Key Takeaways from Recent SEC Statement on DeFi Risks, Regulations, and Opportunities
November 15, 2021 - Commissioner C. Crenshaw shared the agency's perspective in a recent article published in the International Journal of Blockchain Law, Vol. 1, Nov. 2021.
Our review of the article yields the following key takeaways:
SEC recognizes that DeFi offerings share similar characteristics with traditional financial marketplace, especially those within SEC's jurisdiction.
Recognize that DeFi is about investing performed with increased efficiencies in transaction speed, cost, and customization enabled through smart contracts.
Concern that there has not been broad adoption of regulatory frameworks that deliver important protections in other markets, specifically around risk and fraud management, self-dealing, cartel-like activity such as those facilitated by whales, and information asymmetries to ensure that DeFi operates fairly, and offers all investors a level playing field, so that they can make informed decisions whether to invest and at what price.
While multiple federal authorities, including the SEC, likely have jurisdiction over aspects of DeFi, including the Department of Justice, the Financial Criminal Enforcement Network, the Internal Revenue Service, and the Commodity Futures Trading Commission, no DeFi participants have registered with SEC. The SEC continues to encourage open dialogue with DeFi developers, before proceeding to market, to understand how the project may fit within SEC existing framework.
Outline two fundamental hurdles including 1) a lack of transparency for retail investors on who support a particular DeFi project, and the complexity of the project's smart contracts to be adequately understood by retail investors; and 2) Since the true identity of DeFi markets participants is not known, DeFi markets are vulnerable to difficult to detect manipulation. It is difficult to know if asset prices and trading volumes reflect organic interest or are the products of manipulative activities.
The SEC recognizes that DeFi is both an opportunity and a challenge, and many projects have indicated that they want to operate within DeFi in a compliant way. The SEC remains open and continues to have helpful discussions with DeFi experts.