CFTC Commissioner Says Latest Crypto Enforcement Raises Jurisdictional Issue
Commentary by Steven Lofchie
CFTC Commissioner Caroline D. Pham questioned the underlying rationale for the filing of a CFTC complaint targeting an alleged unregistered crypto asset derivatives trading platform. (See related coverage.)
In a public statement, Commissioner Pham argued that the Complaint "appears to assert that fund shares held by investors—namely, securities—can themselves constitute leveraged trading pursuant to section 2(c)(2)(D) of the Commodity Exchange Act." She asserted that such an interpretation "fails to distinguish between an investment in a fund, which would typically be a security under the jurisdiction of the SEC, and the trading activities of a fund, alleged here to be under the CFTC’s jurisdiction."
Commissioner Pham questioned the CFTC’s "aggressive enforcement" approach, which, she said, "may infringe upon the SEC’s authority and undermine decades of robust investor protection laws by conflating a financial instrument with a financial activity, disrupting the foundations of securities markets." Commissioner Pham warned that this approach could undermine longstanding investor protection laws by confusing financial instruments with financial activities.
Commentary
Here are excerpts from pages 16-17 of the enforcement action (in reverse order for clarity).
[Defendant] KuCoin describes its leveraged tokens as “unit share[s] of a leveraged fund.” KuCoin is the manager of these “leveraged funds” and the creator of the leveraged tokens. In that capacity, KuCoin finances and oversees the leverage of the fund and charges management fees that vary according to market conditions. Customers may buy and sell KuCoin’s leveraged tokens in either primary or secondary market transactions.
KuCoin’s BTC3L token seeks to mimic a 3x leveraged long position in BTC, which means that if the price of BTC increases or decreases by 1%, the net value of BTC3L will increase or decrease by 3%. Conversely, BTC3S is a token that seeks to mimic a 3x leverage short position in BTC, which means that if the price of BTC increases or decrease by 1%, the net value of BTC3S will decrease or increase by 3%.
From an economic perspective, there really is not that much difference between a swap with 3x leverage and investment in a fund with 3x leverage. Nor is the legal difference that significant: Ku-Coin's defense to the leveraged tokens being illegal swaps would be that they were shares sold in an illegal unregistered securities offering.
Commissioner Pham should be commended for thinking through jurisdictional issues, and for suggesting that her agency may be stretching its jurisdiction in this matter. That said, the product may not be able to withstand scrutiny under either jurisdiction.
The larger problem is that almost all regulatory efforts regarding crypto assets have been about defining jurisdiction; none have been about considering whether there might be a workable regulatory scheme.
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