The Great Battle of Asset Classification Blockchain News, Opinion, TV and Jobs

guest contributor Giovanni Populo

The SEC has indicted two major cryptocurrency exchanges, Binance and Coinbase. A common allegation against both exchanges is that they offered unregistered securities on their platforms.

1.1 Security and commodities

a safety is a financial asset that represents an investment and has an inherent value. It can be traded on the secondary market and its value is derived from claims on property or income. The Howey test was established by the Supreme Court and is very well known in the market and is often used to determine whether an asset is a security. The test has four requirements.

1. money investment: Money investment or some form of donation is required.
2. General company: Funds must be invested in common undertakings, which means that the destinies of investors and founders are linked.
3. Expected profit: Investors must expect profits.
4. Efforts of others: An investor must enter into an investment with the expectation of generating a return or profit from the investment. This benefit may come in the form of dividends, revenue sharing, price appreciation, or other financial benefits. The key point is that investors are motivated by the prospect of financial returns from their investments.

a merchandiseOn the other hand, it is a basic commodity that is used as an input in the production of other goods and services. Its value comes from its inherent properties and usefulness. Products don’t have a specific test like the Howie test, but they generally have the following characteristics:

• compatibility: Goods of the same kind are identical to each other, regardless of who produced them.
• The ones used in production: Commodities are often used as inputs in the production of other goods and services.
• Intrinsic Value: The value of a commodity comes from its inherent characteristics and usefulness, not from the efforts of others.
• Trading on the Commodity Market: Goods can be bought and sold on the commodity market.

1.2 Simple example

An example of security is Apple Inc. stock. When you buy a stake in Apple stock ($A ), you have purchased a portion of the company and have a claim on a portion of the company’s assets and earnings.

One example of a commodity is lithium, which is used in the iPhone manufacturing process and later converted into batteries. Lithium from different sources is considered identical and interchangeable. Its price is uniform across the market as long as there is no difference in quality.

II. Applying this concept to cryptocurrencies

Bitcoin and Ethereum weren’t mentioned by the SEC in any of the lawsuits, which suggests their interpretation is more like commodities than securities, or at least they aren’t sure about them. are doing. Inconsistent positions by SEC representatives in recent hearings have raised concerns about their ability to interpret digital assets.

But what is the technical interpretation of such assets given current market understanding and past court decisions?

2.1 Bitcoin (BTC)

Bitcoin is a decentralized digital currency with no central bank or single custodian. It can be sent from user to user over the peer-to-peer Bitcoin network without the need for an intermediary.

Let’s see how the Howey test is applied.

• money investment? check.
• A company in general? No, the value of Bitcoin is not related to the property of another company.
• Profit Expectations? Many people buy Bitcoin with the expectation of profit.
• someone else’s efforts? No, Bitcoin’s value does not come primarily from the efforts of others.

What about products?

• Compatibility? Check.
• Production use: Somewhat. Bitcoin is not used as a direct input in production, but rather energy is used. However, Bitcoin is used to create information registries, usually called blockchains.
• Unique Values: Checked.
• Trading on the Commodity Market: Please check.

General market interpretation We tend to think of $BTC as: merchandise.
Note: This is not an official classification, it’s a common sense opinion, and SEC representatives suggesting the same direction. As noted above, the SEC is still debating such classification, and there is no concrete response from US government agencies at this time.

2.2 Ethereum (ETH)

Ethereum is an open-source blockchain-based platform that enables developers to build and deploy decentralized applications (dApps). Its native cryptocurrency is called Ether (ETH).

Let’s try the Howey test again.

• Investing Money: Checks.
• Common Enterprise: No, the value of Ether is not tied to the property of another company.
• Profit Expectation: Many people buy Ether with the expectation of profit.
• Efforts of Others: No, the value of Ether does not come primarily from the efforts of others.

What about product characteristics?

• Compatibility? Check.
• Used in production: checked.
• Unique Values: Checked.
• Trading on the Commodity Market: Please check.

general market interpretation, In the case of $ETH, it is split by the staking feature, but considering only the checklist above, it is more of a commodity than a security.

Note: As with the previous note, this is just a market opinion, not a formal legal classification.

It is important to understand that crypto assets are very new compared to traditional assets and the classification guidelines described above were built for the latter, TradFi only. As Gabriel Shapiro suggested on Twitter, we need to start discussing alternative classifications when dealing with digital assets given the new variables introduced by blockchain technology. As he suggests, digital assets can be securities and commodities at the same time, depending on different requirements. His idea works like this:

safety

• Insider tokens (even end-user distributions)
• Tokens sold to third parties by insiders if the relevant system is not yet functional and decentralized

merchandise

• Tokens from “end-user distribution” (mining functional systems, airdrops, etc.)
• Tokens related to intrinsically functional decentralized systems
• stablecoin

So this boils down to interpreting tokens as securities or commodities, depending on how the token was acquired (investors, ICOs), the use case (utilities vs. stablecoins, etc.), and the level of decentralization in the ecosystem.

Clearly, such a proposal makes a lot of sense for the crypto market. This is because they apply key functions and characteristics to classify assets one way or the other. This is just one example of another approach, but it should motivate us to contribute to the discussion and create our own version.

A legal drama involving the U.S. Securities and Exchange Commission (SEC) and major cryptocurrency exchanges Binance and Coinbase has sparked speculation in the crypto industry about its potential impact and consequences. The allegations in question relate to offerings of unregistered securities, including but not limited to ADA, SOL, MATIC and BNB. It’s important to understand that these are just allegations at this time and the legal process has not yet progressed. The final decision on these lawsuits will be a regulatory landmark and could have a significant impact on the crypto industry as a whole. So what would these effects be in different scenarios?

In one scenario, the SEC wins the lawsuit, setting a precedent for increased regulatory oversight of cryptocurrency exchanges. This would likely mean the SEC redefining what constitutes security within the crypto domain, based on similarities drawn from projects that claimed to be securities. In this scenario, we may witness a flurry of enforcement action against other platforms with similar operational characteristics. A tougher regulatory environment could stifle or push innovation abroad, leading to a challenging environment for US-based exchanges and Web3 projects. Given the complexity of crypto assets and the evolving dynamics of the crypto market, this scenario is unlikely. Moreover, as some experts have suggested, imposing traditional security laws on crypto assets could lead to confusion rather than regulatory clarity.

Another believes that the SEC will lose the lawsuit, resulting in a broader interpretation of cryptocurrencies as commodities. This could ease regulatory scrutiny and create room for the crypto industry to thrive. However, the downside is that the lack of proper guidelines can increase investor risk, which in turn could affect the stability of the overall market.

Looking ahead, we are at a crossroads. The outcome of these lawsuits will have a significant impact on the regulatory landscape for cryptocurrencies in the United States and possibly around the world. If I were to guess, the degree of decentralization within the network could be a determining factor in classifying something as security. A whole new set of regulations for digital assets is also expected as a result.

Beyond immediate challenges, we must continue to foster open debate on the classification of digital assets and foster innovation within regulatory frameworks. We must support efforts aimed at finding a balance between promoting the immense potential of cryptocurrencies and protecting the interests of all participants. Ultimately, the goal is to ensure that the crypto industry thrives regardless of the legal and regulatory environment in which it operates.

Always positive and always ahead of the game. Let’s continue the conversation.