5 min read
The SEC's verdict on The DAO tokens: explained
Last week, the Securities and Exchange Commission (SEC) in the US published an official report, following an investigation into a token sale by an organisation called The DAO, where it decided that these particular tokens the DAO were offering were in fact, securities and therefore subject to the requirements of the federal securities law in the US.
Read the full story via Fintech Insider News here.
Jeff, what can you tell us about this?
This is the first time that the SEC has spoken formally about these initial coin offerings, or about tokens, and they’ve made it very clear that their view is that these tokens can be securities, and in the case of the tokens issued by the DAO, that these in fact are securities. Now, the way they’ve gone about it is interesting. Looking at this from an American perspective, I would call it a kind of digital Marbury v Madison. Marbury v Madison, for those who are not familiar with it, was an early landmark US Supreme Court Case in the early days of our republic, and what it did, it simultaneously established and asserted the supreme court’s authority to speak about something, in this case its authority to overturn acts of congress. At the same time, because of the unique facts before it, it declined to act on the authority it had asserted.
Similarly, here, the SEC has asserted that these DAO tokens were securities. At the same time, they’ve determined not to get into a fight or pursue an enforcement action at this time, though they’ve clearly reserved the right to do so in the future. They’ve said it’s just based on the conduct and activities known to the commission at this time. So, they really have put the market, and the world, on notice that in their view, the tests that they’ve applied do mean that tokens can be securities, and they’ve applied that test to the tokens issued by the DAO, and determined that those were indeed securities.
Does that mean that all tokens are securities?
Definitely not. What they’ve indicated is that it’s a facts and circumstances determination. There’s a test that’s referred to as the Howey Test, that relates to a court case that’s about 70 years old, but it’s stood the test of time, which has made it clear that the methodology that the regulator uses is they look beyond, the form and the formalities to the substance, the economic substance and characteristics, and then they apply the test. In this report of investigation, they walked through the steps, they explained how each of the four elements of the test applied specifically to the tokens issued by the DAO, and then they applied them to these. So, what one can infer from that, is that if you had another type of token, you would have to apply this test, and look at whether these facts and circumstances rose up to these four key characteristics, and if it falls within that definition then you’re looking at something that is a security, but if it doesn’t, then what you have may very well not be a security. They’ve also really put the market, in the US and around the world, on notice that you really need to do your homework about this, and they’ve made clear their view that these specific tokens were securities.
It was really interesting you pointed out that they had not taken action. Do you think we can anticipate the SEC and other regulators around the world, the FCA in the UK, MAS in Singapore, amongst others, getting together and forming a joint action, based off of what we know today?
It's hard to predict that kind of thing; while there are arrangements in place that enable regulators to act jointly, it’s certainly easier for them to act individually. As a regulator, you have specific authority over the things that your statute, or set of laws and rules put in front of you, that defines the things that you have the ability to speak about and take action about. I would imagine that regulators are in dialogue about this, but I think that it’s more likely that they would act or take steps individually than to do things jointly, particularly at this time when this is still a nascent, developing area.
Last week you spoke about regulations and clarity. Do we at least know what a security is, in relation to DLT? Whether DLTs are a place where securities can be placed? And is this something that will help us in the future attract more established institutional capital? Or is it still too early to tell?
I think that this is a positive development, in terms of legal clarity and legal certainty, and I do think that investors that often have legal or other organisational, institutional restrictions really like to have legal certainty for what they’re doing. But, I would like to observe, the SEC was very clear about a number of things:
- That these DAO tokens were securities.
- That this was a securities offering to US persons.
- That the Dow, itself, was an issuer.
- They also indicated that the trading system met the definition of an exchange, so it would need to register as an exchange, or they also said, that an alternative to registering as an exchange is to register as an alternative trading system, or an ATS