Notes 3/23: Staking As A Security Offering, Bitcoin Price

The Securities and Exchange Commission’s regulatory wrecking ball is swinging again. This time it is aimed at cryptocurrency exchange Coinbase and the Tron platform and its companies.

The agency took aim at Justin Sun, the colorful founder of Tron, and charged three of his companies – Tron Foundation Limited, BitTorrent Foundation Ltd., and Rainberry Inc., with unregistered offerings of securities.

In its complaint, the SEC stated that Sun orchestrated an “extensive wash trading campaign” to prop up the prices of TRX and BTT tokens. The agency should have extended that charge of wash trading to all of the cryptocurrency ecosystem.

The overall effect of this case is not likely to be substantial. Tron and its founder are no strangers to controversy. And the tokens charged as unregistered securities both trade for less than a dollar, minimizing their effect on crypto markets.

Staking As a Security

The SEC also issued a Wells notice to cryptocurrency exchange Coinbase charging its staking services Coinbase Earn and Coinbase Prime and its online wallet Coinbase Wallet with being a securities offering. A Wells notice is advance intimation of possible legal action by the agency in the future.

In previous interviews, SEC chief Gary Gensler had identified Coinbase’s staking service Earn by name as an example of a securities offering. Coinbase chief legal officer Paul Grewal posted a lengthy thread on Twitter to explain why the staking service was not a security offering on Tuesday.

Among other points, he categorized staking yields as service fees determined by the protocol paid to the asset owner as compensation. He also said no business decisions are taken at core staking services to ensure yields or profits. “If you hire a mechanic to fix your car, you are relying on the efforts of others. None of these involve a securities offering,” he tweeted.  

A Faulty Argument

While it is difficult to make a specific comment on Coinbase’s staking service, the view that staking, as a whole, is not a securities offering is incorrect.

Many services rely on the efforts of third parties and take business decisions to make sure that their customers earn the promised yield. For example, business decisions pertaining to validators play a big part in generating yield.

Staking requires systems to be online 24x7x365. This enables the underlying blockchain to function efficiently and securely. But maintaining validators online always is an expensive and time-consuming task and not all validators can fulfill this requirement.

To that end, Lido, the biggest staking service for Ethereum, actively checks validators that meet its criteria before including them in its whitelist. Staked, another staking platform, uses its “robust ETH infrastructure” as enticement for holders to stake with it. Such services also employ technological maneuvers, such as the use of miner extractable value (MEV), to maximize yield associated with their platforms.     

Yields as Service Fees

The argument that staking yields are services fees to secure a blockchain’s network also does not hold water when you consider the differences in yields on various platforms.

Just right now, Coinbase Earn offers 4.23% yield on staked Ethereum while Lido and Staked advertise a 5.3% and 6% yield for the same token. Meanwhile, Ethereum, the source of promised yields on other services, has a 4.7% yield for its own token. If staking yields are service fees, then they should be fixed or less than 4.7%, minus fees, on all services. How are some platforms that offer staking as a service able to earn more yield? [Hint: efforts of third parties].    

Grewal’s tweet thread and Coinbase’s amicus brief filed in support of its employees earlier this week also do not address the reason for existence of a derivative that enables liquidity of tokens that are locked on staking platforms.

Derivative versions of staked tokens have proliferated in crypto. stETH, cbETH, RETH are some examples of tokens that enable holders of locked tokens to use them as collateral or in various trading activities. These tokens are, again, examples of securities tokens.  

Fed and Bitcoin Price

Despite economic uncertainty and rising investor fears over recent bank failures, the Federal Reserve stuck to its script and raised interest rates by a quarter percentage point yesterday. Fed Chair Jerome Powell also reaffirmed faith in the country’s banking system, saying that it remained stable and resilient.

In response, the rally in bitcoin price reversed course, though not by much. The cryptocurrency had passed the $28,000 mark and there was talk it might hit $30,000 if the Fed decided to pause its rate increases. That didn’t happen and the premiere cryptocurrency mirrored other risky assets, like equities, and fell below $28,000 after the Fed’s announcement.   

This morning, however, has brought about a change in trader sentiment and the cryptocurrency is back on an upward trajectory. As of this writing, it is changing hands for $28,591.81, down 1% from its price a day earlier. But it is still up by almost 17% from a week earlier.

Digital Gold

Some investors are reverting to an earlier time and promoting the cryptocurrency as digital gold. The idea behind this moniker is that bitcoin is an alternative asset class, a haven, that can withstand stresses of the mainstream economy.

But bitcoin’s recent gains offer scant evidence of this theory. Its price movement this morning is identical to those of technology stocks, which were hammered last week. The circumstances of its price increase are also questionable. There is ample evidence to prove that investors are exiting, as opposed to coming into, bitcoin’s ecosystem. The low liquidity in bitcoin’s ecosystem makes it easier for a few investors to pump up the cryptocurrency’s price with fatuous theories about the economy and bitcoin’s perceived utility.

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