Are exchange-traded securities the same as crypto assets? The short answer is no. The long answer? It’s tricky. Keep reading.
An exchange traded security has two parts. Exchange traded and security. The US law defines a security as any financial instrument that represents an ownership interest in a company, a debt obligation, or certain other rights. Best examples are the traditional investment vehicles such as stocks, bonds, contracts, futures, options, mutual funds, ETFs, etc. Exchange traded securities are those that can be bought and sold without time restrictions inside market hours.
In the above list of examples, contracts, and mutual funds do not qualify as exchange traded securities. This is because these securities can not be traded at any time of market hours, but only during certain predetermined closing times. The others like stocks, bonds, options, etc, are all exchange-traded securities.
Let’s move on to the crypto assets. A crypto asset is any form of value or right that is stored and transferred in electronic form using cryptography and a distributed ledger such as blockchain. Examples are cryptocurrencies like Bitcoin and utility tokens like Brave Browser’s Basis Attention Token (BAT). Security tokens like tokenized representations of stocks and bonds, and non-fungible tokens like the CryptoPunks collection.
While the European Union, the Middle East, and Africa have started crafting proper legal frameworks for the crypto industry, the United States, instead, follows a regulatory crackdown path. The Securities and Exchange Commission (SEC) uses the Howey Test to determine whether an instrument is a security or not. The test needs to satisfy four criteria to be qualified as a security. These are:
- There is an investment of money.
- It is made into a common enterprise.
- It is done with the intent of profit.
- That profit results from the actions of a third party or promoter.
According to the rules, the SEC classifies several crypto assets including Cardano, Solana, Polygon, Cosmos, Binance Coin, etc. as securities. However, the exchanges or developers of these assets are not in full agreement with the claims of the SEC. Notably, Bitcoin and Ethereum, the giants among cryptocurrencies are characterized as commodities, instead of securities. On the flip side, the legal status of crypto assets like Ripple’s XRP is in the air, at least for the time being.
In June 2023, the SEC filed a lawsuit against Coinbase. It alleged that the largest crypto exchange in the world allowed trading of at least 13 crypto tokens that were eligible to be classified as securities, but didn’t. In the same month, Binance and its US-based affiliate BAM Trading Services Inc., have also found themselves in the same spot. Going back, Ripple Labs faced a lawsuit filed by the SEC in 2020, alleged to have conducted unregistered securities offerings through the sale of its XRP tokens. It is important to note that these legal battles have paved the way for clarifying the SEC’s jurisdiction over the crypto industry.
But that’s only about the United States. The EU Markets in Crypto-Assets (MiCA) Regulation, which aims to establish unified crypto-asset regulations across the European Union, is expected to come into effect in 2024. Coming to the Middle East, crypto assets are outright banned in Egypt, while the Dubai Virtual Assets Regulatory Authority (VARA), established in 2023, provides regulatory oversight to the crypto industry in Dubai. In Africa, the regulatory framework is still in its nascent stage. For example, in South Africa, the Financial Action Task Force (FATF) Travel Rule is being implemented requiring KYC/AML compliance for large crypto-asset transactions.
Now, coming back to our original question, we can say that some crypto assets are classified as securities. Since most of them are also traded on crypto exchanges, they are also exchange-traded securities. Examples are Solana and Binance Coin. Not all exchange-traded securities are crypto assets and the two terms should not be used interchangeably.
In a related recent development, the SEC has recently approved 11 new spot Bitcoin ETFs. But that is a discussion for another day.