With crypto, the United Kingdom needs to put its house in order

This is the latest entry in my ICO Mania series of blog posts.

The Shapps Incident

Speaking as one who has long waited for legislators and regulators to get serious about cryptocurrency and blockchain tech, yesterday’s alleged scandal involving Grant Shapps MP is not only shocking, but it tells me that the state of ICO regulation in the UK is years away from being what it needs to be.

For those of you who were living under a rock, Grant Shapps – former co-chair of the British Conservative Party and a member of Parliament in that country – yesterday stepped down from both a Parliamentary working group and an ICO’s advisory board after it was alleged in the pages of the Financial Times that Shapps apparently failed to disclose a $3.7 million interest in tokens issued by an ICO. Note, officers of the allegedly offending ICO itself also advised the Parliamentary working group.

That something this inappropriate could allegedly happen in such close proximity to the heart of the regulatory process shows that it is more likely than not that the British government is, currently, totally blind to the size of the issues presented by the space they are only now beginning to understand, and the extent to which they are failing to exercise their duty to the public to quickly achieve competence and work with industry to establish appropriate supervisory frameworks.

It’s time for regulators around the world to (a) get serious about learning how this technology does and does not work, (b) work with legislators to get the power to put an end to market conduct which is abusive of the investing public and (c) put those powers to use.

An exercise in futility

Over the years, I have had the privilege to speak with regulators, law enforcers, legislative aides and legislators alike, in several countries, about the danger that the proliferation of ICO, or “Initial Coin Offering,” schemes poses to the investing public. I have done so consistently and unwaveringly since 2014.

To date, warning regulators about this misconduct has been an exercise in futility.

The more money these ICO schemes make for their promoters, the less the warnings are taken seriously, not only by new entrants seeking to raise money in the space or investors doing diligence, but also by regulators who have become accustomed to coin offerings as a fact of life.

The reasons why this should be the case are clear enough to me. Cryptocurrency companies with vast marketing and lobbying budgets have sent sufficiently hip and sloppily dressed technology emissaries ’round the capitals of North America and Europe, peddling decentralization prosperity gospel to our leaders, and blinding them with the promise of “blockchain technology.”

A small but not insignificant number of the companies in “blockchain” do good, honest, and solid development work. But they are in the minority. To any half-decent engineer, most of the claims peddled by the average ICO firm these days are, transparently, garbage. So-called “stablecoins” set themselves apart as being particularly awful, but many others that don’t try to be anything other than a cryptocurrency are themselves chronically oversold. The much-vaunted Eos scheme, for example, which raised more than $4 billion, utilizes four-year-old consensus tech known as delegated proof of stake which wasn’t that impressive on the two occasions it was tried previously (Bitshares and Steemit) and remains unimpressive now, at least to anyone whose opinion I respect.

The issue, of course, is that most people in “blockchain” arrived on the scene in the last 12 months. As a consequence, they are unable to exercise the requisite levels of diligence to sift out the marketing B.S. from genuine innovation. This explains, for example, the U.S. Securities and Exchange Commission’s legally puzzling pronouncement, which appeared to borrow heavily from the logic put forth by U.S. lobbying firm Coin Center, that Ethereum, which virtually any legal professional I know will agree started its life as a security, somehow transmogrified into a non-security by the mere passage of time (despite there being no basis in the precedents I’m aware of for such an interpretation).

Or why a European Parliament subcommittee produced a breathless resolution that read like a marketing document that might be more at home on the blog of the European Commission’s “blockchain observatory” development partner, ConsenSys, than it would be as serious legislation that could be found within a library of evenhanded assessments of blockchain tech.

Those of us standing against unqualified evangelism – the half-dozen or so consistent and battle-weary public “skeptics” like myself, Izabella Kaminska, Tim Swanson, and David Gerard, who between us have $0 in marketing budget and have to earn a living without recourse to the coin-capital markets – look on with ever-increasing levels of horror as unbridled greed goes unchecked and indeed is endorsed by regulators who have been told, and in good faith believe, the lie that in order to utilize blockchain cryptography, a coin is required.

This is not to say that the entire space is a waste. I firmly believe that cryptocurrency and cryptography combined with distributed systems, which currently takes the form  of blockchains, will change the world. Indeed, these things already have changed the world. 

However, I also believe that ICO boom is to “crypto” what the Railway Mania was to the industrial revolution. Lasting change will come not from an infinite proliferation of instamined “shitcoins,” or by handing hundreds of millions of dollars to un-tested novices whose only objective is to drive up the price of the digital assets they sell. Distributed cryptosystems will, as with all technologies, evolve incrementally and as a result of a slow and gradual process of adoption and developer familiarity with the tooling.

There are well-worn methods for promoting innovation in cryptocurrency (see e.g. the BIP process for Bitcoin) and in blockchain-without-the-coins (see e.g. the development process utilized by the Hyperledger project). Note, in each case, that the substantial development – hundreds of thousands of man-hours – that has occurred in either project has required the sale of precisely zero coins of any description, and certainly not the excessive sums like the $1.5 billion raised by Telegram or the $4 billion purportedly raised by Eos.

This brings me to my main point. What is not required for a healthy innovation sector is the repetitive, cookie-cutter ICO industry which has been allowed to proliferate in the U.S. and the U.K. almost completely untrammeled for the last four years. Which I find problematic, which practically every lawyer I know finds problematic, and which regulators on both sides of the Atlantic Ocean have singularly failed to address directly for half a decade or more.

Legislative failure

Parliament, in particular, should bear some responsibility for the inability of British regulators to address market misconduct occurring within the jurisdiction. Numerous coin schemes have been run out of London. Stand-out examples of regulatory inability to come to grips with “blockchain” include:

In May 2016: A “decentralized venture fund,” calling itself the “DAO,” is launched from London and Berlin. The scheme  quickly raises $150,000,000 in outside capital. However, because the smart contract administering the scheme was sloppily written, the DAO was hacked and the scheme collapsed, causing user funds to be lost (although later efforts by the Ethereum Foundation ensured that some of the funds would be reclaimed). No action was taken in England and Wales; the U.S. S.E.C. wrote a “report of investigation” in July 2017 rapping the DAO scheme on the knuckles for violating securities laws in that country.

September 2016: the UK FCA warns consumers about the Onecoin Ponzi scheme while at the same doing nothing to intervene in the scheme: “This firm is not authorized by us and we do not believe it is undertaking any activities that require our authorization. However, we are concerned about the potential risks this firm poses to UK consumers.”

September 2017: the FCA, after what must have been a thorough review, confirms what many practitioners suspected when it says it has almost no statutory power to supervise cryptocurrency and ICO offerings, leaving no dedicated regulator with the remit.

January 2018: The Bitconnect Ponzi scheme, which was apparently administered by an English registered shell company, is shut down. More to the point, it is shut down after regulators in Texas of all places filed a cease-and-desist order against the company and the founders cut and run. As far as I can tell, no investigation or regulatory response ever occurred in the United Kingdom.

May 2018 – Ripple Labs states, to a committee of Parliament, that its business has no relationship with the cryptocurrency XRP despite the fact that this assertion is frequently disputed in the cryptocurrency community.  Members of the Parliamentary Committee lack the competence or sector knowledge to challenge this assertion on the spot.


July 2018: Grant Shapps MP, former co-Chairman of the Conservative Party, steps down from his role in the All-Party Parliamentary Group for Blockchain tech for allegedly receiving compensation from one of the schemes he’s meant to be supervising and allegedly failing to disclose this to Parliament.


Stop equivocating

I warned in November of 2017 that failure to adequately supervise the cryptocurrency space will create levels of systemic risk which could potentially endanger the mainstream financial system. Last week we learned from the erudite Bitcoin banker OG Caitlin Long that ICO issuances were, in dollar terms, equal to 45% of IPO issuance in Q2 – with nary a prospectus or registration statement in sight.

Regulators of the world, the time for exploratory work is past. Clean house, come up with a battle plan, establish a supervisory framework, and enforce it.

It’s long overdue. There’s a real possibility it will soon be too late.


I usually end my posts with a picture of a marmot but because this is for Britain, I end this one with a badger

2017-18: a year in marmots

Why are you writing a retrospective of the last year?

It’s been awhile since I’ve written anything here on the blog. There is a reason for that – yesterday I finished taking the bar exam, so I’ve spent the last ten weeks huddled over a kitchen table, memorizing black-letter law.

As it happens, today is a pretty consequential anniversary: one year ago today, I handed in my notice at the startup I co-founded, Monax, to move back home to (a) take care of an ailing parent and (b) attain a professional goal I’ve had ever since I was admitted as a solicitor in England and Wales in 2011: getting admitted as an attorney-at-law in the USA.

Since then, Monax has gone on to do some really interesting work in both the private and public blockchain arenas. Of particular note is a project I helped to negotiate back when I was still at the company, the fusion of Monax’s implementation of the Ethereum Virtual Machine and IBM’s  Hyperledger Fabric blockchain software. Monax has since integrated its EVM, known as Hyperledger Burrow (note marmot-themed name), with Intel’s Sawtooth blockchain software as well.

This is great because it means that there’s finally an Ethereum implementation with backing from big enough companies that there’s a chance the Ethereum ecosystem may yet escape total domination by a serial ICO-issuing company some of my friends call the “Evil Empire,” a company that shall go nameless at this juncture.


But that was my old life. What have I been up to this year? Well:

August 2017: I leave Monax and pass the NYLE.  At the urging of my friend Jonathan Mohan, I get back into blogging with a vengeance and start writing my “ICO Mania” blog post series, which would go on to rack up more than 320,000 hits over the next twelve months.

My opening salvo was about beavers, or as I prefer to call them, “swamp marmots.” My follow up, Thoughts on the SAFT, criticised the “Simple Agreement for Future Tokens,” or “SAFT,” ICO issuance documents – endorsed at the time by Cooley LLP and, if memory serves, a couple of lawyers who are no longer at Debevoise – as falling foul of U.S. securities laws.

tl;dr, I said that every ICO I’d ever seen was a security, a view I’ve held since 2014.

Nobody listened.

A mysterious blogger named @Bitfinexed starts writing about potential issues with wash trading and the cryptocurrency, Tether.

Nobody listened to him, either.

September 2017: The UK FCA decides to bury its head in the sand re: ICOs. I enroll at UConn Law on an LL.M. (Master of Laws) program. I write the Bear Case for Crypto. My thesis is that when the regulators finally get it together and take out a sufficiently major piece of infrastructure for regulatory transgressions, there will be a massive, rapid, and inescapable price collapse as offices are raided and servers are seized.

Note for the record, I still stand by this thesis, and consider that Tether/Bitfinex present a high risk of being a future source of systemic problems in Bitcoinlandia.

October 2017: Cooley LLP  publishes the SAFT White Paper, arguing that “utility token” ICOs are kosher as far as the federal government is concerned. I dissent. A partner from Cooley who gets paid far better than I do tries to dunk on me in Forbes, saying “the SAFT doesn’t become the token. There is no existential metaphysical continuum where this pdf file become[s] an entry on a decentralized ledger. That’s not how the world works. And frankly, that’s not how the Howey test works.”

We’ll see about that,” I think to myself at the time.

In October I also stumble across a nascent “stablecoin” scheme nobody had heard of called Basis/Basecoin. I excoriate it in writing because there is absolutely no way the scheme can work without bots manipulating the market for the token. 8 months later, Basis goes on to raise $130 million, pre-product and pre-revenue, from Andreessen Horowitz, Lightspeed and Bain.

November 2017: I pass the MPRE. I propose that the Bitcoin/altcoin market is getting sufficiently out of control that it will almost certainly become a systemic risk if regulators continue to fail to intervene.

Nobody listened.

December 2017: MakerDao/DAI dares me to write about them. I oblige. Estonia proposes launching a national Ponzi scheme. Venezuela actually launches one. Sadly, my father passes away after a six-year struggle with cancer.

January 2018: The MakerDAO/DAI stablecoin breaks when a market-manipulation bot supporting its price is accidentally switched off.

The Securities and Exchange Commission sends out the first batch of ICO subpoenas. Around the same time, Jay Clayton, Chairman of the Securities and Exchange Commission, dunks on at the SAFT, calling the structure “disturbing.”

I can barely contain my smug satisfaction at being right, about both DAI and the SAFT. Bitfinex and Tether receive a subpoena from the CFTC.

I do @Patrick_Oshag’s “Invest with the Best” podcast. He calls me “the most consistent skeptic in crypto,” a badge I wear with pride.

February 2018: Jay Clayton, Chairman of the Securities and Exchange Commission, ups the regulatory rhetoric when he tells the United States Senate that every ICO he’s ever seen is a security.

March 2018: I team up with Nouriel Roubini to call shenanigans on the Bitcoin bubble.

April 2018: @Hasufl and I discover some irregularities in the Ethereum ICO from 2014 (my post, and his post) which show that ICO was likely organized and funded, in large part, by one person or a small group of people working in concert.

May 2018: 9x exams and 1x 50-page paper later, I finish at UConn, having made some fantastic friends along the way, and am awarded an LL.M. in U.S. law. Meaning I have two law degrees, which is one more than most. Gary Gensler says that an Ether token is  probably a security, and I concur. The DOJ launches a criminal probe, in conjunction with the CFTC, into Bitcoin price manipulation.

June 2018: SEC Director William Hinman says that Ether – which was created by ICO – is not a security. Despite the fact that Jay Clayton said, in February, that every ICO he’s ever seen is a security. As usual, I point out that the grown-up lawyers are a little behind the curve when it comes to “blockchain,” and dissent.

On the Bitcoin front, an independent report claims that Tether – a central point of failure for the ecosystem if ever there were one – was mostly responsible for Bitcoin’s rise.

July 2018: I lock myself indoors to study, and only occasionally step outside to take pictures of the marmots that live in my yard and eat my plants.

Yesterday: Attempt to jump over the final hurdle: the UBE (Uniform Bar Exam). I’ll find out the scores in a couple of months.

Today: It transpires that ICO capital raising was 50% of IPO fundraising for Q2 2018. Remember that fuzzy marmot who told you nine months ago that this stuff was going to become a systemic risk if the regulators didn’t bring it under control? Well…

Tomorrow: who knows?

2017-18 was a crazy year. Now that I’ve got some room in my head to think again (bar exams are really the worst), I’m glad to have a little time to sit down to plot my next move.

I want to thank everyone who’s stuck around for the ride, read my blog posts, and chatted with me on Twitter during that time. You’ve made the last year incredibly personally rewarding, even though I’ve been “off of the field,” so to speak, while sorting out my professional qualifications.

Given how interesting the last 365 days have been, I can only imagine the next 365 are going to be even better.

Finally, here’s an obligatory picture of the marmot who lives in my back yard.





Ether is not a Security?

 Not your lawyer, not legal advice.

Following my post Whether Ether is a Security, in which I agreed with Gary Gensler’s assessment that Ether is probably a security, and Ether was (probably) a security, in which the WSJ leaked that regulators did in fact consider Ether to be a security, SEC director William Hinman announced today that it is his view that Ethereum is likely not a security – although it may have been one in the past.

This has been received by the market as semi-official opinion of the agency, as it should be. In practice, I suspect this means that some might expect a great many unregistered investment schemes – no matter how harebrained or illegal – dating back to the 2014 era will get a free pass.

Although I’m an English lawyer, my personal view that this interpretation of what was and continues to be an ICO-funded scheme doesn’t gybe well with the purpose or substance of U.S. securities law.

Just about everyone appears to agree that Ethereum was a security when it was first issued. “Promoters,” Hinman said in his speech, “in order to raise money to develop networks on which digital assets will operate, often sell the tokens or coins rather than sell shares, issue notes or obtain bank financing… [where] Funds are raised with the expectation that the promoters will build their system and investors can earn a return on the instrument – usually by selling their tokens in the secondary market once the promoters create something of value with the proceeds and the value of the digital enterprise increases… it is easy to apply the Supreme Court’s “investment contract” test first announced in SEC v. Howey.” In other words, very much what happened with Ethereum four years ago.

Screen Shot 2018-06-17 at 3.47.57 PM
The contract which set out the terms of the Ethereum scheme

Hinman suggests, however, that the wide adoption of secondary market transactions have caused the Ether instrument to lose its qualities as a security. Or more to the point, that the transactions in Ether are not sales of a security. “Putting aside the fundraising that accompanied the creation of Ether,” he continues, “based on my understanding of the present state of Ether, the Ethereum network and its decentralized structure, current offers and sales of Ether are not securities transactions.” (Emphasis mine.)

This is because, he argues, “if the network on which the token or coin is to function is sufficiently decentralized – where purchasers would no longer reasonably expect a person or group to carry out essential managerial or entrepreneurial efforts – the assets may not represent an investment contract.”

Except it totally is

I join Chairman Clayton and Director Hinman in thinking that a “decentralized” scheme – which I define as

“a (1) cryptocurrency scheme, (2) in relation to which neither an originator nor promoter has sold or distributed tokens for value to third parties, and (3) which utilizes a consensus algorithm that ensures the process of adding blocks or transactions to the shared transaction history is not controllable or censorable by one person or a reasonably foreseeable cartel”

is not an investment contract and should not be subject to securities regulation.

Where I struggle is in understanding how tokens issued by a scheme start life as investment contracts, and then, despite openly flouting the law for years and seemingly only because the scheme has successfully evaded enforcement action during that time, despite being part of and enabling what former SEC Commissioner Joseph Grundfest called “the most pervasive, open and notorious violation of federal securities laws since the Code of Hammurabi,” the tokens issued by such a scheme could conceivably lose their status as investment contracts.

With such a scheme it is the instrument, aka the token, which is the investment contract. It is the mode of that investment contract’s issuance which should determine the character of the entire scheme. As Chairman Clayton made clear when he carved out Bitcoin from the SEC’s purview, we are concerned with the initial sale of the token for value with an expectation of profits etc., not the secondary market transactions in such a token, when determining the token-qua-instrument’s character and whether the securities laws apply to it. Tokens are the thing that the public values; they are the evidence of the share in the scheme, “it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise.” Howey.

The property that backs the token and of which it is a proportional share, if any, is the goodwill of the underlying chain ecosystem to which that token relates, which can be and is quantified as a “market cap” on websites like Coinmarketcap, calculated as the spot price of the token multiplied by the total tokens outstanding.

Secondary trading of the token-qua-investment-contract ought not to change the investment contract into a cryptocurrency,  any more than a secondary trading of, say, a private company share doesn’t transmogrify the share into money. If there’s a precedent that supports the SEC’s current proposed approach, I’m not aware of it.

Anyway. I don’t think it should be terribly difficult for the SEC to get on board with that approach once they get some skeptical input to counter some of the input I know they’ve had from the lobbyists (I’m easy to get hold of, guys). Especially since, towards the end of Director Hinman’s speech, he rattled off a list of criteria, one of which refers to a token as an “instrument:”


I will leave it to you, dear reader, how you might have applied these factors in 2014. If we assume for the sake of argument that the Howey criteria are met, and if we pay very close attention to the word “scheme” in Howey’s “contract, transaction, or scheme,” it seems clear that later decentralization should not save a cryptocurrency scheme from earlier transgressions; where the later-mined tokens are part of the same scheme as the presale coins and facilitate its objectives, and it was an investment contract at inception, then as a practical matter the Ether sold in the presale and the Ether today are all part of the same scheme, albeit one that has achieved completely its promoters’ original goals.

Indeed, decentralization does not terminate the initial investment contract; it is the purpose and objective of the initial investment contract. Funding marketing efforts and becoming a decentralized cryptocurrency is the point of the exercise.


To think otherwise is to effectively allow crypto-token systems to outrun regulation even if at their genesis they violated the laws. It does not take long for a cryptocurrency system to grow beyond the immediate control of its creators; even with Ethereum, it would have been very difficult, as a practical matter, for the system to be unilaterally controlled by the Ethereum Foundation or the core team mere days after the system launched (ignoring the DAO hard fork, which was the result of an at-the-time-unforeseeable cartel of most of the major economic interests in Eth trying to extricate themselves from a plainly absurd $150 million unregistered investment scheme, which also escaped scrutiny despite being a flagrant violation of U.S. securities laws and, presumably, the public offering rules in every jurisdiction in which DAO Tokens were sold).

“Decentralization” is, accordingly, not a good measure for deciding whether securities laws should apply to a scheme, as a scheme can become functionally decentralized fairly quickly merely by choosing an appropriately decentralized consensus algorithm. Today, that means proof-of-work.

Why have we now changed the subject to be about secondary market transactions in Ether instead of the thing that is possibly the investment contract and may have been all along, Ether itself? Lord only knows. But in my view, coins, when sold to obtain investment capital, should be treated as an investment contract of a kind, no matter how “decentralized” the system eventually becomes. (Note, whether Ethereum is decentralized – or will be after the transition to Proof of Stake, where its largest holders will have a meaningful input on consensus – is an open question.)

Speaking of which,

“Decentralization” is legally meaningless

The term “decentralization” has no legal meaning, at least not yet. It could mean that a scheme uses POW consensus even if the supply of the cryptocurrency was pre-sold to a handful of large promoters who funded its early development (purely hypothetically). It could mean that the cryptocurrency has a hard-cap and is reliant in practice, if not in theory, on one company’s contributions to the network, as with Ripple. It could mean many investors hold the coins but consensus is determined by a cartel, like Eos. It could mean that, as with Bitcoin, three major mining pools and a small group of “core” devs have outsize influence over the currency.

If “decentralization” is a defense, all of the schemes outlined above will plead it. All of them will be both right and wrong to varying degrees.

Put another way, “decentralization” is a buzzword, not a term of art. We should therefore avoid entirely use of the term and  look to processes the law understands – issuance and sale – to inform our regulatory approaches. Relying on this amorphous, non-legal, coin-specific concept of “decentralization,” as Coin Center argues we should, muddies the waters completely unnecessarily, introduces a huge amount of legal uncertainty, has no basis in existing law and will result only in further confusion in the marketplace, exposing retail investors to more risk.

Screen Shot 2018-06-14 at 8.50.44 PM
Excerpt from Director Hinman’s speech (linked at top of post).

I have a pretty simple way of looking at tokens, one which squares the circle nicely when we’re trying to ask why Bitcoin shouldn’t be a security where something like Ether should. The most important question, the threshold issue, is whether the issuer or creator of the chain sells any of the tokens/coins.

This way of thinking about token transactions is elegant in its simplicity; e.g., it is hard to argue that a mined coin on a chain where no tokens have ever been sold or distributed by the issuer to the public is an investment contract, as there is no valuable consideration moving between the user and the blockchain’s creator, ergo no investment of money, ergo no investment contract. Tokens that are not sold are made, through mining or similar processes. Last time I checked, cryptocurrency mining was perfectly legal.

This means, given current market dynamics, from the perspective of a scheme promoter, assuming a scheme is “decentralized” per my definition given above,

  • If you’re selling/distributing tokens, and especially if you’re pre-selling them, to US persons, you probably have an investment contract on your hands.
  • If, like Satoshi Nakamoto, you’re not selling or distributing tokens to US persons, you probably don’t.

Again, none of that is legal advice, but more a point for discussing whether the SEC’s proposed regulatory approach could benefit from revisions.

To conclude

Anyhoo. Whatever people think of today’s statement of policy, it hints towards a liberal approach to cryptocurrency structuring. I don’t like that it hints towards that approach, as I think cryptocurrencies are economically extremely dangerous, but I have to concede that’s where it points.

I still think industry-specific regulation is now due. We will almost certainly not get it for at least half a decade or more. But its absence should not be interpreted by entrepreneurs as a free-for-all; remain mindful that this is the first round of a regulatory boxing match in what promises to be a decades-long bout. Remember also that securities regulation is fast-moving field where what worked yesterday might well not work tomorrow. See, e.g., U.S. v. Newman, where the Second Circuit Court of Appeals, overturning itself, criticised the government’s “overreliance on our prior dicta” to inform “the doctrinal novelty of its recent insider trading prosecutions.” Judicial gaslighting par excellence.

Doctrinal Novelty” – these are two words all lawyers in blockchain should keep in mind as we advise on and unravel these new and interesting technologies.

Entrepreneurs, on the other hand, should not commence a coin issuance free-for-all in response to today’s semi-official statement from the SEC, although I fear now that many of you will. If your behavior gets too out of line, you will ruin the party for everyone.

To sum up, compliance is a long game. Plan accordingly.