Bitcoin, Ether Fall Outside Howey Test Criteria

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What will be the next bullish move in cryptocurrencies if the “Howey Test” is applied?
One day you may be interested in market structure, the next you may be interested in underpinning technology, and on other days…like Wednesday…you may be interested in securities law.
As an equity research analyst in the past, 99.9% of my daily tasks were related to security. With crypto assets, however, it hasn’t been that straightforward. As regulatory scrutiny for the sector grows, the definition of what constitutes a security has become increasingly important.
Crypto markets would benefit from a public, transparent definition and application of what constitutes a security.
Holders and potential holders of crypto assets will benefit most from more clarity.
In the Howey Test, four prongs are used to determine what is and is not a security. Though straightforward on the surface, it can also appear as a Rorschach test.
The Securities Act of 1933 and 1934 require an asset to be registered with the SEC if it meets all four prongs of the Howey Test. If an asset does not meet those prongs, then it is not, and legal fees will amount to millions of dollars.
As a number of cryptocurrencies have been labeled securities by the Securities and Exchange Commission (SEC), the test has become increasingly important.
It puts those assets and any group facilitating their transfer under the SEC’s jurisdiction.
The SEC’s “Framework of Investment Contract Analysis of Digital Assets” whitepaper implies that digital assets satisfy the first two prongs. In exchange for something of value, investors can purchase and/or acquire digital assets. According to the SEC, evaluating digital assets typically involves a common enterprise.
In light of these criteria, the SEC can now target cryptos, particularly those connected to a central entity and/or issued for capital-raising purposes.
It is likely that the SEC views Solana’s SOL as a security partly due to the existence of the Solana Foundation and its board of directors. The Solana Foundation has rejected the SEC’s classification.
In many ways, these criteria appear to differentiate bitcoin from ether and other cryptocurrencies, particularly bitcoin (BTC) and ether (ETH).
It specifies “responsibilities performed and expected by an associated person (AP) rather than an unaffiliated, dispersed community of network users” in its white paper on digital assets.
APs of securities also create or support a market for or the price of the digital asset, including its creation or issuance.
In these areas, bitcoin and ether maxis should be comfortable.
While some market observers believe that the SEC’s latest regulatory push is targeting crypto as a whole, bitcoin and ether – the two largest cryptos in market value – appear to fall outside this growing scrutiny, if applying the Howey test. Moreover, both assets were conspicuously omitted from any lists potentially categorizing them as securities. In fact, because of their decentralized governance and issuance, they are much more like commodities than securities.
Currently, bitcoin and ether account for close to 70% of all cryptocurrencies’ market capitalization. Since the SEC’s announced suit against Binance, Bitcoin’s market cap dominance has increased by 3%.
Bitcoin’s market share has declined from 20.52% to 20.1%, while ETH’s has declined from 20.52% to 20.1%. Overall, their combined market cap dominance has increased by approximately 2%, while their correlations have risen by approximately 6%.
It may be better to call bitcoin and ether digital water. The immutable nature of their code represents their solid state, and their ability to adapt to multiple regulatory scenarios represents their liquid state.
As it turns out, the Howey Test’s inapplicability may ultimately provide confidence for newer investors, allowing the SEC to focus on a shrinking market.
The late Glenn Williams Jr.

Time to Monitor Crypto Liquidity

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It is often overshadowed by the significance of underlying liquidity trends in crypto markets that a lot of attention is focused on scrutinizing price gyrations. These lenses can help market participants understand where we stand in the cycle and navigate the market more effectively.
In general, price movements accompanied by thin volumes are of lower quality than those accompanied by high volume trading. Thin volumes indicate limited market participation at a specific price level, potentially resulting in increased volatility and reduced market depth. Conversely, higher trading volumes reflect broader market participation that indicates a more robust consensus and provides a more reliable foundation for price movements, enhancing the credibility of the signal.
The crypto trading volumes for spot (left) and futures (right) have generally trended downward.
The significant drop in BTC volumes in March 2023 after Binance ended its zero-fee trading policy for some key market pairs is one such example of a change in market structure rather than investor preferences.
There have been several instances where market preferences have changed. Trading volumes of assets other than BTC and ETH have plummeted the most, as investors have shifted to more battle-tested investments. Among the more prominent names, the shrinking liquidity trend has been particularly evident for DOGE, Litecoin (LTC) and SOL.
In some cases, however, these liquidity trends are showing early signs of stabilization or even reversal.
Despite recent volume prints marking the lowest levels since late 2020, spot trading volumes, the segment hardest hit in 2023, have been practicing a slight recovery.
The market’s focus on liquidity is related to the impact on some of the assets mentioned in the SEC charges against Coinbase and Binance. Two weeks since the news broke, trading volumes in five most prominent assets by market capitalization have not changed significantly.
Typically, bear markets end with a whimper than a bang. Indifference and apathy are the hallmarks of the last stage of the bear market psychology framework –denial, anger, bargaining, depression, and acceptance.
It appears we are in the fifth stage of grief judging by the state of crypto market liquidity. However, early signals of a potential stabilization, or even a tentative reversal, are emerging. In the last two cycles, sustained recoveries in crypto market liquidity have been early confirmation signals of bull markets. We aren’t seeing such signs right now, but now is a good time to start keeping an eye on them.
FalconX’s David Lawant


Here’s some news worth reading from CoinDesk Managing Editor Markets The Americas James Rubin:
As a number of traditional finance (TradFi) players push further into crypto this year, Bitcoin broke $30,000 for the second time this year.
iShares, a unit of fund management giant BlackRock (BLK), filed paperwork with the Securities and Exchange Commission (SEC) Thursday afternoon for the formation of a spot Bitcoin (BTC) exchange traded fund.
The German financial services giant Deutsche Bank AG has applied for permission to operate as a crypto custodian, the bank announced Tuesday. Just days before, asset management giant BlackRock filed an ETF for spot bitcoin with the SEC, the move was announced. CoinDesk was informed by a Deutsche Bank spokesperson that it had applied for a BaFin license for crypto custody.
“What could users do with a token that’s been labelled a security?” CoinDesk columnist Daniel Kuhn asks. The source code of a blockchain should be available to consumers if it is sufficiently decentralized. Kuhn wonders what a user can do with a token that is a security. “Everything they could do before the token was declared a security.”
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Glenn C Williams Jr, CMT is a Crypto Markets Analyst with an initial background in traditional finance. His experience includes research and analysis of individual cryptocurrencies, defi protocols, and crypto-based funds. He owns BTC, ETH, UNI, DOT, MATIC, and AVAX

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David Lawant is the Head of Research at FalconX.

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