The Breakdown - Coinbase's Partial Victory In SEC Lawsuit

Episode Date: April 2, 2024

Coinbase didn't win their request to dismiss the SEC's lawsuit outright, but made progress with the judge agreeing that their self-custodial wallet wasn't acting as a brokerage. Today's Show Brought To You By Ledger - 5% to Bitcoin Developers When You Buy https://shop.ledger.com/pages/bitcoin-hardware-wallet Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Tuesday, April 2nd, and today we are catching up on all the big news from crypto over the past week. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link at the show notes or go to bit.L.Y slash break down pod. All right, friends, I am finally back from traveling, although as you can probably hear in my voice, not necessarily all the better for it, but we are going to power through and do some

catch-up today and get back to our normal show starting tomorrow. So we're going to go through some of the biggest news from the past week or so, and we'll take it from there. Let's start off with a decision in the Coinbase lawsuit last week. Last Wednesday, a federal judge denied most of Coinbase's motion to dismiss, ruling that the SEC's case can proceed to trial. The judge found that the SEC had presented a plausible case that Coinbase is operating as an unregistered securities broker, Exchange, and Clearing House. In addition, the argument that staking services are an unregistered securities offering was strong enough to move forward. Coinbase did achieve a minor win by removing the claim that its wallet service acted as an unregistered brokerage. The judge found that

although some of the tokens available through the wallet may be securities, the wallet itself does not act as a brokerage. An SEC spokesperson said, we're pleased that yet another court has confirmed that, while the term crypto may be relatively new, the framework that courts have used to identify securities for nearly 80 years still applies. It's the economic realities of a transaction, not the labels, that determine whether a particular offering constitutes security. Regarding whether crypto tokens are securities, the judge appeared to accept the SEC's new argument that ecosystem access satisfies the legal standard, writing, when a customer purchases a token on Coinbase's platform, she is not just purchasing a token, which in and of itself is valueless. Rather, she is buying into the token's digital ecosystem,

the growth of which is necessarily tied to the value of the token. For context, this result is broadly what legal analysts had expected. Although Coinbase's motion was viewed as quite strong, the standard for throwing out a case at this stage is extraordinarily high. This means that lawsuits are only thrown out if they are manifestly incorrect on the law or fall short in presenting an arguable case. The lawsuit will now move forward to the discovery stage, where Coinbase will have the opportunity to examine a wide range of SEC documents

to build their defense. This process could take more than a year as it did in the Ripple case. Following that, we could see additional motions to decide the case early or it could proceed to trial. Coinbase chief legal officer Paul Grewell tweeted, Today, the court decided that our SEC case will move forward on most of the claims, but dismiss the claims against Coinbase wallet. We were prepared for this, and we look forward to uncovering more about the SEC's internal views and discussions on crypto regulation.

Early motions like ours against a government agency are almost always denied, but clarity is the ultimate goal, and today's decision continues us on that path. While we continue this process and any necessary appeals, we encourage Congress to build on the momentum we saw last year to advance comprehensive digital assets legislation in the U.S. This is critical if we want innovation to remain in the U.S. Looking ahead, we remain confident in our legal arguments, we look forward to proving we are right, we are eager for the opportunity to take discovery from the SEC for the first time, and we appreciate the court's continued consideration of our case.

Brian Armstrong from Coinbase wrote, great progress on the SEC case and a huge win for self-custodial wallets. This ensures the on-chain ecosystem will continue to innovate and create economic freedom around the world. We'll continue fighting for your right to use crypto and to get clarity around the rules until the job is done. Mike Selig a partner at Wilkie far wrote, significant setback for SEC with Judge Fahlia granting Coinbase's motion to dismiss SEC's claim that Coinbase acted as a broker by offering non-custodial digital wallet software. SEC aimed to discourage builders from developing peer-to-peer software. Didn't work. Finally, Jordan Teague writes,

Congrats to the SEC for earning itself 9 to 12 grueling months of discovery with one of the largest most fired up companies in crypto as its sparring partner. Staying on similar themes, but moving to our next topic, on Tuesday, the Justice Department filed criminal charges against Ku-coin for violations of the Bank Secrecy Act. Two Ku-coin founders have also been charged. The DOJ alleges that Ku-coin did not maintain effective anti-money laundering procedures and allowed U.S. citizens to access the platform. They claim that Ku-coin, quote, actively prevented U.S. citizens from identifying themselves on the platform. The complaint alleges that $4 billion in suspicious and criminal funds were transmitted on the exchange,

and this figure appears to include the total of unidentified flows, so it's probably not correct to assume this is all elicit. Ku Kukoin suffered $1.2 billion worth of outflows in the 24 hours following the lawsuit being filed, but outflows have since subsided. The case is essentially the same set of allegations leveled against finance late last year. Now, Ku Koyne's conduct was slightly more egregious with the exchange failing to implement any form of KYC until July last year when a federal investigation was launched. Even then, KYC was only for new customers and no effort seemed to have been made to purge existing U.S. clients. For anyone who has been in the industry for a while, these charges came as no surprise. The more surprising aspect of the case came from a parallel

a lawsuit filed by the CFTC. The regulator used the opportunity to stake out its jurisdiction, claiming that Bitcoin, Ethereum, and light coin are commodities. This isn't the first time the CFTC has made this claim, but it still represents an escalation in the battle for crypto jurisdiction. Jay Trevinsky, the chief legal officer at Variant Fund, tweeted, usually the SEC and CFTC pretend they aren't in a turf for over crypto. Today, the CFTC is openly attacking the SEC's supposed investigation of ETH. This may seem minor, but it's actually pretty savage interagency drama by DC standards. Hello, breakers. Today's episode is sponsored by Ledger. As another cycle ramps up, it's another chance to think about your Bitcoin custody best practices, and of course, to help all the new folks do the same.

Ledger is the global platform for securing Bitcoin and other crypto. Ledger combines both hardware wallets and the Ledger Live app to offer the best way to buy, sell, swap, and stake without sacrificing on security or self-custody. ledger features cutting-edge technology in the form of a certified secure chip and a proprietary operating system, but also brings ease of use. This makes Ledger a safe and secure way to manage your digital assets without all the stress. Check out the link to the Bitcoin Ledger Nano in the show notes. 5% of all sales of the Bitcoin Ledger Nano go to support Bitcoin development. Thanks once again to Ledger for supporting the breakdown. Our next story is kind of a bummer. Custodia Bank has lost their lawsuit against the Federal Reserve, with a judge finding that the central bank does not have to grant Custodia access to a master account.

Custodia sued the Fed in 2022 for delaying their decision on an application for a master account. These accounts are provided to banks and financial institutions, allowing direct access to Fed payments and settlement infrastructure. Custodia had argued that they met the requirements to hold an account but were being discriminated against, likely due to their full reserve structure and ties to the crypto industry. Essentially, they claim that the Fed is no discretion to refuse access on subjective criteria. The judge found that, quote, If custodia's position was correct, it would effectively mean that every depository institution

chartered under the laws of a state, regardless of how soundly crafted, is entitled to a master account allowing it direct access to the federal financial system. A spokesperson for custodia said, challenge in the Fed's strong-arm tactics has always been an uphill battle, but Custodia bank remains committed to our vision of creating a safe tech-enabled bank. We are reviewing the court's decision and all of our options, including appeal. At Meta Lawman James Murphy wrote, A sad day for financial freedom and innovation in the U.S. A judge has ruled in favor of the Fed and against Custodia Bank. No way to sugarcoat it.

This is a win for the forces behind Operation Choke Point 2.0. Caitlin Long is a fighter and I expect we might hear that she will appeal this ruling, but it has been a very long and costly fight against Calliath. Moving over to the ETFs for a moment. Applications for Spot Ethereum ETFs continue to be a major focus as the May deadline closes in. On Wednesday, BlackRock CEO Larry Fink said he thinks the products could still be listed even if Ethereum is deemed to be a security. This concern that the SEC could declare Ethereum to be an unregistered security was reignited in the previous week. It was revealed that the regulator

had subpoenaed multiple crypto firms about their dealings with the Ethereum Foundation. Think didn't go into any level of detail, but the point seemed to be that BlackRock would keep pushing for an Ethereum ETF regardless of the SEC's outlook. On Thursday, Bitwise filed for their own spot Ethereum ETF, joining the race alongside eight other asset managers. The application itself was relatively unremarkable. It lacked the language around staking, which has been added to several other applications over recent months. What stood out was an extensive correlation study attached to the filing. Bitwise used the SEC's own methodology to demonstrate that unregulated ETH futures markets are strongly correlated with the underlying spot markets. A lack of correlation is viewed as one of the

reasons the SEC could use to deny the products. However, we now have multiple studies which make this argument difficult to put forward in good faith. Jake Trevinsky again tweeted, fantastic work from Bitwise here showing an extraordinarily tight correlation between ETH spot and futures using the SEC's methodology. This makes it hard to imagine the SEC performance. availing in court if it denies a spot EFETF based on correlation. Feeling less perished today. Finally, on Friday, Consensus submitted a comment letter arguing the potential concerns about the products are unfounded. Their letter claimed that concerns about fraud and Ethereum markets are baseless. Earlier this month, the SEC had solicited public comments. They focused on whether the

proof-of-stake consensus model and a concentration of control and influence made Ethereum's ecosystem susceptible to fraud and manipulation. Consensus claimed that Ethereum's proof of stake has a security profile, which is just as resistant to tampering as Bitcoin's proof-of-work model. Despite renewed activity from crypto and trad-fi firms, though, most still view an approval in May to be a long shot. Beyond anything else, the deafening silence from the SEC is the factor that many are pointing to. By this stage in the run-up to the Bitcoin ETF launch, the regulator was holding numerous meetings and demanding changes to filings. Last week was also a good week for fund inflows. Last week, Global Crypto Fund saw 862 million in net inflows almost entirely reversing record

outflows from the previous week. The story is still, of course, entirely about the U.S. based Bitcoin ETFs, with other funds only representing a rounding error. BlackRock and Fidelity's funds each registered 600 million worth of inflows for the week. Grayscale's outflows remained high, but slowed down towards the end of the week. In total, 965 million worth of GBTC was redeemed, around 2.7% of assets under management. The surprise outperformer was ARC slash 21 shares, which gathered 300 million in net inflows. This was 10 times the previous week's total. Each of the four trading days saw net inflows across the 10 U.S.-based Bitcoin ETFs, a welcome reprieve from the consistent outflows of the previous week. Another small but positive development? Google has added functionality to search crypto wallet

addresses across multiple blockchains. Search results for a wallet address will now return the wallet balance in the time of the last transaction. This feature was already available for wallets tied to ENS domains, but has now been extended to cover Bitcoin, avalanche, and several Ethereum layer two wallets. While many were concerned that this feature undermined financial privacy, others noted that if financial privacy is something you care about, public blockchains may not be the right vehicle. Bankless co-founder Ryan Schott Adams tweeted both sides of this writing, Google is going to fall in love with crypto. Why? They already know everything you do online. With crypto, they know everything you own. All open, queryable, just like Web 1. Imagine the ads they

will create based on your net worth. We need on-chain privacy. Finally, one that I'm sure you don't need me to report on, but we will include for completeness, Sam Bankman-Fried has been sentenced to 25 years in federal prison. The judge found that Sam had perjured himself on the stand at least three times during the trial, stating, when he wasn't outright lying, he was often evasive, hair-splitting, dodging questions, and trying to get the prosecutor to reword questions in ways that he could answer in ways he thought less harmful than a truthful answer to the question that was posed would have been. I've been doing this job for close to 30 years. I've never seen a performance quite like that. The judge also found that Sam had engaged in witness tampering. Statements to mitigate

the sentence fell flat, with Sam's lawyers very, very weakly claiming, he's an awkward math nerd, he's into veganism, he has an off-the-chart intellect, he's a beautiful puzzle, he can parse words better than a Talmudic scholar. He was a billionaire unconcerned about material possessions. Just as ineffectual was Sam speaking up on his own accord, largely relitigating the FTC's collapse in what he viewed as the mishandling of the bankruptcy estate. Questionably, he chose not to focus on the harmed customers, instead apologizing to his FTC's colleagues. Sam stuck by his story that there are enough assets to repay creditors in full, arguing that this reduced the damage to victims. One thing that is very important to note is that this is based on repaying customers on the

dollarized value of claims from the date of bankruptcy, when cryptovaluations were on the floor. The judge rightly got this and said that this minimization of the damage was misleading at best. Prosecutors, on the other hand, noted that Sam had failed to express sufficient remorse, pointing out, quote, today he spoke about mismanagement, a painful few weeks, no acceptance of responsibility. He did not swear off doing it again. He said there is an opportunity to relaunch FDX or an equivalent. That, I submit, tells the court exactly what would happen. And indeed, when handing down the sentence, the judge emphasized the risk that Sam would reoffend, stating, it doesn't take much imagination to see the outlines that the campaign Bankman-Fried could use to

rehabilitate his reputation. The risk that this man will be in the position to do something very bad in the future, it's not a trivial risk at all. Now, there is no parole in the federal system, only a 15% discount for good behavior, so Sam will be locked up well into the 2040s. Sam has also been ordered to pay $11 billion in restitution to victims. That's obviously a massive sum that seems impossible to repay personally, however it could be used to argue for damages in the bankruptcy case. Overall, the judge depicted this as a harsh but necessary sentence stating, the end of the day, the criminal justice system in this country can enjoy the support of the public only if, on the whole, people think it works fairly. That's what we depend on. If that's not happening,

we're back to trial by combat. So punishment must fit the seriousness of the crime. And this was a serious crime. Sam's legal team has flagged that they intend to appeal the convictions, but for now, the case is over and a good riddance. I can tell you, I for one, am very excited, never have to speak the letters, S, B, or F, in any combination on this show again. One more big thank you to the sponsor for today's show, check out the Ledger Orange Bitcoin Nano. 5% of sales will go to Bitcoin Development. Until next time, be safe and take care of each other. Peace.