March 17, 2021 - On March 16th, the LSTA hosted a webinar, “Blockchain and Digital Assets Trends”, presented by Tim Spangler, partner of Dechert. Since the 2017 ICO boom, a lot has changed in digital assets and blockchain, with elegant technological developments gaining speed rapidly.
Despite the pandemic of the past 12 months, developments in Fintech have continued to progress at a stunning pace. After hitting a low last spring amidst the Covid-19 general market plunge, the price of Bitcoin, itself, has surged and the digital asset has gained even more popularity. For example, Grayscale, the largest digital asset manager which is solely and passively invested in Bitcoin Cash using traditional investment rails, saw its assets under management surge, and they now exceed 12.6 billion. In addition, public companies such as MicroStrategy and Square have announced the allocation of corporate treasuries to Bitcoin.
The bitcoin miner’s original consensus mechanism, “proof of work” may migrate to the more sustainable and scalable “proof of stake”. With the “proof of stake” concept, there must be a cost to be on the network; this cost decreases the ability to override or ransom the network. Someone can stake by putting tokens of value at risk, and if certain rules are breached or there is fraud, then the stake is forfeited.
The US regulators have also given much needed clarity around digital assets in the past year as well, by explaining how banks should consider cryptocurrencies, digital assets, and trading those assets. This regulatory clarity has opened the way for many parties to enter this space and build the operational infrastructure needed. Although the SEC has not said everything, they have said enough and many in the financial industry have built out a prototype of their blockchain based strategy. With many of the uncertainties relating to legal and compliance issues having been answered, there is now a much clearer roadmap for those seeking to put assets onto the chain. For example, custody solutions are now very well-established, with large institutions like Fidelity Digital Assets providing custody for select digital assets.
When seeking to categorize these software platforms for purposes of preexisting financial regulatory regimes, those working in financial services must first answer certain threshold questions: is the asset a security or a commodity or perhaps neither? The current breakdown in the US includes virtual currencies (commodity), security tokens (security), and utility tokens. First, one must determine if the asset is a security, and if it’s not clear, conduct the Howey test legal analysis. If the asset is a security, one must then ask if it is offered in compliance with the relevant securities laws. If the asset is not a security, determine if it has anonymity-enhancing features. If it does, then parties should consult with their compliance teams. Importantly, Bitcoin is not anonymous but is pseudonymous – a person has a mathematically derived public key, which serves to identify that person on the blockchain.
Many financial instruments are moving onto the chain including loans, bonds, privately held equities, and derivatives. Members were reminded that the look of this technology now is not how it will ultimately look and were cautioned that they should not be unduly limited by the technology today. Rather, we should have the courage to form a vision of what it will become. Click here for the slides and here for the replay.
