The cryptocurrency market, and its stakeholders, are still deciding how ICO tokens should be treated. The consensus so far, even from coin creators, is that some regulation is required.

Are tokens, or coins, securities?

The issue with regulating Initial Coin Offerings (ICOs) is one of definition. If an ICO contains tokens which function like securities, then are they securities? If so, should they be regulated in the same way? What does this mean for crowdsales, the coin equivalent of crowdfunding?

All of these questions and more are being asked as regulators look to define ICOs.

How are ICOs being regulated in Canada today?

In a press release in August, 2017, the Canadian Securities Administrators (CSA), describes how their staff should treat – and how securities law will apply to – ICO’s, initial token offerings (ITOs), cryptocurrency investment funds, and cryptocurrency exchanges.

“Any business that is planning to raise capital through an ICO or ITO, or that is seeking to establish a cryptocurrency investment fund, should consider whether it involves a security.”

“…many of these cryptocurrency offerings involve sales of securities”.

CSA, Press Release, August 24, 2017.

The CSA advise organisations to contact their provincial securities regulatory authority to discuss their approach to compliance with securities laws.

What is a crowdsale?

In a crowdsale investors receive tokens from the organisation creating the ICO. These tokens can then be used to purchase the technology being funded, once launched.  It’s much like pre-purchasing a new Tesla before the model has gone into full production.

However, the line between a securities purchase versus a product purchase blur at this stage.

The tokens, or coins, purchased through crowdsale don’t have to be used to purchase the technology funded by the ICO.They can also be purchased by an investor for trading on the cryptocurrency market later. If the value of the business launching an ICO rises, investors can reap arbitrage rewards through trading the token..

For an investor, the flexibility could be an attraction, but regulation could result in an investor needing to make a firmer choice – either pre-sales tokens, or optionable tokens.

Too much regulation may deter those unsure about a product pre-purchase, who are relying on a choice once the product is launched; if they don’t like the product, they can trade out their tokens.

Unregulated ICOs can mean big profit, but are they a bigger risk?

The lack of regulations for ICO’s mean investing is risky. If the crowdsale does not come to fruition, and the product never launches, what happens? Will the investors be refunded? Or, will the ICO and the company behind it, vanish?

Unregulated ICO’s create concerns for the financial markets over their transparency, volatility, ownership, liquidity issues, and how they are valued. There is also the potential for unethical companies to take advantage of an unregulated marketplace.

But ICO’s provide fintech companies with a fast route to financial backing, which accelerates the emergence of innovative, technologies. The general consensus is that such progressive development can only serve to benefit the economy of origin, so the risk might be worth it in the end.

What do the new regulations mean for individuals looking to invest in crowdsales?

Regulation also lends some legitimacy to ICO’s. The backing of a regulator is a signal to investors to watch carefully. If sales of the ICO boom, and leading investors start to join, is it time to make your move?

Canada is forward thinking on the topic of ICO’s, the CSA is not looking to restrict their launch, but to support the validity of fintech businesses seeking funds.

CSA Chair Louis Morisset comments:

“The technology behind cryptocurrency offerings has the potential to generate new capital raising opportunities for businesses and we welcome this type of innovation.”

Source: Canadian Securities Administrators

The action by the CSA closely follows the ruling by the US Securities and Exchange Commission (SEC) that some of the tokens available for sale are securities and thus subject to their regulation.

The SEC investigated an organisation which had no conventional management structure or board of directors, called the DAO (Decentralized Autonomous Organisation).

The DAO was not tied to a country of origin, and was crowdfunded by an ICO in 2016 which raised $150 million, the largest crowdfunding campaign in history.

Unfortunately, the ICO was hacked, and $50 million was syphoned away. The cryptocurrency market was shaken, and the result was a split in the Ethereum blockchain. This hard-fork broke Ethereum into two separate blockchains to prevent the hacker from benefiting. The Ethereum community then stepped in, initiating a refund to investors, via the fork.

For those looking to invest, any regulations should serve to weed out fintech companies who aren’t credible, or don’t have the infrastructure required to deliver a successful ICO, and product, to market.

Will regulation make ICO investments less risky?

Regulations should make it safer for ICO investors, though they will not guarantee the success of the ICO or any return. Any securities investment is risky, and potentially more so with the innovative, decentralised, nature of ICO’s.

There is also evidence of the regulations being ignored by ICO’s, so investors should not rely on the existence of ICO regulations to demonstrate credibility.  

Cryptocurrency investors have reason to be cautiously optimistic.  While Canadian investors are receiving important signals from regulators – and the climb in value of Bitcoins and altcoins in recent months serves as an inspiration to many – be sure that you’re making an informed decision about the asset class and the risks involved before making the leap.

 

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