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The SEC just flipped on crypto, here is what happened and will happen next.
The SEC sent Coinbase a “Wells Notice” which is a notice of a lawsuit over their LEND product.
WHAT IS LEND?
Coinbase has been wanting to release a product called LEND which pays 4% on USDC (stablecoin) but the SEC is not allowing Coinbase to do so (https://bit.ly/38WTfsD)
WHAT IS THE PROBLEM?
The SEC is labeling Coinbase’s new product as a security. The CEO of Coinbase is confused as to how a lending product can be considered a security. The SEC has never defined stablecoins as “securities” so it is unusual why they would choose to do this now.
WHAT IS A SECURITY?
Under the Securities Act of 1933 (page 1), the SEC defined securities as any note, stock, treasury stock, security future, security-based swap, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement. Clearly, the law states lending is indeed a security (https://www.govinfo.gov/content/pkg/COMPS-1884/pdf/COMPS-1884.pdf)
THE HOWIE TEST
The Howie Test is the brainchild of the Supreme Court created to identify what counts as a security. It asks 4 simple questions:
1. IS IT AN INVESTMENT OF MONEY?
Sort of, but not really, we’re not investing money by holding USDC.
2. IS IT IN A COMMON ENTERPRISE?
Yes it is, Coinbase pooling people’s money together would be considered a common enterprise.
3. DOES IT COME WITH THE EXPECTATION OF PROFIT?
Yes it does, we expect to make money on our money (interest) – there is an expectation of profit.
4. IS IT DERIVED FROM THE EFFORTS OF OTHERS?
Other people borrow our money and through their efforts of lending money from us, we make money. Check.
We fail the Howie Test. Unfortunately this is an old way of judging new technology but it is the law.
WHY IS THE SEC DOING THIS?
There are two theories.
The first theory is the most obviously cynical one – the SEC is working to protect the legacy banking system. The national average rate for savings accounts is 0.6%. What would happen if the SEC allowed Coinbase, BlockFi, Voyager, Celsius, etc. to exist? People would have no incentive to keep money in the bank if they can convert their cash to stable coins like USDC and earn 10x more on their money. This is the “follow the money” logic.
The truth is more like closer to this theory. The reason the SEC wants to regulate this product as a security is because of what happened in 2008. The financial crisis was a result of greedy “securities lending”. The SEC needs to make sure that doesn’t happen again in crypto.
WHO IS GARY GENSLER?
Mr. G is the chairman of the SEC (guy in charge).
WHY COINBASE WHEN THERE ARE OTHER PLATFORMS DOING THE SAME THING?
Two reasons. Reason one is because Coinbase’s lending model is riskier than others. Coinbase will earn interest by lending our money out to clients. This creates a lending product hence it’s a “security”. In contrast to Voyager’s model which pays interest based on the profits from bid/ask spreads which is considered LESS risky and not based on lending.
Reason two is because Coinbase has a much larger influence over the crypto sphere than other platforms. If the SEC allows public and influential companies like Coinbase create lending products, it could allow the crypto space to get out of hand, over leveraged, and unregulated – exactly what happened in 2008 so the SEC feels like they need to monitor this.
WHAT HAPPENS NEXT?
Most likely interest rates will fall as crypto companies will take a conservative approach and wait it out. If there is more pressure from the SEC, DeFI platforms will become the new norm for earning interest. The SEC is using litigation to buy themselves enough time to understand this new technology. Fortunately, crypto doesn’t need anyone’s permission to continue innovating and breaking ground.
*None of this is meant to be construed as investment advice, it’s for entertainment purposes only. Links above include affiliate commission or referrals. I’m part of an affiliate network and I receive compensation from partnering websites. The video is accurate as of the posting date but may not be accurate in the future.