Jan. 7, 2021
To the Commission:
First, I would like to commend you for beginning to take proactive steps, rather than reactive steps, towards the regulations and oversight of digital assets securities. The absolute worst type of action that you could do in a scenario like this would be to wait 7-8 years and then take a reactive step in suing a broker-dealer that you believe is violating your unstated policy beliefs. I personally wish to commend you for seeing that, at least in this instance, proactivity allows for innovation.
Before I provide a response to the questions that you pose in your commission letter, I would be remiss if I do not state that you are in effect "putting the cart before the horse" in issuing your policy statement. In taking this step, you have failed to consider (or purposely have avoided) two things:
What qualifies as a digital asset security?
Has the SEC over-stepped its Chevron deference in beginning to classify certain cryptocurrencies as "digital asset securities"? Consideration One: What Qualifies as a Digital Asset Security?
In your Commission Statement, you refer to "digital asset securities" vaguely in footer 1, stating that "a digital asset may or may not meet the definition of a 'security' under the federal security laws." As wonderful as that statement sounds, its intentional (or worse unintentional) vagueness has and will continue to create a massive lack of clarity in the digital asset space. Further, what is the point of regulating broker-dealers regarding digital asset securities that they custody if you haven't established a clear definition of what qualifies as a digital asset security?
To your credit, you do cite to Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934: The DAO. In all fairness, however, said statement effectively says nothing more than "a digital asset that meets the definition of a security is a security." With all due respect, this is no more helpful than the Supreme Court telling us that "Free Speech is all the speech that is free."
You have put the cart before the horse. In this case, the cart is "rules regarding custody of digital asset securities". The horse is "what is a digital asset security".
As a side note, in keeping with the metaphor, imagine a world where the Supreme Court defined what a horse is before ponies, donkeys and mules walked this earth. Now imagine that you were trying to regulate horse drawn carriages without first clarifying and making clear distinctions of same outside of an antiquated definition of horse made before the world knew that ponies, donkeys and mules would walk the earth. Is a donkey a horse? Is a mule a horse? Is a pony a horse? IS A DIGITAL ASSET A SECURITY?
The Digital Asset Space deserves an answer better than "sometimes it is, sometimes it isn't."
Consideration Two: Has the SEC over-stepped its Chevron deference in beginning to classify certain cryptocurrencies as "digital asset securities"?
As you are well aware, the SEC has recently tried to bring enforcement actions against specific companies that have sold digital assets, claiming that they are violating securities laws by selling "digital asset securities". One such example is the lawsuit against Ripple filed in December of 2020, approximately seven (7) years after the SEC claims Ripple started selling unregistered securities (XRP). To bring you back to my first paragraph: "The absolute worst type of action that you could do in a scenario like this would be to wait 7-8 years and then take a reactive step in suing a [company] that you believe is violating your unstated policy beliefs." And to be clear, your policy beliefs regarding what is a security are at the very best, vague.
Ironically, before doing so, there was no policy statement or comment period of any sort where the SEC defined exactly what it believed to be the definition of a digital asset security. It's odd that your agency has decided to be proactive with the cart, but reactive with the horse.
However, back to the issue at hand, and Chevron, while an Agency is given deference in interpreting a statute when Congress has not specifically spoken to the matter, it is important for your Agency to remember the restrictions put upon you by the "Major Questions Doctrine." Specifically, you should not be making rules in situations where there could be "major economic and political significance."
The classification (proper and improper) of certain digital assets as securities without specific guidance from Congress has major economic and political significance.
Take, for example, the case of XRP. No foreign country has determined XRP to be a security. Rather, foreign countries have done the exact opposite (including Japan that has determined XRP to be a crypto asset and the UK which has determined that XRP is not a security). The SEC in bringing this lawsuit is in direct opposition with other G7 and G20 countries as to the classification of a digital asset. The SEC should not receive Chevron deference and should not be making rules regarding the status of digital assets as securities due to the political and economic significance. Further, the fact that the lawsuit was brought right at the end of the Trump administration, with a new, wholly opposite administration (both party and beliefs), with the acting Commissioner leaving the next day, shows the political significance of decisions like these. This is akin to storming the Capitol Building because you do not like the fact that you actually cannot control the classification of digital assets.
The SEC has been over-stepping its bounds, and should begin to act constitutionally or be stripped of its power altogether. I know that that's an irrational and harsh punishment, but its befitting of an agency bringing irrational and harsh enforcement actions.
Rather, the SEC should be on the forefront of pressuring Congress to regulate. Congress is the only authority that matters here. Statutory authority is necessary to avoid piecemeal legislation. The SEC should do what it was empowered to do by the Securities and Exchange Act of 1934 - be the voice and protector of investors. You don't do that by making power plays or power grabs. You don't do that by picking and choosing winners by suing one company regarding one digital asset when there are hundreds of others that would fall into the same category. You don't bring forth a reactive lawsuit and then ride away into the sunset saying "good luck future commissioner!"
Now: To Answer Your Questions
What are industry best practices with respect to protecting against theft, loss, and unauthorized or accidental use of private keys necessary for accessing and transferring digital asset securities? What are industry best practices for generating, safekeeping, and using private keys? Please identify the sources of such best practices.
Answer: Not your job to decide. Ask Congress to regulate.
What are industry best practices to address events that could affect a broker-dealer’s custody of digital asset securities such as a hard fork, airdrop, or 51% attack? Please identify the sources of such best practices.
Answer: Not your job to decide. Ask Congress to regulate.
What are the processes, software and hardware systems, or other formats or systems that are currently available to broker-dealers to create, store, or use private keys and protect them from loss, theft, or unauthorized or accidental use?
Answer: Not your job to decide. Ask Congress to regulate.
What are accepted practices (or model language) with respect to disclosing the risks of digital asset securities and the use of private keys? Have these practices or the model language been utilized with customers?
Answer: Not your job to decide. Ask Congress to regulate.
Should the Commission expand this position in the future to include other businesses such as traditional securities and/or non-security digital assets? Should this position be expanded to include the use of non-security digital assets as a means of payment for digital asset securities, such as by incorporating a de minimis threshold for non security digital assets?
Answer: Not your job to decide. Ask Congress to regulate.
What differences are there in the clearance and settlement of traditional securities and digital assets that could lead to higher or lower clearance and settlement risks for digital assets as compared to traditional securities?
Answer: Not your job to decide. Ask Congress to regulate.
What specific benefits and/or risks are implicated in a broker-dealer operating a digital asset alternative trading system that the Commission should consider for any future measures it may take?
Answer: Not your job to decide. Ask Congress to regulate.
I know that I have been harshly critical, and I wish to relay that I only am so because I believe that the government was not meant to go unquestioned. I believe that there are many fine people in the SEC, but even fine people become misguided.
Respectfully submitted,