SEC Commissioner Peirce Calls for Thoughtful Application of U.S. Securities Laws to Digital Assets
02/15/2019In a February 8, 2019 speech, Securities and Exchange Commission (SEC) Commissioner Hester Peirce suggested that the regulators should “tread carefully” when applying the Howey test to token offerings. Even though the Howey test generally makes sense in this context, she said, “token offerings go not always map perfectly into traditional securities offerings.” She urged the regulators to apply U.S. securities laws to digital assets thoughtfully, balancing the objectives of investor protection and market efficiency with fostering innovation in the financial industry.
Commissioner Peirce, who has been a vocal proponent of innovation and at times critical of the SEC’s approach to digital asset regulation, argued that regulators must “tread carefully” to avoid misapplication or overextension of existing U.S. securities laws with respect to digital assets and that they should take steps to provide much-needed clarity to market participants.
Referencing SEC Director of Corporation Finance William Hinman’s argument that sufficient decentralization of a digital asset network may indicate that U.S. securities laws should not apply, Commissioner Peirce reasoned that “the decentralized nature of token offerings can mean that the capital raised through token sales may not be truly owned or controlled by a company.” In other words, “functions traditionally completed by people designated as ‘issuers’ or ‘promoters’ under securities laws—which, importantly, bestow those roles with certain responsibilities and potential liabilities—may be performed by a number of unaffiliated people, or by no one at all.”
Additional concerns stem from perceived expansion of the Howey test, which provides that “an investment contract for purposes of the Securities Act means a contract, transaction, or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party.” While Commissioner Pierce believes that this analysis seems generally to make sense in the digital asset space, she also cautions that it may not be so readily applicable in all instances. In particular, she said, “given the role that individuals play in some token environments, either through mining, providing development services, or other tasks, the SEC must take care not to cast the Howey net so wide that it swallows the ‘efforts of others’ prong entirely.” Building on this notion, she highlights a potential disconnect between the regulatory framework and digital asset innovation—apparently legitimate digital asset projects that do not proceed because the securities laws simply were not drafted with those digital assets in mind.
To bridge this gulf, Commissioner Pierce calls for a more direct approach, potentially with the assistance of Congress, to developing laws concerning the offering and sale of digital assets. Reasoning that regulation through enforcement or on the basis of perceived merits could result in crippling ambiguity for market participants, she is interested in further consideration of digital asset-specific approaches to regulation that would necessarily involve careful consideration by regulators and the people who are subject to the costs and benefits of actions by those regulators. Coming on the heels of recent pushback on similar grounds by market participants, we look forward to seeing if Commissioner Pierce’s calls for supplemental guidance are heeded. Depending on the nature of such guidance, it could enhance clarity for current and future digital asset projects, allowing society to realize the potential benefits of these entrepreneurs’ “imaginative approaches to solving problems and willingness to go out on a limb with a new idea.”