The Breakdown - Legal Scorecard: Coinbase Up Good; Terraform Down Bad

Episode Date: April 8, 2024

NLW looks at a set of recent court cases with very different results for the defendants. 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 Monday, April 8th. And today we are talking about some interesting recent legal battles. Before we get into that, 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 in the show notes or get a bit.ly slash breakdown pod.

All right, friends, like I said, a couple interesting legal cases today, and the first that we're looking at is that Coinbase has won a significant victory in the Court of Appeals, with a judge ruling that secondary token sales on their platform are not subject to securities law. This news was picked up on crypto-twitter in a very misleading way, so it's worth spending some time breaking down exactly what this does and doesn't mean. First and most importantly, this isn't Coinbase's ongoing lawsuit against the SEC. That is a completely separate class action lawsuit brought by customers in 2023. The decision could be used as precedent in the SEC case, but it would like to be the same

carry fairly minimal weight. Secondly, the judge didn't exactly decide that tokens can never be subject to securities law. The ruling was focused only on the facts and circumstances of the case. The finding was only that the plaintiffs had failed to prove that there were transaction-specific investment contracts in their pleadings. The major upside for Coinbase is that the judge agreed with their argument as to why secondary token sales are not securities transactions. Coinbase had argued that there is no investment contract embodied in most crypto tokens. They claim this is especially true in the resale market, where purchasers aren't making a direct investment in a project. The class action lawsuit will continue on other grounds, but violations of

securities law are now off the table in this case. Coinbase chief legal officer Paul Grewell welcomed the outcome tweeting, we appreciate the Second Circuit confirming today what is clear under the federal securities law. There is no private liability for the secondary trading of digital assets on exchanges like Coinbase. Why? Because contracts matter. Crypto lawyer Gabriel Shapiro wrote a long thread discussing the impact of the ruling. His main point was that celebrations were a little premature after Coinbase suffered a major loss in the SEC case in the previous week. He noted in the case that, quote, the court held it as legally possible that token transactions on Coinbase can be securities transactions, even if the tokens are not contracts, rejecting Coinbase's rehash of the

already rejected essential elements test from the ripple case. Coinbase must now go token by token and defend whether transactions in that token on Coinbase are securities transactions or part of a security scheme under the Howey test, after the judge already gave a lengthy discourse about how, if the allegations are true, then Solana is deeply implicated in an investment contract scheme, and Solana sales on Coinbase could be part of that scheme. He added, that Coinbase's legal strategy seems to be a, quote, Hail Mary to get to the Supreme Court and try to win on the essential elements type of reasoning that has been rejected by district courts,

hoping that because SCOTUS is currently dominated by originalists, it can win there despite the argument losing in all lower courts. Shapiro concluded that this strategy has a chance, but that legal analysis from both the SEC and Coinbase is, quote, going to be highly distorted and biased. Summing it up, this is an important ruling and will be used in other cases. But it may not be as important as some believed over the weekend. The lawsuit against the SEC is really the one which has the wide-ranging implications for the industry,

and this ruling simply doesn't move the needle in a big way for that case. 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. once again to Ledger for supporting the breakdown. Speaking of cases in the SEC, Terraform Labs and its co-founder Doe Kwan have lost their case against the SEC

regarding the collapse of the Luna ecosystem. After just two hours of deliberation, a jury found that the defendants were liable for securities fraud. The jury found that Terraform had been reckless in their conduct, while Kwan had intentionally committed fraud. This is only the civil case so the penalties will be fines,

disgorgement of profits, and prohibition from holding licenses in the financial services industry. Kwan was not present during this case and is still expected to face criminal charges over the lunar collapse once his extradition is finally decided. Kriwal, the SEC Division of Enforcement Director, said in a statement, We are pleased with the day's jury verdict holding Terraform Labs and Do Kwan liable for a massive crypto fraud.

The defendants caused devastating losses for investors and wiped out tens of billions of market value nearly overnight. For all of crypto's promises, the lack of registration and compliance have very real consequences for real people. The major revelation during this lawsuit was that jump trading had made a secret deal with Terraform Labs to protect the U.S. stablecoin peg. During a depegging event in May of 2021, well before the final collapse, Jump stepped in to buy millions of dollars worth of UST in order to restore the peg.

Evidence revealed that Jump made around $1 billion in profits from this deal. Prosecutors alleged that this deal was kept quiet to preserve the illusion that the algorithmic stablecoin mechanism was resistant to shocks. At the time, Kwan used the event to claim that UST was automatically self-healing, his words. Now, to be clear, Jump has not been accused of any wrongdoing in this case. The allegation was simply that Luna misrepresented the strength of the UST peg mechanism. The premise of the case was that the Luna ecosystem was built on lies. In addition to exaggerated claims about UST's stability, the lawsuit teased out details on UST's integration in a South Korean payments app. During the height of UST's popularity, a major narrative was that it was being

actively used to settle millions of payments on an app called Chi. This was uncovered to be a complete fabrication, with payments settled using other technology being mirrored on the blockchain to give the impression of usage. In closing statements, lawyers for Terraform downplayed the importance of this fact. They claimed that reasonable investors knew the mechanism was not a, quote, magical machine or a, quote, computer that functioned on its own, but rather a market-based mechanism that relied on large participants like Jump. After the verdict, a spokesperson for Terraform said, we are very disappointed with the verdict, which we do not believe is supported by the evidence. We continue to maintain that the SEC does not have the legal authority to bring this case at all,

and we are carefully weighing our options and next steps. As far as broader implications go, the judge instructed the jury that UST and Luna were both securities as a matter of law. This may or may not be persuasive in other cases, but it's a clear win for the SEC and their campaign to apply securities law to crypto tokens. If you're looking for some type of overarching conclusion or implication from these cases, I think one is just a reminder that one of the biggest problems with the U.S. crypto landscape is that these questions are being determined by court rulings, not comprehensive legislation. The regulation of crypto right now moves forward on a case-by-case basis, and it's just not sustainable. However, right now, the idea that we would get any sort of

comprehensive legislation is a total pipe dream. So these legal cases are basically all we have. With that, let's move to some market stories. New court filings have confirmed that the Genesis GBT sell-off is over. It was suspected that a spike in GBTc redemptions over the past few weeks were caused by Genesis liquidating their holdings. But until now, we had no solid information. It's now confirmed that Genesis sold approximately $2.1 billion worth of GBT, with sales concluding by last Tuesday. The filings also disclosed that Genesis had bought Bitcoin with the proceeds accumulating over 32,000 BTC. These Bitcoin will be distributed to Genesis creditors in-kind once bankruptcy plans are approved. Although Genesis is done selling, GBT-C outflows remained high on Friday,

with almost 200 million redeemed. Each of the previous three days had seen less than 100 million in outflows. Still, this is a massive reduction from recent weeks while Genesis was liquidating, when daily outflows frequently reached over 300 million. There was a range of analysis on whether this would be the end of large GBT outflows, but Blockstream's CEO Adam Back had the clearest take tweeting, Genesis can't sell twice. Moving on, BlackRock has boarded a host of new authorized participants to make markets for their Bitcoin ETF, Ibit. Authorized participants are market makers who have the authority to create and redeem shares in an ETF, in this case by depositing and withdrawing Bitcoin. Citadel, Citadel, Citigroup, Goldman Sachs, and UBS have been added to

BlackRock's list, which already featured J.P. Morgan, Jane Street, and Virtue. It feels like the gang's all here now with basically every market maker of note authorized to deal with Ibit. This should increase liquidity at the margins, but mainly serves to cement the idea that Bitcoin ETFs are just another financial instrument, no different from any other product. Bloomberg senior ETF analyst Eric Belcunis tweeted, Takeaway? Big time firms now want a piece of action and or are now okay being publicly associated with this. Up until now, City, Goldman, UBS, and Citadel were not named in any of these ETF filings. So they are either new or they were ashamed before to be identified but are now

cool. Either way, likely a result of the ETF's mega flows and success. To me, Goldman Sachs is the most surprising addition to this lineup and really demonstrates how strong the incentive was to get involved. You'll remember that just last week, the CIO of Goldman's wealth management division gave an interview to the Wall Street Journal. She used her time to rail against Bitcoin, claiming that she had seen no real demand from clients and that Bitcoin, quote, creates absolutely no value in any shape or form. Seems that other divisions at Goldman saw some value in Bitcoin, at least as a vehicle for profitable market making. Now, to many, the original Bitcoin ETF was just Micro Strategy Stock. Over the last month, Micro Strategy has been trading at a massive premium to its Bitcoin

holdings. At times, it reached as much as 200 percent, and was viewed as the result of a brutal short-squeeze. One research firm, however, now thinks the premium is much more fundamental and maybe even deserved. In a new report, BTIG reiterated their buy rating for MicroStrategy stock and raised their price target from 780 to 1800. They wrote that the premium was justified by Micro Strategy's history of a creative capital raises, implying that the company will continue to increase the amount of Bitcoin represented by each share. Analysts noted that even though the premium is sky high at the moment, quote, investors have demonstrated a willingness to pay for the premium. The other side of the Microstrategy's

story as short sellers continue to pile on, hoping to profit if the premium collapses. The most recent public short came from Carersdale Capital on Thursday, with the stock falling 14% after publication. Carisdale said they are shorting MicroStrategy with an offsetting long Bitcoin position. They noted that Micro Strategy's current price implies Bitcoin priced at $177,000, writing that none of the reasons to be bullish on the stock, quote, justify paying well over double for the same coin. Total short interest in crypto stocks currently sits at $10.7 billion, with Microstrategy and Coinbase making up 84% of the bearish position. So can Bitcoin get to 177,000? Well, a new report from Coinbase research suggested there's plenty

more tailwinds for Bitcoin adoption later this year. The report noted that anticipation for Fed Fed rate cuts have bolstered demand for gold, which could translate into further Bitcoin demand as well. Analysts wrote, in our view, Bitcoin's increased acceptance as a form of digital gold could enable demand from a new subset of investors in this market regime. As a result, we think dips are likely to be more aggressively bought compared to previous cycles, even as volatility persist during price discovery. The report suggested the Bitcoin ETFs could dampen volatility, but also represent a unique factor during this cycle which much broader accessibility writing, in our view, the capital unlocked by the ETFs represents perhaps the most fundamental

shift in market structure between the previous cycle and today. These capital unlocks, coupled with the upcoming Bitcoin halving and other positive catalysts, make us still largely constructive in our view throughout Q2. Earlier report, Coinbase analysts suggested that the halving was already priced in among multi-cycle crypto traders. However, they wrote that the collective belief in a halving-induced rally could still bring about that result. They noted that a halving rally will have to, quote, contend with what is typically a weak time of year for crypto markets and other risk assets. The having is now less than two weeks away, currently expected to occur on April 20th, which would easily be the most amusing outcome. All right, friends, and that is going to do it for

today's breakdown. A little bit shorter than normal, but I had to sneak it in before some very last minute unexpected travel. One more big thank you to my sponsor for today's show. Check out the Ledger Bitcoin Nano. 5% of sales will go to support Bitcoin Development. Until next time, be safe and take care of each other. Peace.