For the last while, the “tokenization of everything” has been a constant theme in crpytocurrency, and it’s had people justifiably excited. I even wrote about it in my Tokenization of Everything post.
We’re now seeing projects democratizing art, real estate, cars, securities, and more, enabling people to buy a token representing the value of any asset you can care to imagine.
Those types of ventures are all still safe – even with buying a token representing highly regulated securities, you’re not actually buying the securities themselves, much like a Bitcoin ETF doesn’t buy you any actual Bitcoin, just an investment vehicle that represents the price of Bitcoin and either pays out or charges accordingly.
The problem comes with other coins that are not, in fact, representing the value of an asset but rather the value and performance of a company or project itself.
Tokenising a house and allowing customers to buy tokens and profit off the increase in the property value? Great.
Tokenising the company running that venture and allowing customers to profit off the increased revenue of the company? Well… that’s pretty much just a security. And it’s a big no-no unless regulated by the government.
DigiPulse Detokenization – The First of Many?
Almost a year after ICO, @DigiPulseIO is planning to destroy all issued tokens.
The CEO blogged that ~98% of issued tokens are used for speculative investment, not the built platform. He thinks that's bad, so the entire project is being "detokenized."https://t.co/VvBOEs7Xok pic.twitter.com/DXAQQLox9d
— Zack Voell (@zackvoell) August 5, 2018
The Digipulse CEO recently announced in a blog that 98% of all tokens connected to the project would be burned. The ICO was a year ago and raised over $1 million, and after very heavy losses the market cap is now at $335,000.
So why ‘detokenize’ now at a massive loss?
The CEO states that because the token had not been used by enough people for its intended purpose (rights to a prepaid digital asset vault) but simply for speculation instead, the project would burn tokens by December 2018.
And that pissed off everyone who had ever bought and caused an enormous panic sell, obviously. The CEO basically killed the project in terms of the token value which immediately plummeted from $0.20 to $0.02 after the announcement that they had no future and would be destroyed.
The service provided by DigiVault is not in any apparent danger, which is interesting – the project is going ahead as planned, but without the token.
While the CEO stated that the users were to blame, many others have been quick to point out that killing the speculative token is a good way to avoid fines and criminal charges from government regulators if and when such tokens are officially classed as securities.
"thinks it's bad" sounds like "realized it was a security"
— fhoenyx (@crypto_fhoenyx) August 5, 2018
Securities Classifications Could Set Off a Wave of Burned Projects
The SEC has released a cheat sheet on securities classifications called the Howey Test.
In SEC vs. Howey (how we got the “Howey Test”), an investment contract was defined as:
- It is an investment of money
- There is an expectation of profits from the investment
- The investment of money is in a common enterprise
- Any profit comes from the efforts of a promoter or third party
Coinsavage wrote an article asking what would happen if tokens were classed as securities, finishing with the following interpretation of the SEC rules:
- Bitcoin is most likely NOT a security
- Ethereum MIGHT be a security
- Ripple (XRP) is PROBABLY a security, but also has the resources to come into compliance
- Regulators don’t want to destroy crypto but do want to protect consumers and investors
- Coinbase is in the process of gaining a securities dealer license
- If Coinbase is successful then the negative consequences of many cryptos being labeled securities would be greatly mitigated (would avoid a mass dump scenario as exchanges scramble to unload “securities” from their non-registered exchanges)
SEC Chairman Jay Clayton said in no uncertain terms that ICOs and new projects would not be given special treatment when it came to regulation. Even though it’s on the SEC to make up their mind and outline clear regulations on what does and doesn’t constitute a security, crypto projects still stand to be retroactively fined and prosecuted, potentially even jailed, if found to have sold securities without a license.
While it seems unreasonable, those are the rules of the game. Execs from crypto hedge fund MultiCoin Capital have stated that half of the top ten cryptocurrencies may well be securities and therefore liable to prosecution.
Seemingly in all the excitement, ICOs forgot that legal compliance might come back to haunt them. Probably there was a general feeling of safety in numbers, but now it seems that the SEC and other regulators are putting the foot down and capable of going after all ICOs found guilty of non-compliance one by one.
So what happens?
Well, mass detokenization is one possibility, though not necessarily one that will completely safeguard project founders from harm if they are found to have sold securities at some point – however, not being in active breach of the regulations would work in their favor and reduce the penalties.
Another possibility is that cryptocurrencies will, instead of being forced to comply fully with existing laws, will be given a lighter touch in acknowledgment of the fact that new tech needs new rules. This is a possibility, but not in keeping with the statements of SEC chairman Jay Clayton, who speaks for regulators in the US and whose influence may extend even further.Finally, there’s the lights at the end of the tunnel – securities licensing and decentralized exchanges.
Coinbase is filing for a license enabling it to sell tokens listed as securities if and when that happens, which may provide a much needed safe haven for those currencies to flee. Of course, ICOs will still have to file for compliance and potentially pay retroactively for having sold securities in the first place, but a place to legally list and sell the token means the difference between a payout with a lot of expensive legal paperwork and simply shutting down hundreds of multi-million and multi-billion dollar projects completely, burning investors and founders alike.
For those uninterested in complying with the government, there’s another option – anonymously established ICOs with tokens listed on decentralized exchanges hosted on the blockchain – uncensorable by the government, unkillable, untraceable if handled the right way.
With no-one in charge of the exchange or perhaps even the project, a token can be classed as a security but leave regulators nobody to prosecute. Consumers would need to trade anonymously with VPNs or encrypted browsers, but it’s a possibility.
Big changes may be coming to the crypto space in terms of detokenisation and reclassification of cryptocurrencies, but where there’s a will there’s a way – that’s pretty much what cryptocurrency was invented for.
Remember folks, Crypto is comin!
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