Happy Friday, dear readers, David Z. Morris is filling in for Michael Casey today.
CoinDesk Editor-in-Chief Kevin Reynolds brought an eye-catching Linkedin post by a Coinbase (COIN) employee to my attention this week. In the post, which has since apparently been deleted, the Coinbaser wrote, among other things, that "it's crazy to me how much market value there is in these (probably) useless projects," before listing a half-dozen tokens, including Dogecoin (DOGE), Bitcoin Cash (BCH), Ethereum Classic (ETC), Shiba Inu (SHIB), Litecoin (LTC), Bitcoin SV (BSV) and Bitcoin Gold (BTG).
Now, many people would disagree with the idea that Bitcoin Cash, Ethereum Classic, or even Dogecoin are "useless." But by and large, such statements wouldn't sound out of place if they came from some random account on Crypto Twitter.
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The catch, of course, is that these statements come from a Coinbase employee - and Coinbase makes its money trading "useless" Bitcoin Cash, Ethereum Classic, Dogecoin, Shiba Inu and Litecoin.
To be clear, I think it shows both good morals and good strategy for Coinbase employees to voice their opinions on social media. In this industry, this is an important way to stay informed and test ideas. When employees showcase their critical thinking skills, it's also good branding.
But the post raised a much more important point: Do crypto exchanges like Coinbase have a responsibility to customers when choosing which tokens to offer for sale? Should exchanges warn their customers about projects or tokens that are considered questionable by their own staff? Or is an exchange's role more neutral, simply listing tokens and letting customers make their own choices?
This question is especially pertinent after the collapse of the Luna ecosystem with the exit of stablecoin terraUSD (UST). There have been unconfirmed Twitter rumors of a class action lawsuit that would target exchanges that sold LUNA or UST tokens. This group includes many centralized depository exchanges around the world and several in the U.S., including Kraken, Binance US and Gemini.
Coinbase did not sell LUNA directly, but offered the UST stablecoin as well as "wrapped LUNA" (wLUNA) bridged with Ethereum (for - I'm sure - perfectly valid reasons). Coinbase also doesn't offer trading in Bitcoin SV, Bitcoin Gold, or Dogelon Mars (ELON), the other tokens the Coinbase employee mentioned.
You may think there's not much point in suing an exchange for selling you a token that collapses - as I'll say again for those left behind, any cryptocurrency is a highly speculative investment, and everything could go back to zero tomorrow. But exchanges have spent much of the last two years running Super Bowl ads promising that cryptocurrencies are the future, so you can at least sympathize with someone who feels ripped off.
You might expect there to be a clear legal or regulatory answer to this question, but it's actually somewhat unclear. That's partly because many of the crypto assets Coinbase offers are in a gray area in terms of securities law. Many of the rules regarding financial intermediary responsibilities for equities, for example, would not readily apply to a company performing the same role for crypto assets.
Nevertheless, the related securities rules are interesting, even if they do not have strict legal implications. For example, it is now common knowledge (I hope) that a securities broker has no fiduciary duty to purchasers of securities. Brokers represent themselves or their brokerage firm's interests, not yours. A certified financial advisor (CFA) is legally obligated to assist you, but a broker is not.
Brokers, however, have a lesser obligation to their clients. FINRA rules state that any recommendations made by a broker must be broadly "suitable," essentially taking into account the customer's risk profile. Again, this explicitly applies to securities, and the status of tokens on Coinbase is largely undefined, but it certainly seems like a reasonable standard.
There is another crypto complexity to all of this. I've been talking about brokers, whereas Coinbase is best known not as a "broker" but as an "exchange." Because cryptocurrencies are so retail-oriented, exchanges are often also brokers that sell assets directly to customers.
It's also clear that crypto exchanges have long been seen as arbiters of project quality in some ways. This is less the case today, but for many years a token listed on an exchange was hailed as an endorsement. In particular, a listing on Coinbase almost always resulted in a "Coinbase bump," or a price increase after the listing.
It's a bit of a stretch, but it certainly makes a listing sound a bit like a broker's "endorsement." At the very least, it's an argument a plaintiff could make in a consumer protection lawsuit. Exchanges also regularly do things like write explanatory blog posts about specific tokens or about technology concepts related to tokens. Are these "recommendations?" (This could be one reason Nasdaq's website features third-party news content, rather than just promotional material about stocks.)
Because of this ambiguity, crypto exchanges are perhaps uniquely exposed to customer anger over losses. It's hard to imagine anyone wanting to sue Nasdaq because Netflix (NFLX) plunged 75% (though now that I've written it, I'm sure someone will). That's partly because no one buys Netflix stock on Nasdaq, but through Fidelity or another broker. But if you bought UST in April and then watched it evaporate, you know your money is with Coinbase or Kraken today.
And now we come back to FINRA broker rules. A broker/dealer has no fiduciary duty to its customers, but must meet a less stringent standard of "suitability," i.e., a general fit of risk profile to a customer. For crypto exchanges, this seems close to a reasonable standard of responsible behavior whenever the U.S. Congress gets around to writing some of them down.
UST's case, however, seems to call even this less stringent standard into question. Can an asset be considered "suitable" for even the most frothy risk taker when any financial expert could have predicted its failure with certainty? When it is the fifth version of the same experiment that fails exactly as predicted?
How about when an exchange's landing page for a token uncritically reproduces the false claims of its creators - for example, that it is "stable"? Or how about when the exchange's venture arm invests in the group behind the token that the exchange profited from trading before it went to zero?
Well, then you have what is known in the legal profession as an "ethical quagmire." This is exactly the kind of thing that courts specialize in untangling.