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SEC Trading and Markets updates Crypto FAQ:

I expect that law firms and consultants will quickly fill the gap on policies or BDs will use custodians that quickly provide those policies; the tech evaluations are more of a question mark. Most likely, BDs will use one of a number of custodians who provide these services.

What does this mean for BDs? Practically, they need new policies & procedures, a relevant tech evaluation, and either themselves or via a custodian, to be able to confirm that they have "access to" (not sure what that means) and the power to transfer the crypto asset security.

2. the guidance is expressly noted as an "interim" step while the Commission considers issues including market participant input. So, look for more clarity/an update to this in the short to medium term.

ANALYSIS- what does all of this mean? A few thoughts. 1. You can't posses, much less physically posssess an intanigble, and the "control" elements here are lacking. However, this guidance addresses a single provision in a single statute so its broader impact is limited.

lock crypto asset securities; (iii) allow for the transfer of the crypto asset securities held by the BD to a broker-dealer, trustee, receiver, liquidator, etc if the BD can no longer continue as a going concern & liquidates or is subject to bankruptcy or similar.

the 5th measure requires a BD to establish/maintain/ /enforce written policies/ procedures/ arrangements to: (i) specifically identify measures to handle risks including tech malfuncitons, 51% attacks, hard forks, airdrops, (ii) comply with orders to seize/freeze/burn

The point of this measure is that BD must confirm that it has the exlusive authorization to cause a transfer of the crypto asset security. This is also drafted in a manner that allows for subcustodians/shared power.

the 4th "measure" requires a BD to establish, maintain & enforce written policies/procedures/controls consistent w/industry best practices to protect against theft/ loss, /unauthorized /accidental use of the private keys necessary to access & transfer the crypto asset security.

In this case BDs would be focused on material risks arising from "possession" & not other risks like market /reputational risk. This provides reasonable assurance that the BD will not deem itself to be in possession of a crypto asset security if it would expose the BD to risks.

the 3rd "measure" allows a BD to not deem itself to possess a crypto asset security if the BD is aware of any material security /operational problems weaknesses with DLT and network supporting the crypto asset security /8

The assessment would examine the DLT & its network, and its governance, including how protocol updates and changes are determined and implemented. This is to allow the BD to idenitfy risks and reduce its exposure to those risks. /7

the 2nd factor is established + enforced written policies & procedures to conduct and document an assessment of the DLT & the associated network where transfers of ownership of a crypto asset security are recorded prior taking possession of the crypto asset security, /6

the first factor is the power to access and capability to transfer the cryptoasset security on the native blockchain. Points for a functional test, and points for requiring control to be system level transfer power. Also nicely crafted to allow sub custodians. /5

we've seen control tests used in other laws (Esign/UETA). Note that the statute, 15c3-3(b)(1) requires "physical posssession or control" but the guidance declines to provide an alternative definition of control instead offering a 5 factor test to find "physical possession". /4

this guidance attempts to solve an interesting question- how do you "physically possess" an intangible? As a matter of law you can't. In the context of the UCC, which like the SEC BD Regs require "possession," the 2022 Amendments solve this issue by via a "control test" /3

"crypto asset securities" are defined as "crypto assets that are securities" and expressly include "tokenized versions of an equity or debt security." /2

SEC issues guidance on how a broker dealer can be in "physical possession" of crypto asset securities carried for the account of customers. Some really interesting nuggets in here... /1

Gone: the CFTC's 2020 actual delivery guidance. h/t @mdf2000 for spotting. Does this signal the return of leverage to US spot crypto exchanges?