.jpg)
Thank you, Chairman Atkins, Commissioner Uyeda, and Commissioner Crenshaw, and thank you all for joining us in-person or online on another Friday afternoon for the Crypto Task Force’s latest roundtable: “Know Your Custodian: Key Considerations for Crypto Custody.” Thank you especially to our moderator, Zach Zweihorn, and today’s panelists for taking on this challenging topic.
Children often play a game called “the floor is lava.” The game requires you to leap from one piece of furniture to the next without falling or touching the ground—otherwise, you will be burned by the imaginary molten lava below.
A D.C. version of this game is our regulatory approach to crypto assets, and crypto asset custody in particular. The twist in the regulatory version is that it is largely played in the dark: burning legal lava and no lamps to illuminate the way. To engage in crypto-related activities, SEC-registrants have had to hop from one poorly illuminated regulatory space to the next, all while ensuring that they never touch any crypto asset. A broker or ATS that cannot custody or otherwise handle an asset will find it difficult to facilitate trading in the asset, and a robust market is unlikely to develop. If investment advisers do not know which crypto assets are securities, what types of entities are qualified custodians, and whether exercising staking or voting rights will result in custody violations, advisers may not be able to serve their clients’ best interests. Similar confusion may prevent investment companies from investing in crypto assets or investing in a way that would be most efficient or beneficial to the fund. It is time that we find a way to end this game. We need to turn on the lights and build some walkways over the lava pit.
We, of course, should not take custodial obligations lightly. When an intermediary holds a crypto asset, or any asset for that matter, investors and the intermediary itself can face serious risks. The Commission must grapple with these issues. If we fail to do so, we prevent regulated entities from serving their customers and elevate—to the detriment of the American public—markets and intermediaries that may be less safe than our regulated entities. We must ensure that the custody requirements applicable to regulated entities further rather than impair investor protection and choice. And these requirements must not interfere with an adviser’s discretion about how to fulfill its fiduciary obligations.
Our regulatory approach should recognize the differences across crypto assets. Qualified custodians exist for some crypto assets, but for others self-custody might be the safer option. Many tokenized securities involve the use of smart contracts or other blockchain-related protocols that allow the issuer or its agent to take corrective measures in the event of an error or lost or stolen private keys, just as it could resolve issues when using a traditional database. Indeed, distributed ledgers could mitigate some risks associated with traditional databases. For example, a broker-dealer’s ability to control an uncertificated security on-chain arguably makes it easier for the broker-dealer to demonstrate that it is the legal owner of the security if the issuer or its agent were to mismanage any off-chain ownership records.
Finally, we should acknowledge and welcome the fact that blockchain technology empowers investors by allowing them to self-custody, trade, and otherwise engage with their assets without the use of any intermediary. Our regulatory framework should not stand in the way of these innovations by forcing intermediation.
I look forward to hearing the panel’s thoughts on these and other issues. While this roundtable focuses on custody issues for broker-dealers, investment advisers, and investment companies, I also would appreciate hearing the panel’s views on whether the SEC should amend or clarify other rules that may be just as important in protecting customer assets, such as capital, recordkeeping, and financial reporting rules.
Before turning it over to Zach to kick off the discussion, let me offer some questions for the panels’ consideration:
- Should Congress amend SIPA to address the treatment of crypto assets that are not “securities” as defined in SIPA?
- In the absence of any such amendments, how can we help ensure that customers receive their crypto assets (and any cash deposited to purchase those assets) in the event of a broker-dealer liquidation? Does Article 8 of the UCC present a potential solution to this issue?
- Should we retain the Special Purpose Broker-Dealer framework or should we clarify how any broker-dealer may custody crypto assets that are securities?
- What requirements should apply to broker-dealers when custodying tokenized securities that are not bearer instruments?
- Should SEC staff modify or replace the so-called “ATS three-step” letter? If so, how?
- Should we provide any guidance or propose amendments to address how our rules apply to broker-dealers that use smart contracts to facilitate settlement?
- Given that Rule 15c3-3 does not apply to crypto assets that are not securities, what can we do to ensure that broker-dealers appropriately safeguard any such assets held for customers?
- Should the custody rules permit funds and advisers to place and maintain crypto assets with classes of custodians not currently contemplated by those rules?
- Alternatively, should the custody rules be principles-based and incorporate qualitative criteria as opposed to being focused solely on certain entities that may custody assets?
- Should we propose changes to the adviser and investment company custody rules to facilitate self-custody of crypto assets and, if so, under what conditions?
