Aberdeen, IVP investors: SEC investigation offers needed guidance on digital tokens

Venture investors are welcoming recent government action in the cryptocurrency sector as an injection of clarity that can help to distinguish scams from legitimate companies.

On July 25, the Securities and Exchange Commission released an investigation into a May 2016 token sale where about $50 million of the digital currency ether, which is used in the Etherium blockchain network, was stolen after being raised to crowdfund a decentralized investment fund. The agency found that the tokens issued in exchange for ether were securities and subject to federal securities law, which offers the first insight on how the SEC might govern the issuance of such tokens in the future.

A day after the SEC’s ruling, the Department of Justice disclosed it had indicted the Russian operator of a bitcoin exchange the agency alleges to be a money laundering scheme that received deposits valued at more than $4 billion.

In the wake of the announcements, the total market capitalization of cryptocurrencies dropped to about $84 billion from a high of nearly $96 billion only a few days before, according to the site coinmarketcap.com, which tracks the value of cryptocurrencies and assets on public exchanges.

For investors actively looking at cryptocurrencies and blockchain technologies or are considering doing so, the news was a relief.

“With respect to the pressing question of whether or not (digital) coins are securities, we now have some clarity,” said Peter Denious, head of global venture capital at Aberdeen Asset Management, which has overseen some $2 billion committed to more than 200 venture funds over the past 15 years. “With (the SEC’s) promulgation we have the clarity to clear the cobwebs and allow people to apply a set of determinations whether coins will be designated as securities.”

Peter Denious, head of global venture capital, Aberdeen Asset Management. Photo courtesy of the firm.

Denious said he has met with five or six hedge and venture funds that invest in cryptocurrencies or blockchain technologies, but has not yet made any investments in the sector. He declined to name the funds.

The SEC’s ruling removes one impediment to institutions like his from investing, Denious said, but uncertainties remain.

“We’re still in the early days of institutions having the comfort to step up and invest,” he said, “But the SEC knocked down one of those elements of unclarity.”

Other venture investors expected the SEC’s ruling. “This was not exactly a surprise,” said Tom Loverro, a principal at IVP who focuses on investing in fintech. “And it’s good in tamping down some of the speculation, both for investors and consumers.”

Tom Loverro IVP
Tom Loverro, principal, IVP. Photo courtesy of the firm.

Loverro recently made two investments into fintech companies that involve blockchain technology, one directly, and one tangentially, he said. He declined to name the companies.

Although investing in digital tokens has the advantage of extreme liquidity, IVP has not purchased any digital tokens themselves, Loverro said, instead focusing on companies that use blockchain technology.

The SEC’s ruling was balanced, Loverro pointed out, and it avoided outright banning digital tokens or making specific policy recommendations.

Most investors agree that the agency’s ruling is positive, with few downsides. The only potential negative side effect to the ruling, Denious pointed out, would be the possibility of companies planning a future ICO outside the U.S. market to avoid SEC regulations. “But that would be the only negative I can think of,” he said.

And as cryptocurrencies slowly shed their outlaw reputations, some limited partners are expressing increased interest in the emerging asset class. Individual investors, family offices, advisory firms, and endowments are eager to learn about crypto assets and the companies that apply blockchain-based technologies, according to Christopher Calicott, a managing director at Trammell Venture Partners, which invests in machine intelligence, blockchain, and cybersecurity companies.

“But I would not say that I’ve gotten any signal in terms of their appetite for one asset class versus another,” he said, speaking with VCJ before the SEC’s ruling. “Everyone is just trying to wrap their head around the space in general.”

Given LPs’ varied appetite for risk and investment decision making process, it’s difficult to generalize about their willingness to invest in blockchain technologies, Denious said. “But we frankly haven’t seen a lot of interest in the sector from what I would say are “traditional” LPs,” he added.

And although Denious and Loverro believe that current cryptocurrency valuations are in a bubble, they don’t believe the recent government enforcement will precipitate a crash.

“The SEC announcement had the effect of slowing down some of the ICOs,” Denious said. “This was going too far and too fast. At a minimum we’re going to see a slowdown and it could be more significant, but it’s premature to call it a correction.”

“We haven’t had a crash yet on the ICOs,” Loverro said. “That’s still coming.”

Photo of gold ether icon on black digital background courtesy of BackyardProduction/iStock/Getty Images