Digital Assets – Are You Ready?
The securities and futures industries have a long history of creating, distributing, and trading new and innovative products and asset classes. Innovation is not without risk and successful firms have typically introduced disciplined processes to achieve compliance within existing regulations, even when there are gray areas. For broker-dealers, the suitability rule (2111) is the guiding force. In the case of registered investment advisors, the SEC has made it very clear in the “Information for Newly-Registered Investment Advisers (November 23, 2010) that:
As an investment adviser, you are a “fiduciary” to your advisory clients. This means that you have a fundamental obligation to act in the best interests of your clients and to provide investment advice in your clients’ best interests.
For futures commission merchants and introducing brokers the National Futures Association (“NFA”) requires Members under Compliance Rule 2-4 “…to observe high standards or commercial honor and just and equitable principles of trade in the conduct of their futures business.” There is no explicit “suitability rule”.
But product due diligence should go beyond developing a reasonable basis to determine whether the instrument is suitable for at least some of your clients. This would include operational readiness within the exchange/firm/or other registered entity. Is the firm prepared for the new product? Too often, the answer is no, but firms think the answer is yes and proceed anyway. Understanding the operational risk, product and sales strategy, supervisory structure requirements, technology requirements, financial commitment, risk management, and compliance/anti-money laundering requirements, are as important to a successful implementation as understanding the product’s market and liquidity risk.
Credit default swaps, auction rate securities, and even the tech bubble are still fresh in the minds of seasoned investment professionals and institutional investors – and that is a good thing. Your firm will need that experience and more to understand the benefits and risks of digital assets and initial coin offerings. Evaluating and understanding exchanges, custodial wallet providers, and how mining works is also vital to your firm’s success in this niche venue.
Crowdfunding portals and companies raising capital under the Tax Cuts and Jobs Act of 2017 quickly realized that investment professionals and institutions have to understand the firm’s management team, the potential type of business being funded, the historical performance of the company, the current state of the company, how the capital will be utilized, and are the investors confident that the information provided is accurate and not false and misleading. With digital assets, you can add in the quality of the code to that list.
How Oyster Can Help
Oyster can help firms view the opportunities and risks associated with cryptocurrencies from a strategic, operational, and compliance standpoint for the emerging cryptocurrency industry and for exchanges, broker-dealers, FCMs and RIAs.
For more information about how Oyster can assist your firm or to request a consultation, complete our contact form or call (804) 965-5400 and one of our Relationship Managers will be happy to help you.
During his thirty-plus years in the industry, Don Horwitz focused on assisting futures commission merchants (FCMs), broker-dealers, derivatives exchanges and their central counterparty clearinghouses (CCPs). He served as general counsel and/or chief compliance officer to three FCMs (through mergers and acquisitions), president of a broker-dealer and several developing exchanges. He provided comprehensive legal, regulatory and strategic advice to those organizations’ chief executive officers and boards of directors. He was also called upon regularly to manage and resolve discrete and sensitive situations. Currently he is advising a designated contract market and several CPOs and CTAs with market regulation and compliance. He is also working with member NFA firms on their compliance with the NFA’s Information Systems Security Policies.