SEC probes Wall Street investment advisers over clients’ crypto custody

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(Kitco News) –
The Securities and Exchange Commission (SEC) is extending its scrutiny of crypto deeper into the traditional financial sector. According to a Reuters report published Jan. 26, the regulator has opened investigations into registered investment advisers to determine whether they are violating rules governing custody of customers’ crypto assets.

Investment advisers cannot legally maintain custody of client funds or securities if they do not meet specific requirements, including that advisers hold assets with a firm deemed to be a ‘qualified custodian.’

“This is an obvious compliance issue for investment advisers,” Anthony Tu-Sekine, head of the Blockchain and Cryptocurrency Group at Seward and Kissel said in the report. “If you have custody of client assets that are securities, then you need to custody those with one of these qualified custodians. I think it’s an easy call for the SEC to make.”

The problem for traditional financial firms is that finding ‘qualified’ custodians is not an easy call at all. Multiple attorneys told Reuters that the SEC’s accounting guidance “has made it too capital-intensive for many lenders to hold digital assets on behalf of clients,” which limits the custody options advisers can access. To complicate matters further, the SEC does not maintain a list of custodians it deems qualified, or offer any licensing process for firms to be recognized as qualified.

On Dec. 8, the SEC issued a guidance to all publicly-traded companies in the United States warning them that they must review their disclosure obligations as they relate to crypto.

“Recent bankruptcies and financial distress among crypto asset market participants have caused widespread disruption in those markets,” they wrote. “Companies may have disclosure obligations under the federal securities laws related to the direct or indirect impact that these events and collateral events have had or may have on their business.”

The SEC’s Division of Corporation Finance (DCF) wants companies to evaluate their disclosures to give investors “specific, tailored disclosure about market events and conditions, the company’s situation in relation to [them], and the potential impact on investors.” The DCF added that companies with ongoing reporting obligations should verify whether their existing disclosures need to be updated.

The DCF also shared a sample letter containing 16 areas of questioning they would put to firms about their exposure to crypto markets, including “a company’s exposure to counterparties and other market participants; risks related to a company’s liquidity and ability to obtain financing; and risks related to legal proceedings, investigations, or regulatory impacts in the crypto asset markets.”

The SEC has recently been on the receiving end of scathing criticism from lawmakers and market participants for their apparent failure to protect investors from the collapse of FTX and Alameda Research last month, despite SEC Chair Gary Gensler’s well-publicized meetings with former FTX CEO Sam Bankman-Fried.

On Dec. 6, New York Congressman Ritchie Torres wrote a letter to Gene Dodaro, Comptroller General of the U.S. Government Accountability Office (GAO), in which he called for Dodaro to “conduct an independent review of the SEC’s failure to protect the investing public from the egregious mismanagement and malfeasance of FTX.”

Torres wrote that Gensler is “singularly responsible for the regulatory failures surrounding the collapse of FTX,” which caused billions in losses to both creditors and customers.

After the collapse of FTX, the SEC announced that they were in fact in the midst of investigating the exchange for possible violations of money-laundering laws.

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.

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