The SEC’s Division of Trading and Markets has provided limited period no-action relief to beta test a service that will allow securities clearance using a distributed ledger system. The 24-month relief would allow the applicant to operate a securities settlement service whereby securities and cash would be represented by digitized securities entitlements that would be exchanged in accordance with the underlying securities transactions. Without no-action relief, the applicant would have to register as a clearing agency. The SEC is allowing limited testing of the system without registration so long as the applicant follows strict guidelines that limit use of the system and volume.
The use of distributed ledger technology and digital tokens could revolutionize securities settlement and transfer agency processes. Securities settlement could happen more quickly with fewer transaction costs. The SEC (and the applicant) deserve credit for allowing this testing period before requiring full-blown registration.
The SEC’s Division of Investment Management sent a letter to the ICI and SIFMA listing the “significant outstanding questions” concerning how proposed registered funds investing in cryptocurrencies and related products would satisfy the Investment Company Act. The letter, signed by Division Director Dalia Blass, warned potential fund sponsors against initiating fund registrations until these questions “can be addressed satisfactorily.” The letter questions how funds would value cryptocurrencies and related products given their volatility and lack of regulation. The Division also questions liquidity and whether funds could meet daily redemption requests. The letter also raises custody concerns, asking how funds could “validate existence, exclusive ownership, and software functionality.” ETFs pose additional questions related to authorized participant and arbitrage processes. The letter also asks about distribution and fiduciary duty. The Division expressed its willingness to “engage in dialogue with sponsors regarding the potential development of these funds.”
OUR TAKE: We believe that both the industry and the SEC have vested interests in coming to an agreement to allow cryptocurrency offerings. The industry should welcome prudent regulation, which gives investors the type of confidence that made mutual funds so successful. The SEC should get out in front of this issue to become the regulator of choice rather than cede its regulatory authority to offshore, non-U.S., and private markets.