14/07/2023, 22:16 Ripple Is a Security and It Isn’t - Bloomberg

Opinion | Matt Levine

Ripple Is a Security and It Isn’t
Crypto tokens are securities unless you are anonymously dumping them on retail investors.

Gift this article

By Matt Levine
July 14, 2023 at 11:00 AM EDT

Programming note: Money Stuff was supposed to be off today, but is not.

Ripple
Statistically speaking, almost nobody who has ever bought Meta Platforms Inc. stock
bought it from Meta. Between its founding in 2004 and its 2012 initial public
offering, Facebook (as Meta was then called) raised about $2.9 billion by selling
stock to venture capitalists. 1 That IPO raised about $16 billion, though only about
$6.8 billion went to Facebook; the rest went to early investors who sold their own
stock in the IPO. Facebook did another stock offering a year later, raising another
$1.5 billion for the company; it has never sold stock since then. 2 So over the last
two decades, people have invested about $11.2 billion in Meta by buying its stock.

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Kevin McCarthy Appeases the Radicals Again

That is a drop in the ocean compared to the amount of Meta stock that people buy
from each other on the stock exchange. People bought $9.5 billion of Meta stock
yesterday. The day before, they bought about $11.2 billion of Meta stock: as much in
one day as Meta sold in its whole history. Last year about $1.6 trillion of Meta stock
traded; the year before it was only a little less. In the entire history of Meta, on the
order of 0.1% of all the money spent to buy Meta stock went to Meta; in the last nine
years, the percentage is exactly 0%.

It is conventional to say that if you buy a share of Meta stock, which closed
yesterday at $313.41, you are “investing in Meta.” But what does that mean? It does
not mean that you are giving $313 to Meta to use to buy computers or pay workers;
your $313 does not go to Meta at all, but to whoever else had the share of stock
before you did. It does not mean that you get a check for your share of Meta’s
profits: Meta has enormous profits and has never paid a dividend. (Meta does do
stock buybacks, in which it voluntarily buys back shares from time to time, but I
suppose it could just as well buy Apple Inc. shares; nothing about Meta’s propensity
to buy Meta shares seems to make those shares an “investment in” Meta.) It does
not mean that you get a say in the management of Meta: Mark Zuckerberg owns
super-voting shares and can make all the decisions himself. It does mean that if
someone acquires Meta in a merger, you will get your proportionate share of the
merger price, but Meta is an $800 billion company so that seems unlikely. 3

And yet buying a share of Meta stock does seem, practically speaking, to be a way to
bet on Meta’s success. The stock goes up when Meta has good news and down when
it has bad news; the stock does behave like an investment in Meta. And I think that
that is not pure wishful thinking or confusion on the part of the stock market; there
are norms and fiduciary duties and expectations that, for instance, if Meta makes a
ton of cash and has no business need for it, it will spend the cash on buying back
stock, and will not spend it on building giant glass houses for Mark Zuckerberg or
whatever. The company has certain obligations to its shareholders, and though
those obligations are not exactly “share the profits with the shareholders,” that is
sort of how the market interprets them.

Also, Meta did sell stock. Ages ago, and not very much of it compared to the current
trading volume, but it did. And part of the deal, when it sold that stock, was that the
buyers would eventually be able to resell it. 4 The deal — not spelled out, but the
background to all stock offerings like this — was “give us money today, and we’ll give
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you some stock, and if all goes well the stock will go up 100x and you will be able to
resell it on the stock exchange to someone else for billions of dollars.” If you buy
Meta stock today, you might be buying it from someone who bought it from Meta all
those years ago, and who is now cashing out. Probably not. But you are certainly
buying it from someone who bought it from someone who bought it from someone
who bought it from … etc. … someone who bought it from Meta all those years
ago. 5 All the stock came from Meta, originally. You are not giving Meta any
money, today, when you buy Meta stock. But by a sort of financial backward
induction, you are making it possible for someone to have given Meta money years ago.
If you and people like you weren’t around to buy Meta stock in 2023, nobody would
have bought Meta stock in 2008.

In the US, there are securities laws that apply to Meta and other companies that
issue stock to the public. They generally have to register their sales of stock, filing a
registration statement with the US Securities and Exchange Commission with details
about their business and finances. They generally have to file annual and quarterly
financial reports with the SEC so that the public can get updates on their financial
results. If they lie in those reports, they can be sued for securities fraud. You can
avoid many of these requirements (though not the fraud ones) by not issuing stock
to the public, by only selling it to rich people and institutional investors rather than
letting everyone buy your stock: The securities laws are mostly to protect public
retail investors, and there are fewer disclosure requirements for sales to
sophisticated institutional investors.

The simple story for why those rules exist is that in, like, the 1920s, a lot of people
started very shady companies and raised a lot of money by selling stock with bad
and misleading disclosures. And so the securities laws were created to say “no, if
you want to sell stock, you have to do this disclosure, so people can know what they
are buying and sue you if you lie.” 6

That story does not really apply to Meta Platforms in 2023. Meta has not sold stock
in ages. “We are not asking anyone to give us money for our stock,” you could
almost imagine Meta saying, “and it just trades on an exchange totally disconnected
from us. Why should we have to file all of these reports and get sued for all our
misstatements, just because some people still want to trade this stock that we sold a
decade ago? Maybe in 2012 we looked like one of those shady 1920s issuers, and the
SEC needed to keep an eye on us and make us disclose everything about our
finances to raise money, but that doesn’t apply now, not because we were shady
then and aren’t now, but because we were raising money then and aren’t now.”
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But Meta doesn’t say that, in part because it does care about its stock price — in
particular, a lot of its executives’ wealth happens to consist of Meta stock — and in
part because that is absurd. The rule is that if you go public you are a public
company, and if your stock trades publicly you stay a public company until it stops
trading. (For instance, because somebody — a bigger company, a private equity
firm, Elon Musk — buys all the stock.) Facebook files quarterly reports now because,
by a sort of financial backward induction, that makes it possible for it to have raised
money years ago. That’s the deal of being a public company.

Now, in the 1920s, and afterwards, when people were promoting shady companies,
they could get creative about it. They didn’t just sell “stock” in “companies.” There
were all sorts of ways to raise money for all sorts of schemes. And when the
securities laws were written, they didn’t just cover stock. “The term ‘security,’” says
the law, “means any note, stock, treasury stock, security future, security-based
swap, bond, debenture, evidence of indebtedness, certificate of interest or
participation in any profit-sharing agreement, collateral-trust certificate,
preorganization certificate or subscription, transferable share, investment contract,
voting-trust certificate, certificate of deposit for a security, fractional undivided
interest in oil, gas, or other mineral rights, any put, call, straddle, option, or
privilege on any security, certificate of deposit, or group or index of securities
(including any interest therein or based on the value thereof ), or any put, call,
straddle, option, or privilege entered into on a national securities exchange relating
to foreign currency, or, in general, any interest or instrument commonly known as a
‘security’, or any certificate of interest or participation in, temporary or interim
certificate for, receipt for, guarantee of, or warrant or right to subscribe to or
purchase, any of the foregoing.”

The way that list is usually understood comes mostly from a 1946 US Supreme Court
case called SEC v. W.J. Howey Co., which interprets the term “investment contract,”
perhaps the most general category on the list. Howey owned a bunch of orange
groves and sold plots in them to investors, along with service contracts in which
Howey would manage the groves for the investors, harvest the oranges, sell them
and split the profits among the investors. Howey argued that it wasn’t selling shares
in a business; it was selling real estate — land, trees — and also offering a service
contract. The Supreme Court said, nope, that’s a security:

An investment contract, for purposes of the Securities Act, means a contract,

transaction or scheme whereby a person invests his money in a common
enterprise and is led to expect profits solely from the efforts of the promoter or a
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third party, it being immaterial whether the shares in the enterprise are evidenced
by formal certificates or by nominal interests in the physical assets employed in
the enterprise. Such a definition … permits the fulfillment of the statutory purpose
of compelling full and fair disclosure relative to the issuance of “the many types of
instruments that, in our commercial world, fall within the ordinary concept of a
security.” … It embodies a flexible, rather than a static, principle, one that is
capable of adaptation to meet the countless and variable schemes devised by
those who seek the use of the money of others on the promise of profits. …

The test is whether the scheme involves an investment of money in a common

enterprise with profits to come solely from the efforts of others.

Howey, like the shady companies of the 1920s, was seeking “the use of the money of
others on the promise of profits.” So was Facebook in 2012. Meta in 2023 is … not,
quite. It’s not seeking any money. Meta has the money already, and keeps making
more. The stock is already out there. If you buy Meta stock, is that an investment
contract? Is it “an investment of money in a common enterprise,” when you are not
actually giving Meta any money? Are you expecting profits “solely from the efforts
of others” — the work that Mark Zuckerberg does to increase the profits of Meta —
when, after all, Meta has no direct obligation to share its profits with you? Aren’t
you just expecting profits from the speculative market movements in Meta stock? If
you buy Meta stock at $313 and it goes to $320 and you sell, you have a profit, but
your profit is not due (directly) to the efforts of anyone at Meta; your profit is due to
the anonymous inscrutable market forces of the stock exchange.

Well, this is dumb, it doesn’t matter if Meta stock is an “investment contract” under
a literal reading of Howey. Meta stock is stock, and “the term ‘security’ means any …
stock,” as well as the other stuff.

Ripple Labs Inc. is a company that does crypto stuff. It “seeks to modernize
international payments by developing a global payments network for international
currency transfers,” that sort of thing. 7 A big part of that network involves the
XRP token, a crypto token that runs on the XRP blockchain, which was created by
Ripple’s founders. Unlike Bitcoin and many other cryptocurrencies, though, XRP
are not generated by mining in a decentralized way: All the XRP that will ever exist
were created at the founding and given to Ripple and its founders; XRP was totally
owned and controlled by Ripple. “Of the 100 billion XRP generated by the XRP
Ledger’s code, the three founders retained 20 billion for themselves ... and
provided 80 billion XRP to Ripple.”

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And then Ripple, to raise money to build its global payments network, and to create
a market for the XRP token that would underpin that network, started selling XRP.
It raised about $728.9 million by selling XRP in over-the-counter sales directly to
institutional counterparties (hedge funds, banks, etc.), usually with legal documents
governing the terms of the purchases. XRP became a popular and widely traded
crypto token, listed on many crypto exchanges. And as it became publicly traded on
crypto exchanges, Ripple also sold some of its XRP in the open market on those
exchanges, raising about $757.6 million by selling XRP “‘programmatically,’ or
through the use of trading algorithms.” Ripple also distributed XRP as employee
compensation, and to “third parties that would develop new applications for XRP
and the XRP Ledger.”

In 2020, the SEC sued Ripple, arguing that XRP is a security and Ripple was doing
unregistered securities offerings. Ripple was selling this token to raise money to
build its business, and it was selling the token by telling investors that it was a good
investment. It was, the SEC reasonably believed, one of “the countless and variable
schemes devised by those who seek the use of the money of others on the promise
of profits,” but Ripple did not register its securities offerings or file financial
statements with the SEC.

Yesterday the federal judge in the case, Judge Analisa Torres of the Southern District
of New York, issued an important and rather strange ruling in the case. Here is her
opinion. Basically she ruled that sometimes XRP is a security and sometimes it isn’t.
When Ripple sold XRP to institutional investors in over-the-counter trades, with due
diligence and investment agreements, that was an “investment contract” and so a
securities offering. When Ripple sold XRP to retail investors in on-exchange trades,
anonymously and with no disclosure, that was not an “investment contract” and so
not a securities offering.

That’s so weird!

I should say: I don’t have a strong view on whether XRP is a security. My gut is that
it is, that it is effectively a kind of quasi-stock in Ripple’s ecosystem, that it is
valuable if Ripple does the work to find banking partners and build a good
payments network and useless if it does not. Here, from Judge Torres’ opinion, is
the argument that XRP is a security, that it is an “investment contract” because it
“involves an investment of money in a common enterprise with profits to come
solely from the efforts of others” (citations omitted):

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Here, the Institutional Buyers invested money by providing fiat or other currency
in exchange for XRP. Defendants do not dispute that Ripple received money for
XRP through its Institutional Sales. …

Each Institutional Buyer’s ability to profit was tied to Ripple’s fortunes and the
fortunes of other Institutional Buyers because all Institutional Buyers received the
same fungible XRP. Ripple used the funds it received from its Institutional Sales to
promote and increase the value of XRP by developing uses for XRP and protecting
the XRP trading market. When the value of XRP rose, all Institutional Buyers
profited in proportion to their XRP holdings.

Based on the totality of circumstances, the Court finds that reasonable investors,
situated in the position of the Institutional Buyers, would have purchased XRP
with the expectation that they would derive profits from Ripple’s efforts. From
Ripple’s communications, marketing campaign, and the nature of the Institutional
Sales, reasonable investors would understand that Ripple would use the capital
received from its Institutional Sales to improve the market for XRP and develop
uses for the XRP Ledger, thereby increasing the value of XRP.

Starting in 2013, Ripple marketed XRP to potential investors, including the

Institutional Buyers, by distributing promotional brochures that touted XRP as an
investment tied to the company’s success. For instance, in the “Deep Dive”
brochure, which was circulated to prospective investors, Ripple explains that its
“business model is predicated on a belief that demand for XRP will increase . . . if
the Ripple protocol becomes widely adopted,” and “[i]f the Ripple protocol
becomes the backbone of global value transfer, Ripple . . . expects the demand for
XRP to be considerable.” … In February 2018, Schwartz posted on Reddit that what
“really set[s] XRP apart from any other digital asset” is the “amazing team of
dedicated professionals that Ripple has managed to amass to develop an
ecosystem around XRP.”

Ripple raised money by selling XRP to investors, it used the money to try to build its
payments network, and it told the investors that if it successfully built its payments
network then the value of XRP would go up. That seems very securities-offering-
like.

Still I think that there is a real argument that XRP is not a security, that it is what
crypto people call a “utility token,” or a commodity like Bitcoin. XRP comes from
the fairly early days of crypto, and it seems to have originally been conceived as a

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Bitcoin competitor, a pure payment token. (In 2013, Ripple’s marketing materials
said “Can a virtual currency really create and hold value? Bitcoin proves it can.”) You
can imagine saying something like “well the XRP Ledger is just this decentralized
blockchain that kind of exists on its own, and anyone can work on it and use it to
transfer value, and the XRP tokens are just the currency of that blockchain, like
Bitcoin is the currency of the Bitcoin ledger. XRP, like Bitcoins, are not securities,
and it just so happens that Ripple Labs owns almost all of them, but it can sell them
freely just like any Bitcoin billionaire can sell her Bitcoins.” I don’t really think that
that’s right, but I wasn’t paying that much attention in 2013, and I think it’s possible.
“XRP is just a commodity that Ripple owns a lot of, just like oil is a commodity that
Saudi Aramco owns a lot of, and oil is not a security.” 8

But Judge Torres seems to have (implicitly) rejected that argument and found that
when Ripple went around selling XRP to institutional investors, it was selling
securities.

But then she went on to say that when Ripple went around selling XRP on crypto
exchanges with no disclosure, it was not selling securities. The disclosure creates the
liability: If you go to an investor and say “hi, we are the issuer of this token, we
think it is a good token, would you like some,” then you are selling a security; if you
just anonymously dump the token to retail investors on a crypto exchange, then you
are not. Judge Torres writes (citations omitted):

The Court next addresses Ripple’s Programmatic Sales, which occurred under
different circumstances from the Institutional Sales. The SEC alleges that in the
Programmatic Sales to public buyers (“Programmatic Buyers”) on digital asset
exchanges, “Ripple understood that people were speculating on XRP as an
investment,” “explicitly targeted speculators[,] and made increased speculative
volume a ‘target goal.’” ...

Having considered the economic reality of the Programmatic Sales, the Court
concludes that the undisputed record does not establish the third Howey prong.
Whereas the Institutional Buyers reasonably expected that Ripple would use the
capital it received from its sales to improve the XRP ecosystem and thereby
increase the price of XRP, Programmatic Buyers could not reasonably expect the
same. Indeed, Ripple’s Programmatic Sales were blind bid/ask transactions, and
Programmatic Buyers could not have known if their payments of money went to
Ripple, or any other seller of XRP. Since 2017, Ripple’s Programmatic Sales
represented less than 1% of the global XRP trading volume. Therefore, the vast

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majority of individuals who purchased XRP from digital asset exchanges did not
invest their money in Ripple at all. An Institutional Buyer knowingly purchased
XRP directly from Ripple pursuant to a contract, but the economic reality is that a
Programmatic Buyer stood in the same shoes as a secondary market purchaser
who did not know to whom or what it was paying its money.

Further, it is not enough for the SEC to argue that Ripple “explicitly targeted
speculators” or that “Ripple understood that people were speculating on XRP as
an investment.” … It may certainly be the case that many Programmatic Buyers
purchased XRP with an expectation of profit, but they did not derive that
expectation from Ripple’s efforts (as opposed to other factors, such as general
cryptocurrency market trends)—particularly because none of the Programmatic
Buyers were aware that they were buying XRP from Ripple.

Again: If you buy Meta stock on the stock exchange, there is a 0% chance that you
are buying it from Meta, or that Meta will get your $313 and use it to improve the
Threads ecosystem and thereby increase the price of Meta stock. And yet it is a
security. What makes it a security is not that you have entered into a direct
transaction with Meta, but that it was originally issued to raise money for Meta. It
keeps being a security even as it trades.

Now I should say that there is a popular argument in crypto circles that this is not
true for “investment contracts,” that an investment contract is only an investment
contract when you buy it from the issuer, and that when it trades in the secondary
market it is no longer a security. 9 This argument is, for instance, very important
to Coinbase Global Inc., which is being sued by the SEC for operating an
unregistered securities exchange: If crypto tokens are never securities in the
secondary market, then Coinbase is off the hook.

But notice that Judge Torres goes way beyond that claim: She seems to conclude not
only that secondary-market transactions are never securities offerings, because the
money doesn’t go to Ripple, but also that even when the money does go to Ripple it’s
not a securities offering, as long as Ripple’s sales are mixed in with enough secondary
sales that people don’t know that their money is going to Ripple. Imagine if that
were the law for stock offerings! (It is not: Public companies do “at-the-market”
offerings where they sell stock anonymously on the stock exchange, but they have
to register them and announce them publicly.) The implication is that if a crypto
issuer publicly and openly sells its tokens, that is an illegal securities offering, but if
it sneaks in a few token sales on the exchange then it is not. 10

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She goes on (citations omitted):

It may certainly be the case that many Programmatic Buyers purchased XRP with
an expectation of profit, but they did not derive that expectation from Ripple’s
efforts (as opposed to other factors, such as general cryptocurrency market
trends)—particularly because none of the Programmatic Buyers were aware that
they were buying XRP from Ripple. ...

The Institutional Buyers were sophisticated entities, including institutional

investors and hedge funds. An “examination of the entirety of the parties’
understandings and expectations,” including the “full set of contracts,
expectations, and understandings centered on the sales and distribution of” XRP
supports the conclusion that a reasonable investor, situated in the position of the
Institutional Buyers, would have been aware of Ripple’s marketing campaign and
public statements connecting XRP’s price to its own efforts. There is no evidence
that a reasonable Programmatic Buyer, who was generally less sophisticated as an
investor, shared similar “understandings and expectations” and could parse
through the multiple documents and statements that the SEC highlights, which
include statements (sometimes inconsistent) across many social media platforms
and news sites from a variety of Ripple speakers (with different levels of authority)
over an extended eight-year period.

That is: If you go around making public statements, on your website and on Reddit
and elsewhere, saying things like “if you buy our token we will use the money to
build an ecosystem and make the token more valuable,” that makes your token a
security, but only to people who are sophisticated enough to read your website.
Sophisticated institutional investors who read your disclosure documents and
understand that they are making an investment in your business are entitled to the
protections of the securities laws, while random retail day-traders who just like your
ticker symbol are not. You cannot be doing securities fraud on them, because they are
not paying attention.

I want to say three things about that theory. First, it is actually intuitively very
plausible? “If investors didn't read your advertising, then it doesn’t matter if those
advertisements were lies.” Traditionally an element of fraud is “reliance”: If you lie
to people to get them to give you money, and they give you the money because of
the lies, then you have defrauded them; if they didn’t listen to you and were going
to give you the money no matter what then maybe you haven’t.

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Second, it is very much not the rule of the stock market. It is absolutely the case that
many retail investors buying Meta stock have never looked at any of Meta’s SEC
filings. If it turned out that Meta was lying in those filings, and shareholders brought
a securities-fraud class action, you could imagine Meta saying “well, half of these
plaintiffs didn’t read the filings, so you should throw the case out.” But that
wouldn’t work! It is very standard US securities law that if you lie in your securities
filings, all your shareholders can sue you, because somebody read the filings, and
the lies affected the stock price, and everyone who bought the stock at the (wrong,
higher, inflated-by-your-lies) price was defrauded. (This is called “fraud on the
market”: Each individual investor may not have relied on the lies, but the market
did.)

Third, it is … obviously … terrible … policy? “The securities laws protect only

sophisticated investors who negotiate directly with the company, not retail investors
who trade on public exchanges” is the exact opposite of the normal rule. At the
Information, Akash Pasricha writes:

Securities laws were specifically designed to protect individual investors, based on

the idea that they “can’t fend for themselves,” James Carlson, a New York
University adjunct securities regulation professor, told me today. By the same
token ... “big institutional investors don’t need the protections of the securities
laws. … This effectively stands that philosophy on its head,” he said.

The implications of this part of the ruling are worrisome. As Carlson said, “The
potential for bucket shop or boiler room fraud … is alarming.” Carlson painted a
scenario where a crypto firm issues tokens to heavyweight institutional traders,
who get detailed disclosures required by securities laws, but they then flip it to
individual traders, who don’t get those disclosures.

Except you don’t even need that. Why sell tokens to institutional traders (with
securities disclosures) so that they can flip to retail, when you can just sell to retail
yourself with no disclosure? As long as you sell to retail investors on the exchange,
you’re safe. Even if you broadly advertise how good a job you will do and how much
profit those investors will make, you are still not doing a securities offering! Because
you are selling the tokens anonymously on the crypto exchange, so no one can
prove who bought them from you, so no one can prove if any of the buyers read
your advertising. It is a get-out-of-securities-law-free ruling.

I assume the SEC will appeal. I suppose there are three possibilities here:

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1. Judge Torres is wrong, the SEC is right, and a thing is an "investment

contract” based on its original substance, even if it later trades in the
secondary market. If Meta sells me a share of stock and then I sell it to you,
it remains a security; if Howey sells me an orange-grove-management
contract and I resell it to you, it remains a security. I think that this is the
right answer, though I am not confident in that. Particularly in crypto,
where tokens have a non-security utility, there is a good argument that
tokens can change character over time, that they can start off as securities
and end up as something else. We have discussed that theory before, but I
will just note that it is not the theory of the Ripple opinion. The theory here
is much stranger: It’s that each individual token sale is a securities offering if
the investors are sophisticated and not if they are not.

2. Judge Torres is right in her “investment contract” analysis, but the Howey
“investment contract” test is not the right way to think about crypto. The
right way to think about crypto tokens is that they are quasi-stocks in crypto
projects, and so they are securities even upon resale, not because each
resale meets the Howey test but because stock is always stock. The right way
to think about crypto tokens is not by parsing the Howey elements for each
transaction, but by saying “well how does it work with stock?” and
reasoning by analogy. I think that this is, broadly speaking, the right
intuition, and I kind of wish it was the law, but I don’t really think it is. (And,
again, it breaks down for tokens that have utility in a blockchain ecosystem,
which can start out looking like stock and end up looking like airline miles
or Starbucks gift cards or a currency to pay for cloud computing time.)

3. Judge Torres is right, the SEC is wrong, and no crypto token is a security
unless the issuer sells it directly to venture capitalists in a fundraising
round.

In some ways, that last result would be very good for the crypto industry. Most
immediately, it would be a complete win for Coinbase Global Inc., which is fighting
its own case in which the SEC argues that it is operating an unregistered securities
exchange. One implication of Judge Torres’ ruling is that cryptocurrencies are only
securities if you know that you are buying them directly from the company; if you
buy them in the secondary market — on Coinbase, for instance — then they are not.
So there are no securities listed on Coinbase — in fact, it is impossible for Coinbase to
list any securities 11 — so it is not an illegal securities exchange. Good news for
Coinbase:

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Coinbase Global Inc. rose the most since its public debut, climbing as high as
$109.21. The exchange is embroiled in a lawsuit of its own with the SEC that alleges
that it sold tokens that are unregistered securities.

“This underscores that direct sales of digital assets by an issuer will often be
securities, but other sales, most notably sales on the secondary market, are
unlikely to be deemed securities, which is a key argument in Coinbase’s defense
against the SEC,” said Elliott Stein, Bloomberg Intelligence senior analyst for
litigation.

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More broadly, if you take this decision seriously, it means that the SEC has
essentially no jurisdiction over crypto. Most token sales will either be (1) direct to
institutional investors or (2) on exchanges. Sales on exchanges, says Judge Torres,
are not securities offerings, because the buyer doesn’t know that she is giving money
to the issuer. Sales to institutional investors are securities offerings, but anyone
selling anything to institutional investors in 2023 can do so under an exemption
from securities registration. (Securities registration is only for public sales, not sales
to big institutions.) So basically no crypto sales will ever require SEC registration, no
crypto exchange or brokerage will be a securities exchange or brokerage, 12 and
the SEC is out of crypto entirely.

But I am not sure that it is actually all that good for crypto in the long run. The
message of this decision is that crypto companies can freely sell tokens to retail
investors as long as those retail investors are uninformed and the companies are
secretive about it; only if they sell tokens openly to sophisticated investors will they
get in trouble. That’s bad.

In the 1920s, a lot of people started very shady companies and raised a lot of money
by selling stock with bad and misleading disclosures, and so the securities laws were
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14/07/2023, 22:16 Ripple Is a Security and It Isn’t - Bloomberg

created to stop them. That did not have the result of stamping out stock issuance in
the US. Quite the contrary! The US stock market was helped enormously by having
disclosure rules and protections for retail investors. The basic rule of the US stock
market is “you can kind of do what you like with sophisticated investors, but there
are strict rules about how much you have to disclose to retail investors,” and that
works out well. The opposite rule in this case — “you can do what you like with
retail, but stay away from sophisticated investors” — seems likely to work out
poorly. If the law encourages crypto companies to take advantage of the least
sophisticated investors, then who would want to invest in crypto?

Things happen
JPMorgan Notches Record Revenue on Rates, First Republic Deal. Citi Gets Boost
From Credit Cards as Borrowers Start to Struggle. Wells Fargo Lifts Net Interest
Income Guidance on Rate Hikes. BlackRock Assets Rise to $9.4 Trillion, Fueled by
Bull Run. Silicon Valley start-ups explore sales as funding runs dry. French
Billionaire Pinault Is in Talks to Buy CAA Talent Agency in $7 Billion Deal. FTX Sues
Over European Unit Deal, Seeking to Recover $323 Million. More than 120 senior
Credit Suisse investment bankers flee for rivals. Stablecoin rating agency. Airport
rides. Tortoise trusts. A renegade sea otter is terrorizing California surfers.

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1. Lazily estimated from the “additional paid-in capital” line in the capitalization table of the IPO
prospectus. View in article

2. I mean, in a public offering for cash captured by Bloomberg’s CACS function. I am ignoring stock-based
compensation and M&A, which are sort of financing mechanisms, and in some economic sense
relevant here, but never mind! View in article

3. You could tell a merger story like “Meta loses 99% of its value and is then small enough to be acquired
by Twitter for cash, at which point shareholders get cashed out,” but that is not a reason to buy the
stock today! View in article

4. They could resell it when Facebook went public, in the case of most of the pre-IPO sales, or
immediately, in the case of the IPO and post-IPO sale. View in article

5. Or who got it as employee compensation or founder’s stock or in M&A. View in article

6. That is, the *company* has to register its offerings of stock, and certain affiliates and underwriters of
the company have to register their sales. Ordinary sales by outsiders on the stock exchange don’t
require registration — but they are still securities transactions, and so for instance the brokers and
stock exchange involved in the transaction are subject to SEC regulation. View in article

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14/07/2023, 22:16 Ripple Is a Security and It Isn’t - Bloomberg

7. The quotes in this paragraph and the next come from yesterday’s court decision. View in article

8. A somewhat paradoxical element here is that the more Ripple actually *does*, the more it works to
make XRP *useful*, the more security-like it is. If Ripple’s situation is just “hey we have this stash of XRP,
they aren’t useful for much, but people keep trading them so we’re gonna sell some,” then XRP is
probably not a security. If Ripple succeeds in building out a widely used payments network and signing
up a bunch of banks and institutions to use XRP for their business, then the price of XRP will go up in a
way that is directly tied to Ripple’s business, making it a bit more security-like. I don’t think that this is
entirely true — if Ripple gets everyone to use XRP for payments, in some ways that helps the argument
that XRP is a currency rather than quasi-stock in Ripple — but it is partly true. View in article

9. Proponents sometimes say that “the investment contracts in Howey are securities, but the oranges are
not.” This is irrelevant. The question is: If you buy a plot of land and a service contract from Howey, and
three years later you find someone else to buy that same arrangement from you, is that still a security?
When institutional XRP buyers bought XRP from Ripple, they didn't get XRP *plus* some explicit
contractual arrangement to build out the ecosystem: They got XRP, and understood that if the
ecosystem grew then XRP would go up. View in article

10. Similarly, it is well understood that Mark Zuckerberg, as an affiliate of Meta, generally has to register
his own sales of Meta stock, or sell within some exemption from registration. He can’t just quietly
dump Meta stock on the exchange and say “well, no one knows they’re buying from me, so I don’t have
to tell them.” But Judge Torres finds that Ripple’s executives can sell XRP freely, because no one
knows that they’re buying from those executives so the sales aren’t securities offerings: “Larsen and
Garlinghouse did not know to whom they sold XRP, and the buyers did not know the identity of the
seller. Thus, as a matter of law, the record cannot establish the third Howey prong as to these
transactions.” View in article

11. Unless it listed stocks, I mean. Tokenized stocks, etc. Because a "stock" is explicitly a security whether
or not it satisfies the Howey test. View in article

12. Well. I suppose if you are a crypto investment bank in the business of brokering token sales from
issuers to venture capitalists, then those are securities offerings and you technically need to register
with the SEC as a securities brokerage. But brokers and exchanges in the secondary market would
not. View in article

This column does not necessarily reflect the opinion of the editorial board or
Bloomberg LP and its owners.

To contact the author of this story:

Matt Levine at [email protected]

To contact the editor responsible for this story:

Brooke Sample at [email protected]

Matt Levine is a Bloomberg Opinion columnist. A former investment

banker at Goldman Sachs, he was a mergers and acquisitions lawyer at
Wachtell, Lipton, Rosen & Katz; a clerk for the U.S. Court of Appeals for
the 3rd Circuit; and an editor of Dealbreaker.

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