Notes 6/16: Tether Documents, Ether As An “Other” Token, and Bitcoin ETFs Again

It is time to take out the popcorn.

The New York Attorney General’s office has handed documents related to its 2021 settlement with stablecoin issuer, Tether, to CoinDesk. The publication is said to be “reviewing” the documentation.

Tether has never submitted its finances to a comprehensive audit; instead, it published attestations – snapshots of its balances at a specific point in time.

Considering the stablecoin’s history, it is safe to presume that there will be more than a single smoking gun in the documents. Already, Bloomberg is reporting that Tether had commercial paper issued by Chinese companies in its reserves when it denied having them.

When Collapse?

The steady drip of revelations coupled with Tether’s loss of peg this week bring back memories of Terra’s collapse last year.

That event sparked a cycle of losses and bankruptcies through crypto. But Terra’s reach within crypto was not as big and broad as Tether’s. The stablecoin is the main trading partner for most worthless crypto tokens. It also braces trading volumes at Binance, the world’s top cryptocurrency exchange.

Binance itself is not doing well and is still ducking the thrust and parry of regulators worldwide. It is under investigation in France, a jurisdiction that CEO Changpeng Zhao earlier said was supportive to crypto, for “aggravated” money laundering and has exited Netherlands because it could not acquire the Virtual Asset Service Provider (VASP) there.

Ether As An “Other Category”

Ethereum’s ether may get a reprieve from the Securities and Exchange Commission (SEC) regarding its status. According to strategists at JP Morgan, it is possible that a new “other” category for tokens may be introduced to accommodate ether by Congress.

The ‘other’ category would have more restrictions and investor protection than is currently available for commodities but may be less strict than those required for securities, the strategists write.

A Slippery Slope

Regulators will be going down a slippery slope if they do end up introducing a new category to accommodate ether. Ether, in its current state, is worthless and is mostly used for speculation. One of the biggest beneficiaries of the token’s wild price swings is the Ethereum Foundation, an unofficial controlling entity for the blockchain.

It sets strategy and direction to grow the Ethereum ecosystem. For example, the foundation decided to fork the chain after a DAO hack in 2016 and it has orchestrated the blockchain’s recent move to a Proof of Stake (PoS) consensus system.

Through financial allocations like grants investment in third parties, it also grows the ecosystem of developers. Ethereum boasts the highest number of developers working on it among public blockchains.

The foundation’s funds to finance these initiatives come from its substantial holdings of ether. As of March 31, 2022, 99.1% of its holdings were in ether and they amounted to slightly less than $1.3 billion. It sells these holdings for profit near the top, possibly after another pump-and-dump scheme, presaging a downfall in the token’s price.

Not A ‘Sufficiently Decentralized’ Token

There’s an argument about Ethereum being “sufficiently decentralized” to deserve a pass from securities laws. But it is important to distinguish between decentralization in a network and the list of holders for a crypto token.

Ethereum’s nodes, spread out across the globe, may be decentralized; ether’s distribution is not. It is mostly concentrated in the hands of private players. Startups and Layer 2 blockchains on Ethereum have their own tokens or, with recent developments, may be able to pay in alternate digital assets.

Even if regulators make an exception for Ethereum, what is to prevent actors from abusing the category by booking profits from crypto markets first and claiming to be “sufficiently decentralized” later?

ETFs and Cboe

Liquidity for bitcoin may be shrinking but investment giant Blackrock still believes in the cryptocurrency. It filed for a spot bitcoin ETF yesterday. What distinguishes the the company’s application from the numerous applications that have preceded, and been rejected by the SEC, it, you may ask?

The answer to that question is not much. The firm intends to use Coinbase as a custodian for its cryptocurrency holdings while BNY Mellon will hold its cash. The price for bitcoin will be calculated using the CF Benchmarks Index and subject to oversight by the CME CF Oversight Committee.

Meanwhile, Cboe’s digital arm has been cleared by the Commodities Futures Trading Commission (CFTC) to offer margined contracts for crypto products, including physically-settled bitcoin.

When ETF?

What to make of these developments? The SEC has rejected many ETF applications similar to Blackrock’s in the past. Current conditions in crypto hardly inspire confidence that the agency will relent from its hardline position.

Then, there’s Cboe’s claim that it will offer physically settled bitcoin. Current futures contracts for crypto on CME are cash-settled because the asset class is unproven and mostly unregulated.

This might be a new dawn for crypto or another false start. Chances that it is the latter are high.

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