A court ruling siding with Grayscale Investments is a big boost for the cryptocurrency industry’s decade-long effort to launch an exchange-traded fund that tracks bitcoin, even if it does not immediately open the floodgates for such products.
A three-judge panel of the District of Columbia Court of Appeals in Washington on Tuesday ruled that the Securities and Exchange Commission was wrong to reject Grayscale’s proposed bitcoin ETF without explaining its reasoning, in a case that has been closely watched by the industry.
The ruling requires the SEC to review Grayscale’s application, meaning there is no certainty it will reach a different conclusion and greenlight the product. And the regulatory agency, which on Tuesday said it was studying the ruling, could appeal. Still, it endorses the rights of the cryptocurrency industry - which is reeling from a massive SEC crackdown - to due process, and offers more clarity on how it can meet the SEC’s investor protection bar, said executives and lawyers. It’s the second major industry victory after a federal judge in New York ruled in July that Ripple Labs did not violate the law by selling its token on exchanges. The SEC will appeal that case, which is on shaky ground after a subsequent ruling questioned its approach.
“This decision represents another instance of U.S. courts pushing back against what is widely seen as regulatory overreach by the SEC in the digital asset space,” said Christopher LaVigne, co-chair of the cryptocurrency practice at the Withers law firm. The SEC declined to comment on Wednesday. Bitcoin jumped around 7% on Tuesday, although it pared some gains Wednesday. It was last at $27, 206.
A spot bitcoin ETF would give investors exposure to the world’s largest cryptocurrency by market capitalization without having to own it. The SEC has denied all spot bitcoin ETF applications, saying applicants have not shown they can protect investors from market manipulation. It has, though, approved bitcoin futures ETFs based on a market surveillance arrangement with the Chicago Mercantile Exchange (CME), where most bitcoin futures trade. Grayscale argued the same setup should be satisfactory for its spot ETF, since both products rely on bitcoin’s underlying price.
The appeals court ruled that the SEC arbitrarily denied Grayscale’s application because it “never explained why Grayscale owning bitcoins rather than bitcoin futures affects the CME’s ability to detect fraud.” The CME did not immediately comment on the decision.
Sui Chung, CEO of CF Benchmarks, the UK-regulated index provider for other proposed bitcoin ETFs, said the ruling clarified that crypto firms seeking to launch regulated products “should be afforded exactly the same due process and consideration” as if they were offering established securities.
‘POTENTIAL ROAD MAP’
The court’s endorsement of the CME arrangement also offers a potential path to meet the SEC’s bar for investor protection.
“It won’t be immediate, but this is significant in that it may give a potential road map for a successful product,” said Joseph Toner, a former SEC official and a lawyer at WilmerHale. Other firms have spot bitcoin ETF applications with the SEC, including asset management giant BlackRock, Fidelity and WisdomTree. They have proposed a surveillance arrangement with Coinbase Global, the largest U.S. crypto exchange.
The CME arrangement may be more attractive after Tuesday’s ruling, said some executives.
“I wouldn’t be surprised to see a lot of the applicants trying to switch their surveillance agreements to CME,” said Seth Hertlein, global head of policy at crypto wallet Ledger.
BlackRock and Fidelity declined to comment. “While we are closely following the news, we are hyper-focused on our own meaningful and collaborative conversations with regulators,” said Ryan Louvar, WisdomTree’s chief legal officer.
Paul Grewal, chief legal officer at Coinbase, said the Grayscale ruling was an “important step toward the clarity the industry needs.” Coinbase intends to pursue its proposed surveillance sharing agreement for firms that have applied for a spot bitcoin ETF, according to a person familiar with the matter, who requested anonymity.
Lawyers cautioned that the SEC may appeal, which would send the case to a review by the entire appeals court or by the Supreme Court, dragging a final decision out for years. And if the SEC does not appeal, it could offer a more specific reason to again reject Grayscale’s application or other similar ones, said Withers’ LaVigne
“We may find ourselves back on this same merry-go-round,” he added.
Be smart with your money. Get the latest investing insights delivered right to your inbox three times a week, with the Globe Investor newsletter. Sign up today.