CFTC flexes muscles in actions against allegedly fraudulent digital-token issuers

The SEC has made headlines in recent weeks as it investigates token offerings that may be in violation of securities laws, but it is not the only regulator to probe potentially dishonest or fraudulent cryptocurrency projects.

The U.S. Commodity Futures Trading Commission, which regulates derivatives markets, is also asserting its jurisdiction in clamping down on fraud in cryptocurrency issuances.

Historically, the agency has regulated designated contract markets, including those for such natural resources as oil, copper, and gold, as well as financial products like interest rates and foreign currencies.

Now, it is taking action in the cryptocurrency sector, filing federal lawsuits against several token issuers.

In January, the agency filed a complaint against Patrick McDonnell and CabbageTech, doing business as Coin Drop Markets, charging them with fraud and misappropriation in connection with purchases and trading of Bitcoin and Litecoin.

On March 6, a judge in U.S. District Court for the Eastern District of New York upheld the CFTC’s argument that cryptocurrencies may be commodities and can be regulated by the commission. Judge Jack B. Weinstein granted a preliminary injunction against the defendants. The defendants are required to turn over all documents to be used in testimony to the CFTC within 10 days, and an evidentiary hearing is scheduled for June 5.

The ruling is a milestone for the agency and paves the way for it to further broaden its oversight of intangible commodities, according to Brian Michael, a partner at the law office of King & Spalding and a former federal prosecutor.

Meanwhile, the CFTC is pursuing action against other individuals and entities in connection with alleged cryptocurrency scams, including My Big Coin Pay for allegedly fraudulently offering a virtual currency and Entrepreneurs Headquarters Ltd for alleged misappropriation of customer funds.

Defendants in the My Big Coin Pay case requested that a preliminary injunction hearing be delayed until April 5th to give the defense counsel time to address the “novel and legal and factual issues regarding virtual currency.” Defendants in the Entrepreneurs Headquarters Ltd case have until March 20 to respond to a summons from the CFTC.

As the CFTC and SEC pursue actions in tandem against alleged wrongdoers in the cryptocurrency space, certain digital assets may be deemed securities and commodities.

Gates Hurand, a trial attorney with the CFTC, characterized the agencies and initial coin offerings — ICOs — as the SEC having jurisdiction over the “O,” or offering, with the CFTC having jurisdiction over the “C,” or coin.

Some token issuers may try to overemphasize the utility of their tokens to avert the SEC labeling them securities. But that can create problems if the tokens are determined to be commodities.

Regulators are “playing catch up,” Hurand said at a recent ICO-regulation event in San Francisco, hosted by the National Venture Capital Association.

“But it doesn’t seem like a very good place to be if someone’s trying to be coy to avoid the jurisdiction of the SEC on one hand and avoid the CFTC on the other.”

In January, Jay Clayton and J. Christopher Giancarlo, chairmen of the SEC and the CFTC, respectively, published a joint op-ed in the Wall Street Journal on cryptocurrencies and ICOs, indicating that the two agencies are working together in their investigations.

Other regulators are taking critical looks at the cryptocurrency space, including the Treasury Department, the Federal Trade Commission, the Financial Crimes Enforcement Network, state attorneys general, and the Department of Financial Services, Michael said.

“We’re very much in the early stage of seeing how these overlapping jurisdictions will play out.”

Disclosure: Kaitlyn Bartley and her husband own cryptocurrencies, including Ripple’s XRP.

Photo of 3D rendering of crypto coins on financial graph background courtesy of monsitj/iStock/Getty Images.