Senate Banking Committee Considers Testimony on Investor Protection and Cryptocurrency Fraud Risk

In a full committee hearing, the Senate Banking Committee examined the risks posed to investors in connection with the "increasing presence of fraud" in the cryptocurrency and general securities markets. The Committee heard testimony on potential risk of financial fraud in the cryptocurrency market from NASAA President Melanie Senter Lubin and FINRA Investor Education Foundation President Gerri Walsh.

Ms. Lubin stated that one of the top threats to retail investors is "fraudulent investments tied to digital assets," but said that retail investors also face current risk from:

• fraudulent offerings in connection with promissory notes;
• "scams offered through social media" and other online mechanisms; and
• schemes related to "self-directed individual retirement accounts."

Ms. Lubin emphasized NASAA's view that more work needs to be done to promote trust in regulated capital markets. She said this can be achieved through "improvements in how we prevent and detect investor harm" and opposing legislation that would "weaken investor protection and thereby fuel additional distrust in securities regulators or securities regulation."

Ms. Walsh's testimony touted FINRA's regulatory activities aimed at mitigating and combatting financial fraud and promoting investor protection. Among other things, she highlighted FINRA's focus on identifying and designating "high-risk" broker-dealers (i.e., those firms that may pose the greatest risk of harm to investors). Ms. Walsh noted that FINRA has witnessed certain trends in the broker-dealer space connected to fraud and higher-risk activity that require additional scrutiny, including (i) imposter websites, (ii) crypto-related initiatives, and (iii) "problematic products" (e.g., products that raise not only fraud concerns but concerns about potential Regulation Best Interest violations).

Committee Chair Sherrod Brown (D-OH) said that significant failures in the cryptocurrency industry have become more frequent, exposing the interconnectedness and high risk among crypto firms. Senator Brown expressed concern that recent collapses have "revealed how quickly supposedly 'stable' investments could fall apart" and urged the committee to "make sure our regulators enforce the law and protect the workers and families that keep our economy and markets running."

Ranking Member Pat Toomey (R-PA) criticized Democratic members for not requiring that the SEC testify, arguing that the SEC should explain what it was doing while several cryptocurrency lending firms collapsed. Senator Toomey said that the SEC's overall refusal to clarify when digital assets and services are securities, as well as its "regulation-by-enforcement" approach, has (i) stifled innovation, (ii) created a "legal gray area" that allows for a higher (and potentially more dangerous) risk tolerance, and (iii) made it difficult for crypto firms to follow rules. Senator Toomey argued that a more thoughtful approach to regulating digital assets should be taken, and should start with "sensible regulation" of stablecoins.