The SEC, ETFs, XRP and Crypto Regulations with Jake Chervinsky

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I am sceptical about this concept of doing a securities issuance and then trying to escape liability by converting the token you used for that issuance into something else, this is not how liability works. If you violate the securities law, you are liable no matter what you do afterwards.”
— Jake Chervinsky

Interview location: Skype
Interview date: Wed 19th September 2018
Company: Kobre & Kim
Role: Associate Lawyer

The growth of Cryptocurrencies has increasingly come under the lens of regulators. From Wall Street adoption to raising finance, Cryptocurrencies are rubbing shoulders with traditional finance. As regulators work to ensure that Cryptocurrencies are following due process, the industry is watching closely.

In this episode I talk to lawyer Jake Chervinsky from Kobre & Kim, a firm who represents Cryptocurrency companies about:

  • The SEC

  • Securities

  • ETFs

  • Bakkt

  • FINRA

  • The Banking Secrecy Act

  • Shapeshift

  • KYC/AML

  • Market manipulation

  • XRP

 

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AUDIO TRANSCRIPTION

Peter McCormack: Good Evening Jake. Well, it’s evening here in England, what time is it there in New York?

Jake Chervinsky: So a little after 5:00 PM. I’m in Washington DC actually.

Peter McCormack: Oh yes. Sorry. You’re in Washington but you also spend a bit of time in New York, right?

Jake Chervinsky: Yeah. So my firm’s headquarters is in New York, so I’m up there fairly often.

Peter McCormack: I’m very proud to have you on the show. I think I’m one of your first. So, I really appreciate all the work you do. I think you are valued by the people who follow you, but you’re a not well enough known resource on Twitter. I think this is going to be a very important interview and I’ve got a lot of questions for you. As you know, my style is to try and ask the simple questions to try and help people understand everything that’s going on and it feels to me that even though we have this borderless Crypto, that America seems to be the world police for what’s going to happen, especially with the SEC, apart from say some rogue small countries like Malta. So I want to get into that, but before we do, I don’t usually do an origin story because they usually exist, but it would be great to hear your origin story and how you got into crypto and why it’s become so important for you.

Jake Chervinsky: Thank you very much for having me on, I’m a big fan so I’m thrilled to be here. So I am a lawyer in a private practice. I work for a law firm called Kobre & Kim, as I said in Washington DC. I focus on government enforcement, Defence and Securities Litigation. So I represent individual and corporate clients who are being investigated or prosecuted by the U. S government for alleged regulatory violations or for alleged criminal conduct. I also represent clients in civil litigation related to similar issues, usually financial services or Securities issues as far as my professional background. So I graduated law school in 2013, I worked for a few years after that for a different law firm in DC doing mostly the anticorruption and anti-money laundering, compliance and investigations. I left the firm and moved to Los Angeles in 2016, to clerk for a federal district judge. This was a one year position. So when I finished I came back to DC and started working for my current firm, which is a litigation boutique specialising in mostly complex cross border disputes and investigations.

Peter McCormack: Oh Wow. Okay. So did crypto come to you or did you come to crypto? Like was it a specific client that raised crypto to you?

Jake Chervinsky: It actually wasn’t a client, so I sort of fell into it by accident, I guess the way that most of us do. I came across crypto a bunch of times over the last five years or so. I think I first came across Bitcoin in 2013 when I was doing some anti money laundering work at my last firm and I was looking into FINCEN regulations that has just been passed about virtual currency and I wrote like a paragraph on what the regulations were, but it never occurred to me to look into what it actually was. It wasn’t until last year, 2017 that it really clicked for me. I think the reason, well, a couple reasons that I find it so fascinating. I mean, first of all I’m sort of a tech nerd, so as a kid I was going to computer camp and building PCs and programming websites and html and all that kind of stuff.

Jake Chervinsky: I mean, I’m certainly not a programmer, but even though I decided to become a lawyer instead of a computer scientist or a software engineer or something like that. I’ve just always loved technology. So that aspect of the space really spoke to me. At the same time I’ve really found the economic and monetary aspects of Bitcoin fascinating. So like I said, a lot of my work is in the financial services industry and most of what I do is adversarial to the government. So when I started learning more about Bitcoin last year and I was reading, you know, Bitcoiners or I was watching an Andreas Antonopoulos videos and they’re talking about things like separating money from state and disintermediating rent seeking third parties in the finance industry. This stuff was right up my alley. I was primed for that. so, you know, I think last year I saw a random article about price action and decided, okay, fine, let me figure out what this thing is and I just couldn’t stop for hours and days and weeks reading and learning everything I could about what Bitcoin is, how it works, what the technology is, hashing and digital signatures and proof of work and a scaling debate and all this stuff.

Jake Chervinsky: And you know, also went down the same odd tangents that we all do with the altcoins. But, you know, Bitcoin is king. So I’ve always come back to that. And you know, earlier this year, 2018, I just realised there was so much going on from a legal perspective that I wanted to make this the focus of my practice, and so I decided to fire up my twitter account and here I am.

Peter McCormack: So, you fell down the rabbit hole as we all do initially as a personal interest, but then obviously useful you spotted the commercial opportunity for your firm. And does that mean you are heading up a specific crypto division within the firm?

Jake Chervinsky: So, we actually have several lawyers who work on crypto. I was lucky to get a job at a firm when I came back to DC that already had a really amazing fintech practice.

Jake Chervinsky: So, just a little bit about my firm, so we focus on international disputes and investigations, but most of our cases deal with allegations of fraud misconduct and most related to financial services. So for example, one of our main areas of practice is defending traders who are being prosecuted for market manipulation, which obviously is going to become an issue. We can talk about that a little later, but I think is going to become a big issue in the crypto space. So I was lucky to fall into a group of people who are already interested in this space and engaged in the crypto world. We also have a little bit of a different business model for most firms. We tend not to develop ongoing long standing relationships with large financial institutions. We also tend to take more risks, a little bit more aggressive than some other firms, so whereas a lot of law firms are afraid of getting involved in crypto, my firm is very supportive of my being active on twitter and learning and writing about the space.

Peter McCormack: Is that to avoid any form of conflict of interest, those kind of retained accounts?

Jake Chervinsky: Yeah, exactly. So we describe it as a conflict free business model and what it does is it frees us up to litigate cases against any number of financial institutions that most Wall Street law firms are already representing in one way or another, and therefore can’t take cases against their own clients. We also don’t have a transactional or corporate practice. We only do disputes and investigations, which allows us to be a little bit more aggressive with the government. So, you know, some firms are doing a government enforcement defence on Monday and they’re at the SEC arguing vigorously about some issue, but then on Tuesday they are back in front of the SEC begging and pleading to get some other financial product approved. And so they have to maintain more of a friendly relationship with the government. We don’t. So that frees us up to be a little bit more aggressive than some firms.

Peter McCormack: So, you’re part of the resistance then?

Jake Chervinsky: If you want to put it that way, I won’t argue.

Peter McCormack: Okay. So look there’s a lot of people out here who started to get involved in Crypto and bitcoin and there’s different incentives. Most people have a financial incentive, but a lot of people do love and understand the benefits of the technology, the real world use cases and the likes of Venezuela. I think we read about Palestine this week, but it seems to a lot of people that the SEC are kind of kind of holding the purse strings for kind of future success. But at the same time, I’m not based in the US, and a lot of other people aren’t based in the US. So can you just for those who don’t understand, who, tell us who the SEC is, what is their jurisdiction and the powers they have?

Jake Chervinsky: So, the SEC is the Securities and Exchange Commission and is the federal agency responsible for interpreting and enforcing the federal securities laws.

Peter McCormack: They don’t write laws, right?

Jake Chervinsky: They don’t write the laws themselves, so they are enforcing laws that Congress has written and enacted that are codified in the US code. The SEC does have the ability to do some of its own rule making. So the statutes, like the securities Act of 1933 has the broad strokes of what the securities regulations should be, but the SEC gets to fill in some of the blanks about the day to day details of how those regulations will be implemented. But you’re right, they don’t write the laws themselves.

Peter McCormack: So right now, I guess a lot of the work being done is to see if crypto can fit within current laws or if new laws are required.

Jake Chervinsky: Yeah, I think that’s the question for Congress right now. In theory at some point in the future, Congress could draft a brand new crypto specific piece of legislation that clarifies some of these issues that right now are still pretty uncertain, but it is certainly possible that the SEC can handle all of this in their rule making authority within the existing security framework.

Peter McCormack: And the extent of the powers they have, in terms of if there are people do commit some kind of securities fraud or a break of the security laws?

Jake Chervinsky: Well, securities fraud is a specific type of Securities violation, I would say in general, a violation of the Securities laws.

Peter McCormack: So what powers do they have?

Jake Chervinsky: So, the Sec has enforcement power to enforce all of the federal Securities laws. There are a bunch of different rules that they have passed to implement the statutes that restrict, for example, manipulation, fraud, misrepresentation, a failure to comply with some of the affirmative obligations of the Securities laws. So for example, most issuers of Securities have to register their Security with the Sec if they fail to register their Security, but they promote it and sell it anyway, then they may have violated Section five and 12 of the Securities Act and the Sec could go after them for dealing and unregistered Security. There’s an entire division of enforcement at the Sec that handles this. They have subpoena power. They can bring administrative cases which are handled in house at the Sec by administrative law judges and they can also bring civil or criminal actions.

Peter McCormack: So, this is where we kind of have a grey area with ICOs in that almost, almost no ICO registered as a Security last year. Probably even didn’t even realises what a Security actually is, probably a term that was new to most people last year. I think a lot of people thought these are just monetary tokens, a digital virtual, but now with the Sec lens on them, I guess in hindsight and many of these tokens should have been registered as a Security.

Jake Chervinsky: Yeah. So I think last year the discussion was a little bit different. I think people at that time were trying to treat these tokens as utility tokens or maybe they were trying to do their issuance outside the jurisdiction of the Sec by keeping the ICO outside of us borders and conducting the transaction in some other country and screening out us investors. There were also some other mechanisms that folks are trying to use to stop these tokens from being subjected to the Securities laws like SAFT agreements, the simple agreement for future tokens. I think that the more we look at these products and the more we consider the existing Security framework, specifically the Howie test, which has gotten a lot of a lot of press and a lot of discussion in the crypto space. The more it looks like your average token probably is a Security that assuming it’s subject to SDC jurisdiction should have been registered before it was issued.

Peter McCormack: But at the same time, it seems like the Sec have only really gone after the outright scams, the obvious, scams within the market and have taken quite a light touch with everything else. Um, why do you think that is?

Jake Chervinsky: Well, you know, that’s what they’ve done so far. I wouldn’t bank on that being how it goes for the next few years. I think that’s going to change and I think it’ll change pretty soon. So you’re right that for the last year or so, the SEC was mostly going after outright fraud and Ponzi schemes that were not just failing to comply with the securities regulations, but were being issued by truly malicious actors who are trying to take advantage of and swindle retail investors, that’s already starting to change. Just last week the SEC announced its first action against a crypto company that had failed to register, but did not do any other act of fraud or misrepresentation or anything malicious like that. So I think we’re going to see a lot more actions in the future for pure regulatory violations even where the crypto company was acting honestly and in good faith and was trying to comply with laws but simply failed to do so.

Peter McCormack: But at the same time, I read that any, any action that is followed with some form of compliance or liaison with the SEC openly doesn’t mean they’ll actually be closed down or prosecuted. They can actually work with the SEC. Right?

Jake Chervinsky: Yeah, that’s right. So I think there’s a common misconception in the crypto space that securities enforcement is all or nothing, right? That either you have not committed a securities violation and you’re fined

Peter McCormack: Or you go to jail.

Jake Chervinsky: You have to dissolve your company, you have to liquidate all your tokens and you’re going to go to jail. That’s not how regulatory enforcement works at all. So let me give you a quick summary of how these things usually work. So you’re, you’re an ICO. One day you get a subpoena from the SEC, it says the SEC suspects that you have violated Section five and Section 12 day of the Securities Act, which is the rules that require you to register a Security before you issue it. The SEC subpoena then asks you to respond with a bunch of information and maybe to send out a bunch of documents.

Jake Chervinsky: And this begins in negotiation between you and the SEC over how this enforcement issue will be resolved. Normally where this goes is you and the SEC sit down in a conference room across the table from each other and you negotiate. And in a typical business style negotiation where you say to the SEC, here are the weaknesses in your case. Here’s why we don’t think you can prove in court that we violated the Securities laws. They respond, here are the strengths in our case, here are the weaknesses in yours. You talk about the risk of what will happen if you can’t make a deal, which is if you go to trial and you beat the SEC, they’re embarrassed. If you lose the penalties can be very severe. And then you work out a deal and the deal usually does not involve you going to jail and dissolve your company or else you wouldn’t make a deal in the first place. So these things all get worked out in a standard negotiation.

Peter McCormack: Sounds like a plea deal of some kind.

Jake Chervinsky: Yeah, it’s a negotiation. So, the SEC is afraid they’re going to lose a trial or that you’re going to reveal that whatever their theory of liability is, doesn’t hold water and that’s going to screw them up and not just with you, but with every other company that they’re saying the exact same thing to in another conference room in another building. They don’t want bad precedent created because it’ll. It’ll mess up their law enforcement strategy, so usually in these cases tend to get settled because it’s better for everyone. It’s less costly. There’s less risk and usually the settlements, as long as the company is willing to comply with the securities regulations, probably pay a fine and remediate whatever issue there was that you didn’t register your security. Maybe now you have to, but as long as you’re willing to play ball in that way, you’re probably going to be okay.

Peter McCormack: I don’t know the relationship between the various government agencies, but one thing that appears to be quite good from America’s point of view, than compared to someone like China is the fostering of innovation and the supporting of capital formation. I guess if they do come down hard on every single ICO from day one, it might have not been such an entrepreneurial environment for US ICOs.

Jake Chervinsky: Yeah, that’s right. I think the SEC understands the potential value of this space or at least they’re trying to. The United States does not want to push entrepreneurs to other countries. The US wants to attract healthy and productive development of any space. As you mentioned, innovation is an important issue for the US. So what the SEC is trying to do isn’t destroy crypto or take control over crypto, like I think some other countries might be trying to do what they want to do is allow the space to develop a healthy and safe fashion where the technology can move forward without simultaneously hurting retail investors, which is something that has happened I think pretty significantly over the course of the last year.

Peter McCormack: Just so other people understand what actually constitutes a Security.

Jake Chervinsky: So basically, all the security is a financial instrument that holds monetary value in some way. And usually but not always, isn’t negotiable, meaning you can transfer the security between yourself and some other party. So there’s sort of three or four main categories of securities. There are equity securities which are securities where you as the holder own a piece of an underlying asset, so like a share of a company, if you own Apple stock, you own a piece of Apple that’s an equity security. Then there are debt securities where you don’t own any underlying asset, but instead you have invested money in someone else with the promise that they will repay you money, and usually with interest. So that would be like a corporate bond or a treasury bill. Those are debt securities. Then you have derivative securities which are futures contracts, options, contracts, swaps, these are securities that derive their value from some other underlying assets. So we have Bitcoin futures, the futures contract, its a derivative security that derives its value from the price of Bitcoin. And then lastly, you have hybrid securities which sort of combine some elements of these other three categories.

Peter McCormack: And are there any specific legal requirements for issuing a security in terms of who can and when you are an issue in a security, are there specific rules you have to follow outside of registering the security, as you’ve already mentioned?

Jake Chervinsky: Yeah, I mean there are a ton of requirements as you might imagine, right? There are any number Wall Street law firms that you can pay a lot of money to, to explain to you how to comply with all the regulations for issuing a security. It depends on what kind of security you want to issue. So in the usual example, if you’re doing an IPO, an initial public offering, meaning you’re telling your security to all comers in the general public, anyone who has enough money can buy your security. You’re going to have to register it with the SEC. You’re going to have to comply with the disclosure obligations of the securities laws. You have to provide information about who you are, what your business model is, what your assets and liabilities are, what risks face your business, you’re going to have to do regular disclosures quarterly and annual disclosure, I mean, there are all of these different requirements in a usual circumstance.

Jake Chervinsky: Now there are other types of securities where you don’t have to comply with those requirements. For example, there’s something called a private placement, which is a security issuance under the SECs regulation D, where pretty much, if you only sell your security to accredited investors, you enjoy a safe harbour from the securities regulations. You do not need to register. You do not need to do the typical disclosures. That’s why we see a lot of securities only getting sold to accredited investors, because it means that the company issuing the security doesn’t have to spend the, I think it’s on average between one and $2, million dollars to do an IPO.

Peter McCormack: Okay. Wow. Okay. I think the accredited investor rules that you have to have something like, what is it like $250,000 a year and have over a million in assets?

Jake Chervinsky: Yeah, it’s, it’s pretty close to that. I mean, it is basically a wealth test. There are other ways to be an accredited investor. So for example, if you are a registered broker dealer, then you don’t necessarily have to meet the love requirements. If you’re a director or officer of the issuer of the security, you can buy that security. You’re accredited for purposes of that issuance, basically the accredited investor rules are wealth test and there’s a lot of controversy about whether and how that should change.

Peter McCormack: Did I read correctly? I was researching for this interview but I’m sure a long time ago, this came from something like the, was it the 1929 crash? It was because so many people lost money investing in the stock market. Does it go that far back?

Jake Chervinsky: Yeah. So the modern securities framework that we still live with today dates back to the 19 thirties. It was born, as you said, from the Great Depression. So yeah. So stop me if this sounds familiar to you. So in the 19 years there was a speculative mania. This was the understanding in the 19 theories of how the Great Depression happened is speculative mania due in large part to easy access to capital over overuse of margin financing, um, too much hype about post-war economic opportunities and sort of like a general culture of rags to riches success. The idea was all you have to do is buy these securities and we promise you’ll be rich. So all of these issuers, you know, came up with is security is and told everyone just by these don’t ask any questions, don’t worry about it. Everything will be fine, and of course in 1929, that bubble popped, the reaction to this in the thirties was to say, to prevent another speculative mania like this, we need to close the information gap between issuers and investors.

Jake Chervinsky: That is to say there is information that investors should have in order to make an informed decision about the securities that they’re buying and holding and only the issuer has that information, right? Who they are, what their business model is, what their risks are, all that stuff. So the basic idea behind the securities regulations was to make sure that investors have basic information about securities and then also to prohibit issuers from a perpetrating acts of fraud and misrepresentation on the market, which you would think would already have been illegal. But in fact one of the key things that the securities act of 1933 did was to how outlaw fraudulent conduct.

Peter McCormack: But it seems a little bit outdated now. You talk about a wealth test, but if it is a wealth test without an intelligence test it is kind of myopic, especially seeing I know some pretty smart people who would not pass the accredited accreditation, but I know some pretty dumb people with a lot of money. You could easily lose it pretty quickly. And I guess, I guess this is the point now, people are starting to feel like these regulations are outdated and unfair.

Peter McCormack: Yeah. Well I think I agree with you about the accredited investor rules. I think that is one example of a piece of the securities frameworks, that doesn’t make a lot of sense anymore. I think at one point it did, I mean, the idea is that if your investors have a certain level of sophistication, it’s okay not to give them this basic information that you would want a regular retail investor to have. And in an earlier era where it really was impossible to conduct due diligence, right, in the years before the Internet, before all the information in the world was at our fingertips and there really was no way to figure out what an issuer was doing. It made sense to a degree at least to exclude people who were not sophisticated investors. I completely agree that the problem is equating sophistication with how much money you have.

Jake Chervinsky: I don’t think that makes a whole lot of sense. I think most people agree about that. Even the chairman of the SEC, Jay Clayton recently said that if he could find a way to maintain the same level of investor protections while changing the accredited investor rules, he would do that. So I think it’s only a matter of time until we come up with some other way of doing this. I will say generally speaking, I don’t think that the securities laws are so outdated that we need to start from scratch. I think that core concept that it’s important for investors to have basic information about the Securities they buy and hold that it’s important for market participants like issuers and exchanges and brokers, to you know, not commit acts that creates systemic risk, right? Using too much leverage and other practices that got us into the financial crisis, for example, securitising bad mortgages, you know, these concepts still make sense. It’s just a matter of updating the laws for the digital age. There’s a lot about the laws that made sense when they were written, but that when you put them into the context of, for example, digital tokens issued on a blockchain in 2018, it just doesn’t match up that well.

Peter McCormack: I think most people feel like the, the biggest problem with the accreditation is the affordability test because it’s arbitrarily unfair on many people who want to invest, who do want to have the opportunity to, invest in certain things.

Jake Chervinsky: Yeah, I mean I think that’s a big problem. I also think another issue is there weren’t so many private placements until recent years. It was more expected for a company that wanted to raise capital through securities issuance to do so through an IPO. But the regulations have become so onerous and the costs of doing an IPO has become so much that many more companies are now staying private and allowing only private equity firms and individually accredited investors to buy their securities. So, I think there isn’t much incentive anymore for companies to stay public. We’re seeing a lot fewer IPOs and if not for that, the accredited investors might not be that much of an issue because, if there were more IPOs then regular folks like you and me could still get access to interesting securities that are likely to accrue value. But because of how the market is, we’re not able to.

Peter McCormack: One of the things I find interesting right now is there are a number of ICOs which issued last year who are now changing the value of the token, the utility of the token in fear of the securities regulations and at the same time the industry is trying to find some form of utility outside of Bitcoin one of the most interest in areas is also then the tokenisation of assets. It’s kind of a strange conflicting story happening.

Jake Chervinsky: Yeah, I agree. I mean, I. first of all, I’m sceptical about this concept of doing a securities issuance and then trying to escape liability by converting the token that you use to do that issuance into something else. That’s not how liability works, right? So take the example of a drug dealer, you can’t just say to the government, Hey, I’m going to stop dealing drugs now, please don’t prosecute me for all those times I did deal drugs, right? If you violate the securities laws, you’re liable no matter what you do afterwards, you may have less damages because the harm that you have theoretically caused to investors is less because you have stopped promoting the security, that doesn’t change the question whether you are liable or not.

Peter McCormack: And then also we’ve seen, I guess a cloudy grey area around the Ethereum is a security. There was some kind of official/unofficial response to that. It may have started as a security, but now it’s decentralised. It isn’t a security. And then following that, Ripple/XRP has gone on the march of decentralisation for Ripple claiming XRP is decentralised. There’s almost like a changing narrative there too.

Jake Chervinsky: Yeah. Well we can get into Ripple and XRP in a minute. Let me tackle and security issue for us. So yeah, in June on Bill Hinman, who is the director of the division of corporate finance at the SEC, gave an official statement where he said that he views Bitcoin as not a Security and probably never was. And the theory based on the status of the network today is not a security, but he said, putting aside the question of whether it was a security at the time it was issued, I’m not going to express an opinion now about whether Ethereum was or wasn’t a security, but clearly there is a difference between using a crypto asset for the purpose of raising capital to fund the development of a network versus where Ethereum is now, where so many people are building on it, it does serve a use case.

Jake Chervinsky: I mean, if you’re not a fan of Ethereum, you may disagree with this, but it does serve the use case of I’m paying for transactions on the network. So I think it makes sense to consider a framework in which you can have a token that’s starts life as a security, and then it evolves over time to become not a security at some point in the future. And that’s what Hinman said. You mentioned that it was unofficial and that’s a really good point. This is not the rule making that I was talking about that the SEC gets to do when the SEC makes rules that are binding, they have to go through a whole process that looks a lot like this ETF process we’ve been following. They have to publish the proposed rule in the Federal Register. They have to solicit notice and comments. They have to issue a formal binding rule. This was just one of the directors saying what his opinion was. He could finish his time at the SEC and someone else could come in and take the opposite view and there would be nothing wrong with the SEC doing a complete 180. So while the Securities bar that the Securities lawyers who are following the SEC, more or less take what someone in Bill Hinman’s position says as gospel. It’s not something you want to hang your hat on.

Peter McCormack: Right? Okay. I have a feeling you want to talk about Ripple or XRP.

Jake Chervinsky: Maybe the same thing, maybe not. Okay. So yeah, we can. We can talk this. I get asked about Ripple and more than anything else by far on twitter,

Peter McCormack: I think there’s essentially split the community. There are a staunch advocates of Ripple who will argue against Bitcoin and then there’s Ripple haters. I’m probably in the latter camp, something I invested in early on and did okay with, but as I’ve come to understand Bitcoin or crypto more I like it less, I kind of wish I had Ryan Selkis with me, he would probably have better questions, tell me the picture for Ripple and XRP as you see it. And isn’t it so funny how so many people in this space started with Ripple and then moved on to something else but still made a boatload of money in the process? I think there’s three they understand with Bitcoin Dogecoin or Ripple, right.

Jake Chervinsky: Let me start with a whole bunch of disclaimers because I’m a lawyer and so that’s what I have to do. So nothing I say is legal or financial advice. Don’t trade or make any financial decisions based on what I’m saying. I have no opinion about whether XRP is or isn’t a Security. I don’t know what’s going to happen with Ripple. Okay?

Jake Chervinsky: I think that does it. You know, one thing that’s funny is I’m on twitter and I have followers in both of those camps you mentioned. I have a lot of fans of Ripple who are following me, because I tweet a lot about what’s going on with Ripple and then I have a lot of followers who are more in your camp. So hopefully I won’t alienate one or the other when this podcast comes out. The interesting thing about Ripple, I don’t mean to make any statements about the connection between XRP and Ripple, I’ll use them interchangeably. But the interesting thing about Ripple is this, the securities issue related to XRP is already being litigated in state and federal court in California. It’s actually furthest along as compared to any other token or ICO or crypto asset in getting to a resolution on this question, whether it is or isn’t the Security.

Jake Chervinsky: There are two cases in California state court, there’s one in California federal court. All of them basically allege the same thing that Ripple created, promoted and sold an unregistered security, that is XRP, that because XRP is a security, Ripple was required to register it first and provide all the disclosures that they’re required to provide under both California state and federal law. And by failing to do that, they violated state and federal securities laws. The cases are still very early stage, but at some point this question will be in front of a judge who in theory could say categorically XRP is or is not a security or could say, this is an issue for a jury to decide by trial and then we get 12 lay people chosen through the jury selection process in California who gets to make the decision whether XRP is or isn’t Security.

Jake Chervinsky: That’s unlikely because class action cases, which is what these are rarely go to trial, but we have started this process of marching toward getting answer of what XRP is or isn’t. While that happens. It seems to me that the SEC is taking a hands off approach and just watching the cases develop to see what happens. If Ripple wins, right? If one of these judges rights on a worker on a motion for summary Judgment or a motion to dismiss and says, as a matter of law, XRP is not a security. That’s a disincentive for the SEC to take any action right now. Wouldn’t be a controlling precedent, but it would bad precedent and they don’t have time or resources to waste going after something that has been vindicated by a judge sitting on the bench. On the other hand, if Ripple loses or settles, then that would justify an SEC enforcement action after the fact. So I think until those cases move forward, we’re not really going to know what the SEC thinks and we’re not going to have any certainty about XRP status,

Peter McCormack: But at the same time, even if it is considered a Security, as we’ve spoken previously, it doesn’t mean the end for Ripple and XRP haters would want, we would expect possibly a fine some kind of non-prosecution agreement. I think I saw you tweet there’s a number of avenues for a Ripple to carry on, but just face the consequences of a previous violations of the regulations.

Jake Chervinsky: Yeah. And so they can, they can settle with the SEC. If the SEC were to be investigating them or to be prosecuting them in exactly that way, and they could promise the SEC that they’re going to register XRP and they’re going to comply with all the disclosure requirements and maybe pay a massive fine. Or a small fine depending on how good the deal they can negotiate and then they can keep doing business. The same thing is true with these class action cases, so it’s important to understand that difference. The cases in California are brought by private investors who are taking advantage of a private right of action under the securities laws that allows regular people to file lawsuits for violations of the same rules and statutes that the Sec might launch an enforcement action for the class action. Plaintiffs can reach their own settlement with Ripple, where Ripple maybe pays some amounts of money in damages to the class action plaintiffs, and if they’re able to either reach a settlement or win that case, then in theory they would resolve this issue for every single investor who is within the class, which would probably be all us investors who bought XRP. And that that’s a gives a lot of clarity to Ripple if they’re able to do that.

Peter McCormack: And referring over to the Howey test, I won’t repeat all four points here, but just a question I have, must it meet all four points to be considered a security.

Jake Chervinsky: Yeah, it does. And so it’s actually not that complicated. So the four factors of the Howey test are you have an investment of money, number one in a common enterprise, number two with the expectation of profit number three, based substantially on the efforts of a third party or promoter. And number four, you have to tick all those boxes to call something an investment contract, which is a type of Security.

Peter McCormack: So, does decentralisation take you away from coming enterprise?

Jake Chervinsky: It’s probably not common enterprise. That prong is more about the act, the relationship either between all of the investors or between the investors and the issuer. So pretty much a common enterprise is like all of us own the same token. Therefore all of our fates are intertwined. If the token goes up, all of us do well and if the token goes down, all of us do poorly. That’s a common enterprise. Decentralisation is more about that fourth prong. Whether you are expecting profit as a result of the efforts of a single third party or promoter, this goes back to the idea of why we have the securities laws in the first place. Investors need information from the issuer about the security. So if you’re expecting a single issue or to make you a bunch of money, you need to know from that issue or what’s going on with their business. If instead you are expecting profits because there are a thousand different companies that are working on this same network, you don’t really need information from any individual one of them. It is easier for you to make an informed decision about buying this token or whatever it is without getting that information. So in theory, the more decentralised something is, the less you’re expecting profit from the efforts of the single promoter, the less you need the securities laws to apply to protect investors.

Peter McCormack: So, with Ethereum I understand that because there’s an ecosystem, most of independent companies or coders or developers building on top of that and just creating a whole ecosystem of this unstoppable computer. Whereas if you look at XRP, it is Ripple,

Jake Chervinsky: I will leave that to you to decide.

Peter McCormack: That’s my interpretation. Okay. So in terms therefore of the ICO landscape, I guess there is still an opportunity for companies to use an ICO as a way of raising funds, but really for those now considering it that kind of Wild West is over. What is it, a five year statute of limitations even affects those, previously raised ICOs. But actually there’s a good opportunity for the future. Really. Anyone issuing a security now has to have good legal advice before, before they do it, but it’s not actually a closed door, right? It’s just follow the regulations.

Jake Chervinsky: Yeah, that’s right. I mean, so one of the other core concepts of the securities laws, and this is something that was articulated by the Supreme Court in the Howie case in 1946 is it doesn’t matter what form your security takes, it doesn’t matter what you call it, you can issue any kind of security you want to. So if you want to issue a security through an ICO through a digital token, you are more than welcome to do that. you can issue a security if you want by offering memberships to your gym, you can do a security offering any way you want. It’s just when you do it, you have to make sure you’re complying with the securities. Laws and ICOs are no different. There’s no reason to think that they would be.

Peter McCormack: How far does the remit go, because say if I was to issue a security here in the UK to exclude investors from the United States, am I still at risk.

Jake Chervinsky: You’re always at risk where the SEC is concerned. Unfortunately, the US government and its enforcement agencies tend to operate as if they can assert a plausible justification for jurisdiction over conduct outside of the US, they may well just do it to see if they can get a settlement out of you. I mean, that’s not true for all regulators. I do think there are some really good people over there who understand that United States world police is perhaps not the best way to conduct business, but, it’s harder than it seems to stay outside of the SEC jurisdiction, if you’re going to do a securities offering so that the SEC explains its perspective on when you do a Securities offering outside the United States in its regulation S and a lot of ICOs are now trying to comply with regulation as basically what reg S says is if you, want to stay outside the SECs jurisdiction, you have to do an entirely offshore transaction.

Jake Chervinsky: Meaning the buyer is offshore, the issuers offshore and the transaction itself has executed offshore. That’s why a lot of these ICO contracts will have a clause saying, this ICO sale is being conducted in the Seychelles or something like that. No matter where it actually is. And Second, you have to make sure you do know direct selling efforts to us investors. So like you said, excluding us investors is the start. But that’s not necessarily enough. And the reason for that is, look, if you block IP addresses from the US, but you fly to conferences in the US and you promote your token through speeches to us investors at those conferences and you place advertisements on websites that are seen by us investors and you do interviews for us audiences telling them that they should buy your token, right. It’s not enough just to do the exclusion on the website where the ICO is running, the SEC will see through that. So a lot of the arguments now about how far the SECs jurisdiction extends, is about in the digital age, how you can truly have no direct selling efforts to us investors when all advertisements online are going to be seen by everybody who’s looking at the website. And so I think that is a big issue that still needs to be worked out.

Peter McCormack: And the not the only government agency interested in this. Right? It was only from looking through your Twitter that I’ve read about FINRA.

Jake Chervinsky: FINRA? Yeah, the financial industry regulatory authority,

Peter McCormack: Because they’ve also charged people with issuing securities, right?

Jake Chervinsky: So yeah, so FINRA is a self-regulatory organisation, not technically a government agency. I mean it’s a minor technical detail, but they are authorised by Congress to govern the broker dealer industry. So if you are a broker or a brokerage firm or an investment advisor operating in the US, you have to register with and then they administer qualification exams, you have to pass those, you have to do continuing education for FINRA and all this kind of stuff. And when you do that, you subject yourself to FINRA jurisdiction and FINRA shares responsibility with the SEX for enforcing a lot of the securities laws. So FINRA will go after its own registered members in the form of disciplinary actions if they violate the securities laws. And sure enough, very recently FINRA law states first enforcement action against a broker who did his own ICO and lied to his own clients, investors about it, sold it to them and didn’t register it. So it seems like FINRA is jumping into this space too.

Peter McCormack: I want to do about the SEC again shortly because I want to ask you about ETFFs, but I also wanted to talk to you about Shapeshift, and I’ll have to thank you. You got me a mention on Laura Shin’s podcast because you quoted my interview with Erik Voorhees. So KYC/AML, a big issue for Shapeshift. What did you make of all that?

Jake Chervinsky: Yeah, my pleasure, by the way, I immediately, when I saw the Shapeshift news, I remembered listening to your interview with Eric Voorhees, which was a fantastic interview. This was not a surprise to those of us who are watching this space. We spend a lot time talking about securities enforcement. Securities enforcement is just the beginning of the vast network of regulations that are going to get applied to this space. Anti-money laundering compliance is as big or bigger of an issue for the future of Crypto. Generally, the securities issue is an ICO specific problem that really only came up because people realise that the best use case for Ethereum was to raise capital. I think the securities issue will die out and the anti-money laundering issue is the one that will survive. So basically, here’s how this works.

Jake Chervinsky: We live in a highly controlled, regulated global financial system. The point of which is to exclude undesirable people and conduct from the system, right? Pretty much to single out criminal conduct and prevent the proceeds of criminal activity from being introduced into the system. That’s because if you want to spend money on goods and services in the developed world, you need access to the financial system, which means criminals who are committing crime for the purpose of making money are trying to introduce their funds into that system. the way law enforcement functions basically is to conduct as much financial surveillance as possible to catch criminals at the point of entry of their funds into the financial system rather than detecting the actual crime that they committed. Right? So it’s easier to catch, for example, a drug cartel by tracking their money, than by tracking their drug deals.

Jake Chervinsky: The issue with cryptocurrency is that it exists entirely outside that regulated financial system. So what Shapeshift was doing was allowing people to convert funds into privacy coins, which are a whole separate issue without any KYC, meaning basically they could get access to financial products that they could spend for goods and services without ever touching the regulated financial system without law enforcement. Being able to understand what they’re doing that is unacceptable to law enforcement as it exists, in 2018. So it’s no surprise that. And look, I’m just guessing because we don’t know exactly what happened with Shapeshift. We know Eric has said basically that he was forced to do this by guys with guns. So we know that there was some elements of pressure from government and that’s why Shapeshift have implemented know your customer requirements. My guess is that FINCEN went to him and said, look, you are a money transmitter. You should be regulated under the Bank Secrecy Act, which defines a money transmitter as a regulated financial institution. That law requires you to implement enhancing money laundering compliance program. The fact that you don’t have one is either a civil or criminal violation of US law. And so really he and Shapeshift would have had no choice but to comply or else get involved in some pretty nasty litigation. So I’m assuming, I don’t know, but I’m assuming that’s how this one down,

Peter McCormack: I think guys with guns is his standard description for the government. Quite interestingly there were a lot of people who have Eric, as an original Bitcoiner and libertarian has moved into a market which involves trading of other altcoins which maximalists don’t like. So, and then he got involved in the New York agreement, which irked some people. There are a lot of people who expecting them to turn around to the government and say, no, I won’t comply and close down shapeshift, but it’s not just as easy as easy as that anyway because am I right in thinking that just closing down, could have had other implications that may have encouraged the government to file charges.

Jake Chervinsky: Yeah. So I mean, it’s the same. It’s the same drug dealer example, right? You can’t violate the anti-money laundering rules and then say, sorry, I’ll close my business and then assume the government will just leave you alone. I think the only way to get out of the prospect of liability for that violation was to make a deal and the deal would have included the government promising not to prosecute. You know, also, Eric has a lot of employees and I, you know, I know he’s a controversial figure, but I think he’s generally a pretty good guy. I think he means, well, I don’t think he wanted to put all of his employees out of business, on principle.

Jake Chervinsky: I think that, if he had closed the business and the stated reason for closing down was I don’t feel like following the law that applies to me, then he would be liable for, at minimum, breach of a fiduciary duty. So when you have shareholders as I, I’m pretty sure Shapeshift does, you owe them a duty to look out for their best interests and you can breach that duty if you make a decision that isn’t in their best interest. In shutting down your business because you don’t feel like complying with valid laws that apply to you would probably not go over too well.

Peter McCormack: So, I’ve got an interesting quote from you and it is going to lead me onto my next question. “The concept of anonymous crypto exchanges and transactions is a genuine nightmare for regulators and investigators.” And probably why something like Monero has never made it onto Coinbase and never will, ZCash could because it has optional privacy. The KYC/AML requirements for Shapeshift because you could anonymously swap coins into privacy coins, but one of the things being worked on with Bitcoin is full privacy in the future. How do you see that playing out? Could see a scenario where companies such as Coinbase are no longer able to list Bitcoin if it has full privacy?

Jake Chervinsky: That is a very hard question and probably my greatest concern about the future of crypto. I mean, you can tell probably by this point, I’m a believer in this, in this asset. I, I think there is very little that can stop it from, from growing in its adoption rate and it’s use cases in the world. I think that at this moment regulators and politicians still don’t understand even the basics of what it is and how it works. I think that the Congress people who are giving these hearings, they still want to know who the CEO of the Bitcoin Corp is. Like they don’t get it at all. So I think that they don’t have the concept of, for example, lightning network delivering, a categorically different level of privacy to Bitcoin. I don’t think that’s something that they’re thinking about right now, if they were, and when they do, I think that that will be very frightening to them, as I said, the way that law enforcement operates right now is basically by being totally dependent on financial surveillance and catching criminals, by their movements of money rather than by the crimes that they’re committing.

Jake Chervinsky: That is only increasing as time goes on. And as we move further away from a cash-based society, I think the idea that we will go back to a world where the government cannot detect crime by analysing our financial behaviour is a very scary thought for law enforcement. And you know, look at the idea does make some sense, right? You’re trying to make it so that crime doesn’t pay, make it harder for criminals to enjoy the fruits of their crime. If you can’t spend your money because you can’t get it into a bank, then you’re maybe less incentivised to commit crime in the first place. That said, this system comes at great costs to our privacy and I think that it is possible that we will be able to impress upon regulators and politicians how important it is that we have privacy.

Jake Chervinsky: This is a growing issue now you can see with hearings related to Facebook and Twitter, people are starting to be more vocal about the idea that we do not want the government to know everything about us at all times and our financial behaviour really it goes to the core of who we are. Right? You, you can learn everything about a person by how they spend money. And so my hope for Bitcoin is that either we can convince the people in power that they should allow, I shouldn’t say allow because you don’t really have control over it in the first place, but that they should not attempt to stop adoption of Bitcoin on the basis of the fact that it delivers privacy, which in the US is supposed to be guaranteed by the fourth amendment to the constitution. Secondly, we simply need to get Bitcoin adopted fast enough that it plays an important enough role that, that it would be impossible to attempt to stop it.

Jake Chervinsky: That is essentially what happened with the Internet, right? The Internet was its own living creature. It became adopted and became the basis of all commerce and business in the world. All interaction in the world before any regulators could say, hey, we don’t like how this is going. And I think that that in all likelihood, that’s how Bitcoin goes. I will also say there are a lot of intelligent people in this space who’s perspective on this is it doesn’t really matter what the government does or says that if the government were to try to ban Bitcoin, the price, who would shoot up the next day? Um, I like that idea. I’m not sure that it’s true. My father who I convinced to buy Bitcoin by explaining to him what it is and how it works and how powerful it is and why he should not be left behind, would immediately sell his Bitcoin if the US government were to ban it.

Peter McCormack: And I think there are a lot of people like that. I think it would be a big setback for retail adoption. So my hope is that this privacy issue doesn’t encourage governments or law enforcement agencies to take a harder stance on bitcoin. I’m not sure what the timeline is for full privacy within Bitcoin, but I guess with you, I’m hoping it will be too late to stop the juggernaut because I can imagine if the government banned Bitcoin because it was private, the disruption would be huge because the Bitcoin tentacles no stretch through the US economy.

Jake Chervinsky: Yeah, I think that’s right. and you know, it’s also, I mean, it’s interesting to note they have not taken action against the privacy coins that today are delivering privacy. So you had Riccardo on last week who I love and he has this great quote. So, sometime recently Europol, which is the law enforcement agency for the European Union, came out and said, we are concerned about Monero. I think they said ZCash and Dash too. He said, we’re concerned that these products are being adopted by criminals and we can’t track them. And Riccardo has this great quote where he says something like, you know, we don’t tell criminals to use Monero but there sure are a lot of benefits for criminals if they do use Monero. So it’s like everyone sort of knows that these tools could be adopted for, for potentially illicit purposes and yet the government doesn’t seem to be moving against them. We haven’t seen bands of Monero and hopefully you won’t. So it could be that my fears are unfounded and that the desire to have innovation and technical progress will have way the desire of the government to have total financial surveillance of all of our conduct.

Peter McCormack: Criminals still have the on and off ramp issue anyway for moving significant amounts of money so I’m pretty sure they’ll still be other sophisticated ways or tracking on ramps and off ramps and who the money is going to.

Jake Chervinsky: I mean, don’t get me wrong, I think we all know that’s the idea that Bitcoin is for criminals and money launderers and thieves and nobody else is incorrect. I think the statistic is something like less than 10 percent or less than five percent of Bitcoin transactions are in any way related to criminal conduct. So I don’t think that’s the case, but I do think that is the perspective of governments and also the legacy finance industry. I think the same tropes that we’ve heard for years are the same ones we’re going to hear for the next five or 10 years, which is Bitcoin is only for criminals and blockchain, not Bitcoin. I think we’re stuck with these things for a long time.

Peter McCormack: Let’s talk about ETFs. What is, what is the path to approval here? Because my assumption is one is going to come at some point, but we have had rejection after rejection. We had nine recently, I think in one day. I think we have one outstanding. What is the path to approval? What’s holding things up?

Jake Chervinsky: So, I think it’s almost certain that eventually an ETF will be approved. I have no idea what the timeline will be on that. The main issue, the SEC has is with market manipulation. So, you know, the idea of a Bitcoin ETF is to have an ETF share trading on the New York stock exchange or a typical regulated exchange that an institutional investor is going to buy. But it’s going to reflect the price of the bitcoin that’s trading on these unregulated spot and derivative markets, right? The largest Bitcoin markets are not regulated by the US government. That’s both the spot markets where you’re actually trading Bitcoin and the derivative markets like a Bitmex for example, where you’re trading perpetual swaps, which also affects the price of the coin. The SEC is not going to approve any ETF if they are convinced that the price of that ETF share is going to be impacted significantly by manipulation and because they don’t have insight into what’s going on those underlying spot and derivative markets where the is being established for Bitcoin, they’re just not comfortable approving ETF yet.

Jake Chervinsky: So, what they said most recently, in the denials of the Pro Shares, Granted Shares and Directions ETFs last month was that what they need to see is a surveillance sharing agreement with a regulated market of significant size. What that means is they want the ETF sponsor to promise that they are going to deliver to the Sec trading data from those underlying exchanges so that the Sec can see exactly what’s going on those order books to satisfy itself that there isn’t manipulation or to enable itself to prosecute people who are manipulating those markets. I think it is highly unlikely that Arthur Hayes is going to sign a surveillance sharing agreement with an ETF sponsor in the US. And so I’m not sure how the SEC will be satisfied that enough of the underlying spot and derivative markets are surveilled, that they feel comfortable approving an ETF.

Peter McCormack: It’s quite interesting the comments of commissioner Pierce. I think it was yesterday or a few days ago also. She seems to be quite a fan of Bitcoin and crypto. Her descent, obviously it was picked up by quite a few people, but she said, I don’t know if you saw it, but our argument that the FCSECC mandate is to focus on determining the quality of the underlying assets. She said that it inaccurately focused on the latter, during the recent rejection of the Winklevoss Bitcoin ETF. Did you follow this?

Jake Chervinsky: Yeah, I did, and I saw her statements and I really like her. She has definitely embraced this. A crypto mom status. I really like her perspective on the role of the SEC, which is that the SEC does need to support innovation and the SECs job is not to eliminate all risks for investors, but rather to eliminate unreasonable risk and enable investors to make informed decisions about what kind of risks they want to take on after all the nature of the capital markets is for investors to take on risk. So I really like her. Her perspective in general on the SECs role, I am not sure how legally sound her position is. So I think you articulated it pretty well. What she’s saying is the SEC should only look at whether the ETF shares themselves will be manipulated on the exchange where the ETF is being proposed rather than looking at whether there’s going to be manipulation in the underlying markets, even if that manipulation in the underlying markets will affect the ETF price.

Jake Chervinsky: That perspective goes against about 15 years of SEC precedent. So if you look at the original Winklevoss disapproval order from March of 2017, there’s a footnote where they initially make the statements about looking into the underlying markets and the footnote has a list of dozens of cases dating back to 2004 where in other opinions, the SEC is looking at the underlying markets for other commodities like gold or oil or other precious metals or what have you. And so while I think her theory is interesting, I would be very surprised if the other commissioners decide to adopt it.

Peter McCormack: Okay. So back to my original question, path to approval, how long do you think we are away from this, what do you think will actually need to happen before we have an ETF approved?

Jake Chervinsky: Well, you know, it’s sort of a chicken and an egg problem because what the SEC wants to want to have in the market before they approve an ETF is enough liquidity and enough price discovery that they can be confident, manipulation, won’t have a significant impact, but we’re not going to get that level of liquidity and price discovery unless we get institutional investors into the space and it probably takes an ETF to get them into this space.

Peter McCormack: So, I think there are sort of two ways of solving this issue. I think the first way is for the Bitcoin markets to simply become less manipulated. I’m not exactly sure how that happens. It may be that the DOJ and the CFTC, which are currently investigating manipulation on crypto exchanges, need to get trading data from those exchanges, launch a few prosecutions, you know, demonstrate that they have some handle on the manipulation going on in those exchanges. It may be that Congress needs to give regulatory authority to the SEC or to the CFTC or maybe even to a brand new agency that is specific to crypto so that they have the authority to demand trading data from exchanges, but even then, you know again, Arthu Hayes is probably not going to send trading data to the SEC just because Congress passes a law saying the SEC should get it, so I’m not sure how that works.

Jake Chervinsky: I think that the Second and more likely outcome is that some ETF sponsor, we’ll put together a surveillance sharing agreements with enough exchanges that the SEC will be satisfied. It is a significant enough coverage to make them comfortable with their insight into the underlying markets. This is something that the Winklevoss twins are working on right now. They created a new organisation, I think it’s called the virtual commodity association. It’s all of the US exchanges stuck together. I think the theory is if you get a surveillance sharing agreements, at least with all of them, then maybe the SEC will say, that’s good enough for us to approve an ETF. What I think we need is some turnover in the ranks of the commissioners, so we just got a new commissioner in, this guy, Elad Roisman who I wouldn’t say he’s pro Crypto, but he’s certainly not anti-crypto and that’s progress because the guy who replaced certainly was so it may just be we need some other people in a position of power there who take a different view of this space and are more in favour before we get an ETF approved.

Peter McCormack: Right. Okay. So the last thing I want to talk to you about is a Bakkt. You said this is more important than an ETF. It would be good to hear your perspective on why that is and why you were so excited about it.

Jake Chervinsky: So, I think the reason that that is more important than an ETF is simply because it’s more likely to get approved much faster than the ETF will get approved. So basically what Bakkt is proposing to do is to launch a one day physically settled futures contract for Bitcoin. One of the things about Bakkt is one of the companies behind it is the intercontinental exchange ICE, which is a very well respected, very well-known exchange that owns the New York Stock Exchange, owns about 20 other exchanges and already has approval from the CFTC to launch futures products. So unlike an ETF which requires this long and drawn out approval process with the SEC, Bakkts, can basically self-certify a futures contract and launch it on its own without the CFTC, which is the agency that regulates futures contracts without the CFTC having to approve it first.

Jake Chervinsky: Now granted, if the CFTC doesn’t want a futures contract to exist, then it won’t, but the CFTC has already shown itself to be willing to allow these kinds of products. We already have futures contracts trading on CBOE and CME. So I don’t think there’s any reason to expect that backs won’t launch in November as they plan to. So I think that simply the fact that we’re going to get Bakkt before we get an ETF is exciting. The Second piece of this is Bakkt is going to roll out in two phases. The first phase is from institutional investors, it’s a futures contract or one contract equals one Bitcoin. That’s obviously not that useful for merchants or consumers because you can’t do business in increments of one Bitcoin, but phase two, it seems is going to be a product for commercial application, meaning you go to Starbucks and Starbucks is one of the companies behind Bakkt. You go to Starbucks and instead of buying your coffee with Starbucks app, which you’ve loaded with US dollars, you buy your coffee with Starbucks app which you’ve loaded with backed, which is truly backed by physical bitcoin.

Jake Chervinsky: So, I think that possibility is exciting for adoption.

Peter McCormack: And do you share any of Caitlin Longs concerns about rehypothecation and commingling?

Jake Chervinsky: Yeah, of course I do. So, she’s the expert on these issues. She’s got 20 years of experience on Wall Street, so she’s really the one to talk to you about this. But I mean I can tell you basically what I know about this rehypothecation is essentially the same problem as fractional reserve banking. It’s a process that creates multiple owners of the same underlying asset, which makes that underlying asset much less stable. A lot of the gold bugs think that this is what has suppressed the price of gold for a long time or that I’m creating paper claims to assets that don’t exist, has suppressed the price of gold. I don’t think we want to see that in Bitcoin. The problem is Wall Street is going to do a Wall Street does and if you ask Caitlin she’ll tell you that’s what Wall Street does, it inflates supply for its own benefit.

Jake Chervinsky: I do think that rehypothecation is an issue. There’s an interesting argument that Bitcoin by nature is resistant to rehypothecation because those of us who want our coins will want the real thing, not the rehypothecated version. I think that’s an interesting argument, but it’s something that’s going to have to play out down the road. Commingling is, is just as much of an issue. So commingling happens when you pledge an asset as collateral to a financial institution, and it throws that asset into a single omnibus account that supports all of the institutions obligations, not just the obligation the institution has made to you, which means in theory, your asset, your Bitcoin is now collateral for someone else’s debt, and if they default, you are the one at risk. So, this is another example of something that I think we don’t want to see happen to Bitcoin and this is what we would call bad financialisaton. But again, you know, it’s something that Wall Street gets to do if it wants to launch products and services that do it

Peter McCormack: Well listen, that last question took us to my longest ever podcast. I think you’ve absolutely crushed it. I think you’ve done well on such heavy detail over an hour and nearly 20 minutes. So let’s just finish up with, is there anything coming up we need to be aware of in the market? And also, after that, can you tell anything that’s coming up for you and how people can stay in touch with you?

Jake Chervinsky: Yeah, sure. So as far as what I’m watching, I’m sort of, like I said, we were all focused on securities enforcement right now. There’s a lot more types of enforcement coming down the road. There’s anti money laundering compliance issues. We’re going to see crop up, there’s going to be tax enforcement issues, there’s going to be trade sanctions issues, there are going to be trading practices, cases, prosecutions of traders who the government is going to say are manipulating these markets. So I think this space is going to expand significantly and we just have to keep our eyes on all of these agencies to see what they’re going to do and how they’re going to do it. Um, as far as me, I would say follow me on twitter at Jake Chervinsky. You can find me on my law firm’s website, kobrekim.com. I’m really happy to hear from anyone, anyone who wants to reach out to me. I think people who might want to get in touch with me are people who have gotten a subpoena from the US government or think that they might, or people who generally speaking have lost money in the crypto space and they think their losses are due to someone else’s unlawful conduct and they want to talk to a litigator about getting their money back.

Peter McCormack: Excellent. This has been absolutely fascinating. Thank you so much for coming on. I can’t wait to get this out and see the response and good luck with everything you do. Next time I’m in Washington, I will meet up with you and we’ll grab a beer and have a proper chat in person.

Jake Chervinsky: Yeah, definitely. Thank you. This was awesome.