital assets that are securities and operates as an "exchange," as defined by the federal securities laws, then the platform must register with the SEC as a national securities exchange or be exempt from registration....
... These and other services offered by platforms may trigger other registration requirements under the federal securities laws, including broker-dealer, transfer agent, or clearing agency registration, among other things.
For those unfamiliar, federal securities law requires significant amounts of registration or disclosure for nearly every aspect of the securities offering and exchange process, with a few notable exceptions. Depending on their exact business model, representations, and actions, companies may be found to be classified as exchanges, broker-dealers, etc., with varying registration and reporting requirements.
The SEC has in the past issued various statements concerning cryptocurrencies in general, but this is a strong statement clearly notifying all exchanges that the previous unclear status towards "exchanges" is over.
Undoubtedly now we will begin to see a situation where exchanges will either begin registering or possibly face investigation and enforcement action, rather than the previous uncertain limbo.
In response to this news, cryptocurrencies across the board dropped by roughly 10%. Initially it may seem uncertain why an action against cryptocurrency exchanges and brokers would affect the price of the underlying asset.
Furthermore, registering exchanges and brokers would not likely affect volume, as regulation of exchanges merely requires and ensuring that they are not engaging in deceptive or fraudulent practices.
However the market's reaction may be a combination of just being jittery over any cryptocurrency news as well as the fact that some cryptocurrency exchanges that do not choose to register, register improperly, or are slow in registering, may face investigative and enforcement actions and thus disruptions to their service.
If even a few exchanges become disrupted that might wipe out a significant amount of volume from the market and affect supply and demand in unpredictable ways. If exchanges are frozen, seized, or shut down, or even the fear of such spreads, in the process that could very well affect the overall market size and activity.
It remains to be seen how exactly the SEC's actions from here on out materialize, but with such a clear and relatively definite statement that there are exchanges permitting and/or facilitating trading of securities, and thereby required to registration as an exchange, broker-dealer, etc., unless exempt, it looks like the days of limbo are over for cryptocurrency exchanges.
While it may not necessarily have a substantive impact on the market depending on if exchanges actually experience disruptions, with cryptocurrencies a market as based on feelings and subjectivity rather than hard and clear valuation metrics, the spook of the action may prove to be just as impactful as the hard regulatory actions that come from it.
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