On January 10, 2022, tZERO’s ATS settled a case with the SEC in which it agreed to a fine of $800,000. Given the scale of the sanction and the considerable attention given to the SEC’s approach to digital asset securities regulation, readers may have thought this would present a hit set of facts. . Unfortunately, the settlement sheds little light on how the SEC seeks to regulate digital asset securities trading platforms, other than to show that the SEC continues to enforce existing rules and regulations, even when new facts and circumstances are at play. In fairness to the SEC, they have literally and continuously told the public that they take this approach. But saying something over and over again doesn’t validate a particular course of action.

For your information, tZERO operates an ATS that offers trading of both traditional securities (including “NMS securities”)[1] and what tZERO calls “digitally enhanced securities” — a term we only saw tZERO use until the SEC reiterated it in the settlement order — it kind of makes it a reality now. tZERO considers digitally enhanced securities as those that are “settled using software and a distributed ledger as the primary record of beneficial ownership” and others that are “traditional, non-certified securities whose ownership is followed by a transfer agent, with some additional technological elements”. ‘ as a ‘digital courtesy carbon copy’ of the official stock register. The two most notable digitally enhanced securities were issued by subsidiaries Overstock and tZERO Group, which required that these securities be traded only on tZERO’s ATS.

The settlement addresses three alleged violations:

  1. tZERO failed to timely file a required amendment to the Form ATS to reflect a material change in the operation of the platform. In particular, tZERO failed to disclose (for a period of nearly three years) that it shared order information from its after-hours NMS stock order book with an unregistered entity based in Asia. , whose assets were eventually acquired by a subsidiary of tZERO. tZERO took even longer to file the required disclosure regarding the affiliate nature of the relationship. ATSs are required to file changes to the ATS form at least 20 days before any material change in operations.
  2. In a similar but separate violation, tZERO failed to timely file an ATS Form Amendment to disclose that ATS’ sole subscriber broker clients would be able to view digitally enhanced securities orders based on the tZERO ATS. In this case, tZERO appears to have made the required deposit approximately three months after the start of this activity.
  3. tZERO violated the “equitable access” rule of the ATS regulations, which requires that an ATS with at least 5% of the average daily volume for any equity security that is not an NMS security and for which transactions are reported to an SRO to establish written standards for granting access to trading on its system, prohibit or unreasonably restrict any person’s access to the system, maintain certain records and report certain information on the ATS-R form. tZERO’s ATS was the only trading platform for some digitally enhanced securities and the SEC seems to view this as a de facto crossing of the 5% threshold, which isn’t much of a surprise. tZERO’s policies and procedures did not include standards for granting access as required by the rule – at one point they even erroneously stated that ATS was not subject to the requirement.

This regulation raises several questions to which we will probably never have answers. Does the SEC consider tZERO’s sharing of information with the Asian entity (later a subsidiary) problematic, or was it really relevant because tZERO did not disclose it? Did tZERO not provide fair access, or did it simply not have policies covering this requirement? Did the SEC consider the “digitally enhanced” or blockchain nature of tZERO’s business in setting the fine? Or did the duration and number of alleged violations contribute to the amount of the penalty? Anecdotally, $800,000 seems like an outsized penalty for alleged tZERO violations, but we’ll probably never know if there was more at stake here.

What we do know is that the SEC is content to apply existing rules and frameworks to new technologies and processes. We’ve all heard rumors of ideas for a new crypto regulator or new Capitol Hill legislation. None of these are likely, at least not anytime soon. Thus, the crypto and blockchain community should view this regulation as another reminder that the SEC expects its business practices to comply with the requirements of existing traditional federal securities laws, even when the platform form or protocol deploys new processes and technologies.

[1] An “NMS security” is a security or class of securities for which trade reports are collected, processed and made available in accordance with an effective trade reporting plan or an effective national market system plan for trade reporting. trades in listed options.

[View source.]