Lawyers are the apex predator of crypto • CEO Letter #85

Taylor Culbertson -

Howdy! This is Taylor, CEO of Hedgehog, where we help you corral the Wild West of crypto into an easily maintained, diversified crypto portfolio. *tips 10-gallon hat*

Remember, there's a giveaway at the end of every newsletter. Maybe 10-gallon hats should be the next addition to the Hedgehog merch lineup 🤠

Ordinals in Oakland

Before we get into the news — if you're located in the SF Bay Area, you are cordially invited to a meetup in Oakland on Sunday, February 26. My colleague Sonya is hosting alongside Casey Rodarmor, the inventor of Ordinals, a project that brings NFT-like capabilities to Bitcoin.

As Sonya put it, Ordinals "provoked reactions of rage and delight," and "you'll have to show up in person and ask Casey why the blazing laser eyes turned toward him." Hedgehog is buying the first couple of rounds, so go have a drink on me! No RSVP necessary; here are the event details.

Tldr: Allegedly we are not just tiny pictures and text on a screen, but also corporeal beings. Allegedly.

Crackdown on Kraken

The word "oof" comes to mind:

The U.S. Securities and Exchange Commission (SEC) announced charges against crypto exchange Kraken on Thursday, alleging its offering of a crypto staking-as-a-service program amounted to offering unregistered securities products in the U.S. To settle the charges, Kraken is paying $30 million and shutting all of its U.S. staking services.

The SEC's argument, laid out in a 25-page complaint [PDF], is pretty straightforward:

The Kraken Staking Program is an investment program created by Defendants that aggregates investors' crypto assets to enable Kraken to stake these pooled investor assets and achieve a competitive advantage in the staking marketplace. Through this pooling of crypto assets and Defendants' efforts, the Kraken Staking Program purports to offer investors benefits that are not available to investors who stake on their own. [...]

Defendants market the Kraken Staking Program by touting specified investment returns for certain staking-eligible crypto assets on the kraken.com website, on social media channels, and through advertisement emails. Defendants determine these returns, not the underlying blockchain protocols, and the returns are not necessarily dependent on the actual returns that Kraken receives from staking. [...]

Through the Kraken Staking Program, Defendants have offered and sold investment contracts without registering the offer or sales with the SEC as required by the federal securities laws, and no exemption from the registration requirement applied. The absence of any registration statement means that investors have lacked material information about the Kraken Staking Program. Missing material information includes, but is not limited to, the business and financial condition of Defendants, the fees charged by Defendants, the extent of Defendants' profits, and specific and detailed risks of the investment [...].

Bummer for Kraken! And a warning shot across the bow of all exchanges that offer staking services.

Tldr: In the depths of the ocean, giant squid are attacked by sperm whales. If the Kraken is the most gigantic squid, does that make the SEC the biggest whale around? On the one hand, "whale" means something different in crypto. On the other hand, nobody has more money or clout than the government.

Coinbase Armors Up

Coinbase is coming out swinging to defend its own staking product. Even before the Kraken news dropped, Coinbase CEO Brian Armstrong tweeted:

We're hearing rumors that the SEC would like to get rid of crypto staking in the U.S. for retail customers. I hope that's not the case as I believe it would be a terrible path for the U.S. if that was allowed to happen. Staking is a really important innovation in crypto. It allows users to participate directly in running open crypto networks. Staking brings many positive improvements to the space, including scalability, increased security, and reduced carbon footprints.

After the SEC's punishment of Kraken was announced, Coinbase chief legal officer Paul Grewal added, "True on-chain staking services like ours are fundamentally different," versus others that are "basically yield products." He continued:

Our customers' rewards are tethered to realities. They depend on the rewards paid by the protocol and commissions that we disclose. We don't play games.

Our customers have a right to their rewards. We can't just decide not to pay any rewards at all.

Our customers' assets always remain theirs and are accounted for transparently in regular public audits.

Our finances are a matter of public record. We provide deep insights into those finances every quarter. We have been providing staking services to our customers for years, and these services were described at length in our public filings when we became a public company in 2021.

Grewal further explained Coinbase's stance in a blog post: "Staking is not a security under the US Securities Act, nor under the Howey test. Trying to superimpose securities law onto a process like staking doesn’t help consumers at all and instead imposes unnecessarily aggressive mandates that will prevent US consumers from accessing basic crypto services and push users to offshore, unregulated platforms."

Tldr: It's a lawyer fight. Lawyers are the natural predator of squids and whales. Watch out!

Quick Hits

It was an eventful week, especially in the regulatory realm.

This news literally broke while I was writing the newsletter. Oh boy, never a dull moment!

Coinbase managed to tweet about this as well, insisting that "stablecoins are not securities." But what does or doesn't count as a security is, like, a social construct, man, and the SEC is in charge of these particular social constructs 😬

  • "Operation Choke Point 2.0 Is Underway, And Crypto Is In Its Crosshairs"

Investor Nic Carter painted a chilling picture of the chilling effect:

What began as a trickle is now a flood: the US government is using the banking sector to organize a sophisticated, widespread crackdown against the crypto industry. And the administration's efforts are no secret: they're expressed plainly in memos, regulatory guidance, and blog posts. However, the breadth of this plan — spanning virtually every financial regulator — as well as its highly coordinated nature, has even the most steely-eyed crypto veterans nervous that crypto businesses might end up completely unbanked, stablecoins may be stranded and unable to manage flows in and out of crypto, and exchanges might be shut off from the banking system entirely.

No need to panic, I hasten to add — panic isn't productive. It ain't over till it's over, and it ain't over yet. That said… Hedgehog has experienced what Carter describes. The team has figured out a couple workarounds, but it's still a disheartening trend.

Nonetheless, there's room for optimism:

The CEO of BitGo makes an argument for responsible and supervised crypto institutions. Speaking my language! This is exactly the path that Hedgehog wants to go down.

We sure know how to party in this newsletter! Compliance is a dry topic, but one that dictates a lot about the design of financial products. Recommended read for the turbo-nerds (never forget, "nerd" is properly used as praise).

Last week we talked about Uniswap governance. After all that kerfuffle, a16z's side lost the vote. Crypto politics, gotta love it!

Giveaway

[Wiz Khalifa voice] You know what it is, giveaway time! The winner gets to pick three prizes from this list:

  • insulated stainless steel water bottle with Hedgehog logo
  • official Hedgehog team baseball cap
  • snazzy Hedgehog socks
  • cozy Hedgehog hoodie
  • comfy Hedgehog baseball tee

Question of the week: Are you Team Sperm Whale, Team Giant Squid, or Team Lawyer?

Reply with your answer for a chance to win the giveaway.

Insert cute signoff here,
— Taylor

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