SEC Investigating NFT Creators and Marketplaces

Bloomberg is reporting that the SEC is investigating nonfungible token (NFT) creators and marketplaces for securities violations, according to a report from Bloomberg.

Anonymous sources in the report claims that the SEC is investigating whether “certain nonfungible tokens […] are being utilized to raise money like traditional securities.”

According to Bloomberg, over the past several months, attorneys in the SEC’s enforcement unit have sent subpoenas demanding information about the token offerings.

As part of its review, the SEC is seeking information on so-called fractional NFTs, which involve breaking down the assets into units that can be easily bought and sold, said the people, who asked not to be named as the probe hasn’t been disclosed publicly.

  

https://www.bloomberg.com/news/articles/2022-03-02/sec-scrutinizes-nft-market-over-illegal-crypto-token-offerings

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Former SEC Senior Attorneys and Broker-Dealer attorneys at Sallah Astarita & Cox represent crypto investors and promoters across the country. For more information, call them at 212-509-6544.

Coinbase Responds to its Wells Notice

Coinbase, the cryptocurrency platform, has received a Wells Notice from the SEC regarding its lending program. 

At first blush it does not appear that the program, which allows customers to lend their currency is a security,  but we have not seen the SEC's files, so anything is possible. 

Coinbase has released a statement regarding the Wells Notice, explaining its position, here. Coinbase claims that the SEC is relying on SEC vs. Howey and Reves, but that it will not explain why or how those cases apply to their lending program.

The lending program is not yet live, and there is very little public information on the program, but it sure does not look like a security. According to Coinbase, its proposed program allows its customers to lend (not borrow) its USD Coin (USDC) known as a stablecoin to others, for 4% interest.

SEC vs. Howey

Howey is the seminal Supreme Court case defining what is a security. In simple terms, according to Howey, a security is an investment of money in a common enterprise, with the expectation of making a profit from the efforts of others. In an oversimplification, stocks, bonds, and promissory notes with a term of more than nine months, are all securities, and subject to SEC regulation.

Reves vs. Ernst & Young

Since there are types of notes which, under a traditional Howey analysis, may not be deemed "investment contracts" but still bear a resemblance to a security, the Supreme Court in Reves v. Ernst & Young, set forth the “family resemblance” test to determine whether a note is a security. 

Reves sets forth an analysis that starts with the assumption that a note is a security unless the note bears a resemblance to one of the categories on a list of exceptions. If the “note” does not bear a resemblance to an item on the list, the analysis continues to determine if a new category should be added to the list.

The rationale underlying Reves is important in the Coinbase situation. In Reves, the court stated

First, we examine the transaction to assess the motivations that would prompt a reasonable seller and buyer to enter into it. If the seller's purpose is to raise money for the general use of a business enterprise or to finance substantial investments and the buyer is interested primarily in the profit the note is expected to generate, the instrument is likely to be a "security." If the note is exchanged to facilitate the purchase and sale of a minor asset or consumer good, to correct for the seller's cash-flow difficulties, or to advance some other commercial or consumer purpose, on the other hand, the note is less sensibly described as a "security." Second, we examine the "plan of distribution" of the instrument to determine whether it is an instrument in which there is "common trading for speculation or investment." Third, we examine the reasonable expectations of the investing public: The Court will consider instruments to be "securities" on the basis of such public expectations, even where an economic analysis of the circumstances of the particular transaction might suggest that the instruments are not "securities" as used in that transaction. . . . Finally, we examine whether some factor such as the existence of another regulatory scheme significantly reduces the risk of the instrument, thereby rendering application of the Securities Acts unnecessary. 

Is The Coinbase Lend Program a Security? 

While the details of the program have not been released, it seems that Coinbase's lend program is not a security under Howey or Reves. Using the Reves analysis, the loan, or note, is not being used to finance a substantial investment. Rather, the loan, or note, is provided to advance a consumer purposed, i.e. to enhance the return on the lender's separate investment.

Where Coinbase may get tripped up is in the plan of distribution, with Coinbase facilitating the distribution of these notes. However, the third factor is the reasonable expectations of the investing public, which can only be to earn interest on an existing investment, the stablecoin.

Coinbase says that it is holding off on releasing the program, as it does not understand the SEC's issue with the program. More disturbing is Coinbase's claim that the SEC will not explain its position, or offer any guidance.

Regulation by Litigation 

Regulation by litigation is never a proper regulatory endeavor. Let's find out what the SEC's issue is, and let Coinbase launch its program in a compliant manner.

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The attorneys at Sallah Astarita & Cox, LLC have over 100 years of combined experience representing all participants in the securities markets, including the cryptocurrency markets. For a consultation, or to simply ask a question, give them a call at 212-509-6544

SEC Investigation Not a Covered Claim for Hertz

The importance of making sure that your insurance policies cover SEC investigations was hammered home this week when a federal district court in New York ruled that American International Group Inc. and Tokio Marine are not obligated to indemnify Hertz Global Holdings Inc. for $27 million in costs incurred in connection with an SEC investigation.

AIG unit National Union Fire Insurance Co. had issued Bonito Springs, Florida-based Hertz a $15 million insurance policy that permitted it to recover for securities claims against the company and for claims made against insured persons, according to the ruling by the U.S. District Court in New York in Hertz Global Holdings Inc. v. National Union Fire Insurance Co. of Pittsburgh, et al.

Tokio Marine provided an additional $15 million of insurance coverage for claims made and paid under the National Union policy.

A class action complaint was filed, and an SEC investigation was conducted. The court found that the class action was covered, the SEC investigation was not, based on the explicit language of the insurance policy.

Hertz Global Holdings, Inc. vs National Union Fire Insurance Company of Pittsburgh

Review Your WSPs - Subpoenas are Coming

The authority to open SEC investigations, and therefore to issue subpoenas, was expanded under the Obama Administration to the director of Enforcement, rather than solely to the Commission itself. The Director of Enforcement then delegated that authority to various senior officials, including regional and associate directors and specialized unit chiefs. The number of investigations thereafter rose.

The Trump Administration limited that authority to senior officials, which reduced the number of investigations declined.

On February 9, 2021 the Biden Administration made another change,  and authorized senior officers in the Enforcement Division to approve the issuance of a Formal Order of Investigation.

Returning this authority to the division’s experienced senior officers, who have a proven track record of executing it prudently, helps to ensure that investigative staff can work effectively to protect investors in an era when the pace of fraud – like the pace of markets themselves – is ever more rapid.

We can expect more SEC investigations down the line, and more enforcement actions. Now is the time to insure that your compliance documents are in order, and that your written supervisory procedures accurately reflect how your firm operates, and that those procedures are being followed.

Need assistance? The attorneys at Sallah Astarita & Cox are include former SEC Enforcement attorneys, and experienced broker-dealer and investment adviser attorneys. Call 212-509-6544 or email mja@salllahlaw.com to find out how they can help you avoid an enforcement proceeding.

SEC Statement on Expended Investigation Authority

National Law Review Article - SEC Enforcement Restores Subpoena Power

SEC Subpoenas - Tips for Responding

Gamestop Frenzy Investigations

Financial press sources are reporting that the Justice Department’s fraud section and the U.S. attorney’s office are seeking information about the activity from brokers and social-media companies that were hubs for the trading frenzy.

Last week we posted that the SEC and prosecutors would open investigations into the trading in Gamestop and AMC, and now they have. Prosecutors have subpoenaed information from brokers such as Robinhood Markets Inc.

The WSJ is also reporting that the Commodity Futures Trading Commission “has opened a preliminary investigation into whether misconduct occurred as some Reddit traders targeted silver futures and the largest exchange-traded fund tied to silver, the iShares Silver Trust.”

Gamestop Investigations?

 By now, all of our readers are aware of the dramatic rise in Gamestop's stock, after a short squeeze generated by the retail investors from Reddit. The question I am hearing most now, is, will the SEC do something about it.

Interesting question - but I have to answer with a question - Do something about what? About a group of investors sharing information about a massive short in a security, and discussing buying the stock because the shorts will ultimately have to buy back the stock? Nothing illegal there.

While the political pressure for an investigation will be significant, the real question is did the individuals buying Gamestop do anything illegal?

The answer is in the details. The real question is were there false statements made by the company or a group of individuals which were intended to create an artificial price for the stock, and if so, was that a concerted effort.

There will certainly be an SEC investigation, if it isn't already in the works. Internet posters are not immune from charges of manipulation. Way back in the year 2000 the SEC investigated and instituted proceedings against an Internet message poster who it accused of engaging in a scheme on the Internet in which he purchased large blocks of thinly traded microcap stocks and, within hours of making such purchases, sent numerous false and/or misleading messages, or "spam," over the Internet touting the stocks he had just purchased. Lebed then sold all of these shares, usually within 24 hours, profiting from the increased price his messages had caused.  https://www.seclaw.com/15messageposter92000/

So far, there is no evidence of such a scheme, and it appears that the discussions regarding Gamestop were held in public, with message posters discussing the short position, and suggesting, correctly, that the shorts will have to cover their position as some point in time.

However, if the SEC finds false or misleading information in those discussions, or in private discussions between those message posters, all bets are off.

Public Companies Investigated for PPP Loans

The SEC is investigating public companies who took PPP loans to ensure that their PPP applications are consistent with their public filings.

Bloomberg News is reporting that the SEC has Th sent letters to some recipients of the forgivable loans seeking information about how the funds were spent and copies of loan applications

The news service reported that nearly 200 public companies received PPP funds at that level, but the SEC’s inquiry encompasses fewer than a dozen of those firms.

https://www.pymnts.com/loans/2020/sec-probing-public-firms-ppp-funds/

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The national securities law firm of Sallah Astarita & Cox, LLC is comprised of experienced securities attorneys and former SEC Staff attorneys representing investors, financial professionals and public companies in private litigation and SEC investigations, with decades of experience. Call 212-509-6544 for more information.

SEC Opens Luckin Coffee Investigation

In early April Luckin Coffee announced that it was conducting an internal investigation over Chief Operating Officer Jian Liu's inflating of the company's sales figures. That apparently caught the attention of the SEC, as the Wall Street Journal is reporting that the SEC has launched an investigation.

That investigation will remain confidential, and could drag on for years. Investors in Luckin Coffee who have suffered losses should contact the attorneys at Sallah Astarita & Cox,  LLC to learn about their rights and potential remedies. With their experience as brokerage firm attorneys and SEC Enforcement attorneys, their partners have the knowledge and experience to address your concerns. Call 212-509-6544 for more information.

Chronos Group Investigation

On March 2, Chronos Group, a Cronos Group, global cannabinoid company with international production and distribution announced that it was unable to complete its financial report and statements for fiscal 2019 because its audit committee, outside counsel and forensic accountants are reviewing several bulk resin purchases and sales of products through its wholesale channel and the appropriateness of the recognition of revenue from those transactions.

On Friday March 20, the company sent an email to its staff asking them to keep specific records due to a “confidential and non-public inquiry by the Securities and Exchange Commission,” according to MarketWatch. That "inquiry" is undoubtedly an SEC subpoena or voluntary request for production of documents.

A shareholder class action has been filed against Cronos for investors who bought the stock between May 9, 2019 and March 2, 2020. Being part of a class action is not always the best remedy for individual investors. If you bought Cronos stock during this period contact Sallah Astarita & Cox, to learn about your rights and ways you might recover your losses. 

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Sallah Astarita & Cox, LLC is a national securities law firm whose partners are former SEC Staff Attorneys and Broker-Dealer attorneys, representing investors and financial professionals nationwide. Call 212-509-6544 to speak to an experienced securities attorney.

Teacher Pensions at Risk? SEC Launches Investigation

Earlier this year, Jay Clayton, the Chairman of the SEC, expressed concern about the prevalence of high-cost investment products in schoolteachers’ retirement accounts. Now the SEC has sent "letters" to companies that administer retirement plans for teachers and other government workers, according to the Wall Street Journal. The WSJ is not clear what it is referring to as a "letter" but clearly the SEC is opening a probe of practices in a market that consumer advocates contend is subject to abuse.

The SEC does not represent individual investors, and the best way to recover losses is to retain private counsel, who typically represent investors on a contingency basis, where no fees are owed unless there is a recovery.

Either way, as an investor or a fund administrator, you should consult with experienced securities counsel. If you wish to do so, you can call Sallah Astarita & Cox, LLC at 212-509-6544

SEC Launches Investigation of Practices in Retirement Plans for Teachers, Government Employees