Crypto42 Watchdog №1
Our Newsletter is intended to summarize the latest development on topics we are working on, on a weekly basis: #Regulation, #Self-Regulation efforts, #Crypto Assets, #Trading, #Valuation, #Scam Alerts and #Tokenengineering
#Regulation:
I’m increasingly thinking that crypto regulation is likely to take the form of judicial and prosecutorial discretion rather than clear regulations. In a legislative sense, very hard to distinguish bittorrent from silk road or monero from BTC — ARI PAUL
Ether is not a security
On June 13, 2018 William Hinman, the Director of the Division of Corporation Finance at the Securities and Exchange Commission (SEC), declared that Ether (ETH) is not a security and so is thus not subject to the requirements of U.S. securities law ;
And putting aside the fundraising that accompanied the creation of Ether, 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. And, as with Bitcoin, applying the disclosure regime of the federal securities laws to current transactions in Ether would seem to add little value.
This is not an official SEC ruling, but rather the statement of an influential person at the organization. It is important to pay attention to the statement but the official SEC ruling will be the most important one to watch
His statement can be summarized as follows:
- Tokens which are sold by project owners with the funds mainly be raised to build basic infrastructure for networks qualify as security (security token), but once their networks are up and running with usable tokens — where purchasers would no longer reasonably expect a person or group to carry out essential managerial or entrepreneurial efforts — the tokens may transcend into non-security “utility tokens”. More precisely Mr Hinman talks about a “sufficiently decentralized” network and confirms again that the legal qualification for such tokens can change over time.
- Tokens, which are sold by centralized companies solely for the purpose to raise funds and promising profits to investors are to be qualified as securities and will remain securities.
- Genuine Utility tokens that can really be used to buy and sell stuff — in ecosystems that are owned and run by companies. It must be clear that the primary motivation for purchasing the digital asset is for personal use or consumption, as compared to investment.
To determine whether a security is being sold one has to check on how it is being sold and what are the reasonable expectations of the purchasers. The digital asset itself is simply code. But the way it is sold — as part of an investment; to non-users; by promoters to develop the enterprise — can be, and, in that context, most often is, a security — because it evidences an investment contract.
Our take on that: So what does it mean to be “sufficiently decentralized” ? and compare the quite interesting chart : “arewedecentralizedyet” . Evidently the frequently repeated requirement for the judgement of a utility token to have an established network is not accurate! the central argument definitely is the one of the central development team on whose efforts the success of the tokens depends.
Read more on this topic:
Token Regulation in the EU (a German Blockchain Association Event)
On June 13, 2018, the German Blockchain Association (Bundesblock) and the FOM Hochschule für Ökonomie & Management Berlin organized a public discussion on token regulation in the EU.
Peteris Zilgalvis, Head of Unit for Start-ups and Innovation at the European Commission, participated in a panel and provided an outlook about the next EU crypto-milestones.
A concrete blockchain use case in the EU administration is to be selected by the end of September, sufficiently specified by December and implemented in 2019. However, this will not be a public blockchain solution, but a private blockchain with a proof-of-stake mechanism that requires approval. Low-hanging fruits”, i.e. less complex databases or administrative processes that can be easily mapped using a block chain, are particularly suitable as possible use cases.
Surprisingly and evidently in line with the US point of view regarding the classification of utility tokens, Zilgalvis gave the following statement:
“For it to be a real utility token, there must be a service that makes it usable. We are currently discussing with experts a system to distinguish tokens from investments and consumer goods.”
“The ESMA Task Force is currently looking at which tokens can be regarded as securities. For tokens that do not fall under this definition, so-called utility tokens, the EU Blockchain Observatory and Forum then decides whether legislative measures should be taken to promote innovation”.
One has to note that that the purpose of the EU Blockchain Observatory and Forum is to gather evidence and give inputs. The decisions on proposing any legislation eventually will be taken by the College of Commissioners.
Guillaume Béal, Lawyer with McDermott Will and Emery France, provided information on the actual regulatory initiative in France: A decision allowing securities to be traded via a private blockchain solution will become effective on 1 July this year. France is heavily working to standards for ICOs. Nina Siedler, Lawyer with DWF Berlin as well as Daniel Resas, Lawyer with Schmitker Möllmann Partners, Berlin, do not expect any similiar developments in Germany.
For Gibraltar, the smallest country represented in the round, sees itself as the leader in Europe-wide cryptographic adaptation. Jonathan Garcia, Partner with ISOLAS LLP, highlighted the crucial advantage Gibraltar enjoys in crypto-regulation. So it is not surprising that Gibraltar has an exchange for utility tokens only — the Gibraltar Blockchain Exchange (GBX).
Nina Siedler, partner at DWF and spokesperson for the German Blockchain Association Finance Working Group, gave a presentation on the Token Regulation Paper, a paper supposed to become the basis for an EU-wide effort to establish a common understanding of the legal situation in the EU countries. If you want to join this effort please get in contact with Nina Siedler resp. join the Finance Work Group at the German Blockchain Bundesverband.
Our take on that: The engagement ofthe lawyers (like Sebastian Keding, Tobias Seidl, Daniel Resas,..) in establishing the Token Regulation Paper for the German Blockchain Associaton Finance Working Group (I am honoured to be part of it) led by the “great” Nina Siedler was and is just incredible and it is great to see that now people from all over Europe are joining the effort (Monique Bachner, Luxembourgh, Guillaume Beal, France,… ).
The statement of Peteris Zilgalvis regarding the qualification of a “real” utility token will set the stage for quite a lot discussions within this group, as the approach of the Howey Test — to base a qualification of a token on the expectations of the token buyer — for european purposes is heavily discussed.
Specifics on Thailand’s planned regulation on cryptocurrency
On June 6, 2018, the Thai Securities and Exchange Commission (SEC) announced the details of the country’s cryptocurrency and initial coin offering (ICO) regulations. According to SEC deputy secretary-general Tipsuda Thavaramara, the agency’s regulatory scope includes ICOs, crypto exchanges, brokerage firms, dealers and other parties permitted by the Finance Ministry, the Bangkok Post reported, adding that
the SEC will allow seven cryptocurrencies, used for initial coin offerings (ICOs), to be traded as trading pairs. They are bitcoin, ethereum, bitcoin cash, ethereum classic, litecoin, ripple, and stellar.
All market participants, including ICO issuers, digital exchanges, brokers and dealers involved with digital asset transactions, are required to register and to with the SEC within 90 days of the effective date and to apply for approval with the Finance Ministry.
To receive approval from the SEC, token issuers “must state clearly the type of tokens being issued, as well as investment information,” the publication noted. ICO crowdsale portals must have a registered capital of at least 5 million baht (~$156,625) and are required to look after ICO offerings for at least a year.
There is no limit given to the amount of ICOs that can be offered to institutional and ultra-high-net-worth investors. However, the investment for retail investors is limited with 300,000 baht (USD 9.000) per person and per ICO project and maximum 70% of total value of offered tokens may be sold to retail investors.
Our take on that: The regulations stated resemble very much the crowdfunding rules developed in former years and even go beyond them by requesting the ICO issuers to get a registration. Nevertheless, a quite interesting approach.
#Self-Regulation Initiatives
Geneva issues ICO Guidelines
Evidently, in an effort to follow up to the development of the Crypto Valley, the Directorate General for Economic Development, Research, and Innovation (DG EDRI) of the State of Geneva published ICO guidelines on May 28, 2018.
The purpose is to contribute to the development of the local economic ecosystem in all its diversity. It promotes entrepreneurship, digital and sustainable transformation, the emergence of talent, as well as innovation and scientific research. Given the growing interest from various actors for blockchain technology and distributed ledgers as well as for Initial Coin Offerings (ICOs) in Geneva, DG EDRI presents this guide in order to accompany and qualify ICO projects with a view to their installation in Geneva, regardless of their degree of advancement. The purpose of this initiative is to allow for these innovative projects to have a durable impact in Geneva and thus promote job creation.
In the paper, DG EDRI emphasizes a quite favorable treatment of token sale proceeds for income tax purposes (evidently based on the Zug/Switzerland proposal), which enables the token issuer to offset the proceeds in case the Company has formally committed itself to allocate the financial resources obtained during the ICO to the development and financing of its project (covering operating costs and research and development) and thereby avoiding resp. deferring income tax.
DG EDRI identified the following 7 areas of assessment and qualificationfor an ICO.
- I. Composition of the ICO team and its ecosystem
- II. Technological aspects
- III. Concept & Business plan
- IV. Legal aspects
- V. The investor onboarding process
- VI. Marketing strategy & Public relations
- VII. Calendar
Each of these areas is assessed by Experts with DG EDRI are available to study ICO deal flow in relation to the aforementioned qualification grid. The assessment provided is to be considered as a qualification of the degree of advancement of the project provided by DG EDRI.
Our take on that: The assessment issued by DG EDRI is not supposed to be used as marketing tool for the Token Issuers, but probably will end up to be one. What we definitely do not like about the Swiss approach is the aggressive marketing approach regarding taxation and regulatory requirements. All these Swiss papers forget to mention that for taxation purposes the “substance over form principle” is relevant. It is decisive where the intellectual property is developed and at what place the company’s people are actually located and not at where the company is incorporated. Shell companies will not do the trick when it comes to tax.
# Crypto Assets and Trading
Technology-Regulated and Operated Funds — The Vision of the Multichain Asset Managers Association (MAMA)
At an event at the Zurich offices of the law firm MME on June 6, 2018, Mona El Isa, co-founder of Melonport and founder and president of the Multichain Asset Managers Association (MAMA), introduced the concept of the Technology-Regulated and Operated Investment Fund (TROIF).
A TROIF costs about $25 to launch, and it will build track record over time that nobody can dispute, because it’s credible and audited by the blockchain”
Mona El Isa identifies the following specifics of this new investment fund vehicle:
- With a fund running on a blockchain, a smart contract handles both the agreement for the set up and the payout of fees in a transparent way.
- Fund managers can predefine this in code rather than prospectuses with human beings looking over positions at the end of each day to verify that a manager stayed within the risk limits.
- it is possible to predefine the blockchain addresses that may invest in the fund, which allows a compliance manager to do KYC and AML automatically.
Managers can build credible track record on-chain, and nobody can dispute it. In the traditional world, it’s almost impossible to launch a successful fund and survive with less than $300 million of assets under management. , Auditors and other intermediaries are no longer necessary. Fund managers just need to show that they can trade or invest in a way that makes continuous returns.
Exchanges and Trading
The New York State Department of Financial Services approved the trading of privacy-protecting cryptocurrency with Gemini to become the first BitLicensed exchange to offer trading and custody services in Zcash.
Bitcoin´s $30 billion sell-off
Chainanalysis applies concepts of money supply to bitcoin to better understand the crypto-economy. Their research revealed that a lot of supposed HODLERS did sell off quite a piece of their holdings back in December 2017, so now the amount of bitcoin hodled is supposed to equal the amount of bitcoin held for transactions and speculation. The supply of bitcoin available for trading has increased by 57% since December 2017 theregy depessing the price of bitcoin. For prices to recover, either speculators will need to reduce supply by HODLing, or demand will need to increase, driven by a new wave of speculators or new bitcoin use cases.
Our take on that: We need more research like Chainanalysis’ paper. We would appreciate to have market statistics comprising the big OTC deals having impacts on the market structure and future price develpments.
# VALUATION
Once you have identified a use case where you need a blockchain, the question becomes how to design the system in a way that the value of this network will accrue at the level of the token. If this succeeds, you have a new asset that can generate a lot of value for investors.” Fabio Federici, Founder and CEO of Base58 Capital
A Fundamental Valuation Framework for Cryptoassets by Robert Mitchnick and Susan Athey (Director of Ripple Labs) (published June 13, 2018)
Their framework is based on former valuation discussions in the cryptoecosphere but applies a traditional financial valuation methodology.
The authors allow for an hybrid approach by assuming that the leading cryptoasset today will have to fulfill hybrid functions: (1) economic utility (means of exchange) and (2)store of value.
Additionally, they apply a discount rate based on the traditional approach to value assets using a portfolio theory perspective resulting in a much lower discount rate that the industry discussed up to now (typically 30+) for cryptoassets valuation models. In this framework the “riskiness” of the cryptoassets is allowed in the probability weighting of the future value estimates-
The study arrived at a fundamental value range today for BTC of $13,600–28,100 and for XRP of $1.59–8.23 on a probability weighted, present value basis.
Our take on this valuation approach: We like the hybrid approach and we also agree with the discount rate approach, but as in all valuations done, everything depends on the assumptions underlying the parameters of the calculation. The authors assume that Bitcoin will not overcome its scalability issue (average dollar transactions are supposed to increase by just 3,5–5,5 % per year). On the other hand, the study assumed that XPR will be widely adopted during the next years (between 35% to 75% of global retail remittances will be done by using XPR). That’s a little contradictory.
Further readings on valuation published this week:
Rethinking Metcalfe’s Law applications to cryptoasset valuation: summary
# Tokenengineering
One of the innovations of crypto-currency is the creation of economic incentives for participation in a protocol or platform in a way that benefits the network or collective. The tokens allow people to use the system — to pay for computing power or file storage or whatever — but also create decentralized incentives to maintain it. It is a genuinely new way of organizing economic activity.
Start of #TokenEngineering Wiki and #tokenengineering meet-ups in Berlin and Munich
As a result of the first token engineering Workshop held in New York as part of the Blockchain Week back in May 2018 a wiki on token engineering was set up.
Creating tokenized ecosystems is hard. How do we figure out what we want? How do we manifest that intent with block rewards and other crypto building blocks? How do we simulate and validate the design? How do we anticipate attacks and respond to them? How do we update the protocols? Given that these systems are wildly powerful, how can we better take responsibility for their design & deployment? — Challenge http://tokenengineering.net/start
In Berlin already two Token engineering meetup were held and more are in the pipeline. Hopefully this virus spread as did the ICO virus beforehand.
Our take on that: We share the opinion of the founders of the token engineering initiative that the discipline of how to set up of token incentives is one of the most important disciplines to be fostered and to be supported.
#) FinTelegram Investors Protection:
The Collapse of the binary option universe and its Crypto-Heritage
Fintelegram Investors Protection is planning a report about the transition of the binary options players to the cryptoworld. With increasing regulatory restrictions, binary options providers have evidently moved into the crypto area. On the websites of the former binary options providers you now preferably see “cryptocurrencies”. In a real migration of peoples, the operators of the binary option schemes moved into the cryptocurrencies and now operate their cryptocurrency schemes there, which often also receive the FOREX label. They deploy their old applications, resources, and customer database. Hundreds of binary options labels, billions of dollars of revenues, and their handful of scheme operators are moving into the new holy land called “crypto”.
Other Interesting reads of the week:
The truth about smart contracts by Jimmy Song
The Bitcoin-lightning network a technical primer.
about us
Crypto42 is an initiative of FinTech Academy and FinTelegram with the mission to contribute to the advance of the token economy.
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