SEC Warns Advisers to Apply “Higher Scrutiny” When Recommending Crypto Assets
The US Securities and Exchange Commission (SEC) has advised financial professionals to use “higher scrutiny” when recommending complex or risky products such as cryptoassets.
In a new bulletin, the SEC recommended that financial professionals thoroughly understand the risks associated with certain investment products, including cryptocurrencies, or “crypto asset securities” in the agency’s parlance, before offering related products and services.
The SEC noted that some products have additional complexity or risk characteristics that may make it challenging for firms and financial professionals to gain a comprehensive understanding of their terms, features and risks.
As a result, the agency claims, it may become difficult to establish a reasonable basis for believing that these products “are in the best interests of retail investors.”
“Examples of products where increased scrutiny may be required include, but are not limited to, inverse or leveraged exchange-traded products, investments traded on margin, derivatives, crypto-asset securities, penny stocks, private placements, asset-backed securities, volatility-linked exchange-traded products and reverse-convertible notes,” the SEC said.
SEC’s recommendations
What this means in practice is that, apart from having the actual understanding of the investment products they offer, the SEC wants firms and financial professionals to obtain information about the retail investor in order to conclude that a complex or risky product is indeed suitable for them.
Depending on the product, this information may include whether the retail investor has a specific trading objective consistent with the product’s description, and/or has the capacity to tolerate increased risk of financial loss.
But having such an objective or capability does not automatically mean that the product is in the best interest of the retail investor, the SEC added.
Per the agency, firms and their financial professionals must still have “a reasonable basis” to believe that, based on all relevant facts and circumstances, the investment is in the private investor’s best interest.
The publication of the staff bulletin comes shortly after the SEC filed charges against crypto exchange Bittrex, accusing the Seattle-based company of failing to comply with securities laws.
According to the complaint, Bittrex failed to register as a broker-dealer, exchange and clearing agency, and took in at least $1.3 billion in illegal revenue between 2017 and 2022.
Since Gary Gensler assumed the role of agency head two years ago, the SEC has filed about 1,500 enforcement actions, which, according to Gensler, also involved actions against “widespread non-compliance in the crypto markets.”
The SEC has faced criticism from the crypto industry for its approach to digital asset regulation. Kraken CEO Jesse Powell – whose exchange was forced to wind down its betting service as part of a settlement with the regulator –states that its so-called regulation by enforcement approach “does not help the industry or regulators.”
Coin base Chief legal officer Paul Grewal has also taken aim at the SEC, arguing that “The public should not need to analyze complaints in federal court to understand what a regulator expects,” during the company’s latest earnings call with shareholders. While CEO Brian Armstrong states that Coinbase’s “interests are aligned” with the SEC, the exchange has ramped up its plans to expand outside the US, recently receiving a license from the Bermuda Monetary Authority.
