SEC and DOJ Bring Parallel Crypto Insider Trading Cases; SEC Alleges Nine Tokens Are Securities

Alerts / July 22, 2022

Significant parallel actions commenced this week by the Securities and Exchange Commission (SEC) and the Department of Justice (DOJ) bring crypto fraud enforcement into the spotlight, with the SEC alleging that multiple tokens listed on Coinbase are securities. In its first insider trading case of “crypto asset securities,” the SEC charged a former Coinbase product manager, his brother and his friend for perpetrating a scheme to trade crypto assets that the SEC alleges are securities on the basis of confidential nonpublic information. The DOJ brought its first cryptocurrency insider trading tipping scheme case by charging the same three individuals with conspiracy and wire fraud in connection with the alleged insider trading. This case comes on the heels of the DOJ’s first insider trading case regarding a non-fungible token (NFT).

Key Points

  • Of the at least 25 crypto assets that were allegedly traded on the basis of material nonpublic information, the SEC alleges nine are securities, of which seven are listed on Coinbase.
  • The SEC’s Complaint offers numerous specific examples of the type of activities the SEC will interpret as indicative that a crypto asset is a security.
  • The DOJ Indictment and SEC’s Complaint indicate that U.S. enforcement agencies continue to leverage enhanced investigation techniques and information gained from both U.S. and foreign companies servicing the crypto markets to assist in bringing crypto enforcement actions.

SEC Complaint

According to the SEC’s Complaint, a former manager of Coinbase’s Assets and Investing Products group was given advance notice of the timing and content of Coinbase’s listing announcements. The SEC alleges that the employee repeatedly tipped this material nonpublic information to his brother and a friend, which the three individuals used to trade ahead of listing announcements, resulting in collective illicit profits of at least $1.1 million. The SEC further alleges that:

  • The employee violated his duty of trust and confidence to Coinbase by repeatedly tipping others with material nonpublic information;
  • The tippees were “reckless in not knowing, or consciously avoided knowing” that the employee provided them with material nonpublic information in violation of his duty to Coinbase and for his personal benefit; and
  • The employee benefited from tipping the information by bestowing “gifts of valuable material, nonpublic information on a trading relative and a close friend.”

The SEC brought the action alleging violations of Rules 10(b) and 10b-5 and pursuant to Sections 21(d), 21A and 27 of the Securities Exchange Act of 1934 (Exchange Act) and is seeking disgorgement, prejudgment interest and civil penalties.

Also significant is the SEC’s use of the term “crypto asset security” in its Complaint to refer to an “asset that is issued and/or transferred using distributed ledger or blockchain technology – including, but not limited to, so-called ‘digital assets,’ ‘virtual currencies,’ ‘coins,’ and ‘tokens’ –and that meets the definition of ‘security’ under the federal securities laws.” The SEC’s Complaint alleges that the following nine assets are crypto asset securities that meet the definition of an “investment contract” as defined by Securities & Exchange Commission v. W. J. Howey Co., 328 U.S. 293 (1946), meaning the tokens allegedly represent an investment of money in a common enterprise with the expectation of profit from the efforts of others. The SEC lists the following as reasons supporting its view that each of the below-listed tokens qualifies as an investment contract:

  • AMP – Public statements made by the company led investors to believe they could share in staking rewards, thus sharing in a common interest with each other as well as the network’s management team and employees who were slated to receive around 20 percent of the network’s token allocation. Further, the company’s public statements indicated the token’s price would rise based on certain company activities and be available on secondary markets, leading investors to have a reasonable expectation of profits based on the management team’s efforts.
  • RLY – Public statements made by the company led investors to expect their investment would fund Rally’s development, thus placing them in a common enterprise among each other and the company’s management team. Further, the management team promoted the token’s availability on secondary trading platforms, promoted its management team’s background and qualifications, and acknowledged a high degree of centralization on its platform, indicating investors were likely to have a reasonable expectation of profits based primarily on the management team’s efforts as opposed to any decentralized network.
  • DDX – Public statements made by the company led investors to believe that funds raised by token sales would contribute to the development of the DerivaDEX protocol. This, coupled with the fact that the management team was to retain a significant token allocation, created aligned interests between the management team and the investors, indicating a common enterprise. Further, investors reasonably would expect to profit from their token purchases based on statements made by the company that the token would be available on secondary trading platforms and that the central management team would retain most of the DDX tokens in order to continue network and protocol development, which is not yet fully operational and has no publicly stated timeline for completion.
  • XYO – The team’s founders described how they would use funds raised during an initial token offering to build the XYO network, indicating a common enterprise where the future of the network would rely on proper deployment of investors’ funds. Further, investors were led to believe they would profit by the efforts of the company’s management team, who promoted the availability of the token on secondary markets, announced the company would burn tokens to achieve price stabilization and acknowledged their role in the continued development of the network.
  • RGT – The company raised funds via a token sale to fund development of the company, which indicates a common enterprise where the future of the network is reliant on the funds raised by investors. Further, public statements made by company executives promoted the token as an investment, including that a goal of one of its incentive programs was to “provide exponential returns” to investors and that the token was available on secondary markets. Such statements reasonably led investors to believe they could generate profits based on the efforts of the token’s management team.
  • LCX – Public statements by the company communicated to investors that purchasing the LCX token was an opportunity to participate in a growing platform, implying the parties were engaged in a common enterprise. Further, other public statements made by the company emphasized that LCX would appreciate in value because there were a finite number of LCX tokens and the company promoted the token’s availability on secondary markets, which would lead investors to reasonably rely on the fact that profits would be generated by centralized management efforts.
  • POWR – Public statements made by the company indicated that token holders would create a network that would give the platform value, indicating all parties, investors and team founders alike would be in a common enterprise with each other. Other public statements by the company emphasized opportunities for token purchasers to benefit by receiving a share of POWR’s fee revenues and from trading POWR on secondary markets, leading investors to reasonably believe they could expect profits based on the managerial efforts of the company.
  • DFX – Public statements of the company emphasized, among other things, that investors have a common interest in the liquidity pools that it operates, indicating a common enterprise among investors and the founding team. Other public statements made by the company led investors to believe profits would be generated based on the company’s managerial efforts, including a co-founder’s statements touting profits available as a result of activities associated with holding DFX tokens, encouraging users to purchase the tokens and promoting the founding team’s role in developing the network.
  • KROM – Public statements made by the company indicated that funds raised from KROM sales would be used to develop and maintain the associated platform, which did not yet exist in a fully functional, publicly available form, indicating that investors and the founding team were engaged in a common enterprise with each other. Additionally, the company issued numerous public statements that emphasized the opportunity for token purchasers to profit, which statements would result in an investor’s reasonable expectation of profits based on the company’s efforts.

Coinbase responded to the action by stating, “Coinbase does not list securities. End of story.” Coinbase further agreed with Commodity Futures Trading Commission (CFTC) Commissioner Caroline Pham, who stated this case is “a striking example of ‘regulation by enforcement’” by the SEC. Coincidentally, also yesterday, Coinbase filed a rulemaking petition with the SEC, requesting rulemaking on digital asset securities.

DOJ Indictment

In addition to the allegations of insider trading, the DOJ alleged that the tippees attempted to conceal the crypto assets they purchased in advance of Coinbase listing announcements by using accounts at centralized exchanges held in the names of others. In addition, the tippees allegedly transferred funds, crypto assets and proceeds of the fraud scheme through multiple anonymous Ethereum blockchain wallets. Public social media communications also appear to have contributed to the investigation. According to the DOJ indictment, shortly after one of the defendants traded in advance of a listing announcement, a social media account that is well known in the crypto community identified an Ethereum wallet used by the defendant as having “bought hundreds of thousands of dollars of tokens exclusively featured in the Coinbase Asset Listing post about 24 hours before it was published.” This allegedly prompted Coinbase to begin investigating the matter.

Potential Implications

The SEC’s position, based on the language in its Complaint, is that these nine crypto assets qualify as securities. Assets that are deemed to be securities must be offered and sold pursuant to the securities laws and, therefore, either registered as per Section 5 of the Securities Act of 1933 (Securities Act) or offered and sold under an exemption from registration. This also serves as notice that other crypto assets on Coinbase or any other exchange may be considered securities (i.e., crypto asset securities) by the SEC. The SEC’s Complaint provides numerous specific examples of the type of facts the SEC will consider in determining that a crypto asset is a crypto asset security. Among other things, these include (1) public statements about the potential for crypto asset purchasers to realize profits; (2) involvement of management teams in the ongoing success of the crypto asset and related network; and (3) efforts to facilitate and promote listing of crypto assets on secondary market trading platforms.

The SEC’s allegations that nine tokens are securities means that the SEC may next bring enforcement actions against the companies and individuals behind those nine tokens, as well as possibly make it easier for class actions also alleging that the tokens are securities. The SEC previously brought an enforcement action against Ripple, alleging that the XRP token, which was listed on Coinbase, is a security. At that time, it was not clear whether the SEC viewed Ripple as an anomaly. It is now clear that the SEC views different types of tokens, with various fact patterns, as being securities, though as noted above, the SEC’s focus is on public statements made by the tokens’ promoters, as well as whether the token network was fully functional at the time the tokens were first offered for sale to the public.

In addition, those who operate as broker-dealers of securities transactions or as securities exchanges have registration requirements under the securities laws. Accordingly, any person or entity that operates as any of the following would be required to be registered under the securities laws and comply with the associated regulatory regime.

  • A broker, meaning “any person engaged in the business of effecting transactions in securities for the account of others”;
  • A dealer, meaning “any person engaged in the business of buying and selling securities for his own account, through a broker or otherwise”; and
  • An exchange, meaning “any organization, association, or group of persons, whether incorporated or unincorporated, which constitutes, maintains, or provides a market place or facilities for bringing together purchasers and sellers of securities or for otherwise performing with respect to securities the functions commonly performed by a stock exchange as that term is generally understood, and includes the market place and the market facilities maintained by such exchange.”

Notably, the SEC recently proposed rules to amend Rule 3b-16 under the Exchange Act and expand the breadth of terms in the definition of “exchange,” which could broaden the definition to include cryptocurrency exchanges and DeFi platforms. This proposal has been aggressively attacked by the industry.

Finally, the SEC Complaint and DOJ Indictment offer insight into the investigative techniques used to combat fraud in the digital asset markets. For example, U.S. enforcement agencies were able to successfully investigate the alleged fraud despite various steps “the Defendants took … to conceal their communications and trading, including by utilizing multiple accounts, wallets, and addresses across multiple platforms, including foreign trading platforms,” and using foreign phones and chat apps to avoid having communications logged by U.S. phone companies. This underscores the importance for businesses servicing the crypto markets – even foreign-based businesses – to maintain robust programs to detect suspicious activity and respond appropriately to law enforcement requests.


It has been long anticipated that the SEC and DOJ would increase the number of enforcement actions related to crypto assets and blockchain technology-related assets, particularly with fraud schemes. Recently, the SEC significantly increased the enforcement staff of its Crypto Assets and Cyber Unit and has also emphasized its focus on cryptocurrency trading platforms that it views should be registered as exchanges. Similarly, the DOJ recently announced the formation of its National Cryptocurrency Enforcement Team. Crypto-related fraud and the implications of these actions for other crypto assets and exchanges in which crypto assets trade are in the government’s crosshairs.

The BakerHostetler White Collar, Investigations, and Securities Enforcement and Litigation team and Blockchain Technologies and Digital Assets team are composed of dozens of experienced individuals, including attorneys who have served in the DOJ and SEC. Our attorneys include former U.S. attorneys, branch chiefs and unit chiefs as well as partners who have served in the SEC’s Division of Enforcement and the SEC’s Office of the General Counsel, and attorneys with extensive experience across all sectors of the blockchain and cryptocurrency markets, including investigations, Bank Secrecy Act/anti-money laundering compliance, tax, privacy, transactions, intellectual property, media, and technology design. Please feel free to contact any of our experienced professionals if you have questions about this alert.

Authored by John Carney, Teresa Goody Guillén, Rob Musiala, Michelle Tanney, Veronica Reynolds, Kevin Edgar, Adam Gale and Jonno Forman

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