The United States Securities and Exchange Commission (“SEC”) has announced its review priorities for fiscal year 2022. Among them are crypto-assets. Specifically, the SEC is targeting robo-advisors, splitting, and other crypto-custody arrangement practices.
The SEC noted that there has been a significant increase in the number of robo-advisors. Robo-advisors are Registered Investment Advisors (“RIAs”) who provide automated digital investment advice to their clients, including through the use of mobile applications.
The SEC has already issued guidance for robo-advisors and provided several considerations for robo-advisors to keep in mind when doing business. And in 2018, the SEC filed the first lawsuit against a robo-advisor for making false claims about investment products and publishing misleading advertisements. In 2022, SEC examiners will examine the unique risks presented by these advisers and whether those risks are reasonably considered in the RIA’s regulatory compliance programs.
This year, SEC examiners will also be targeting fractional shares of cryptoassets. Splitting allows multiple people to own (and trade) a share of an asset. In a typical format, the share is represented by an NFT that represents a fraction of the ownership or revenue rights associated with the asset. In some cases, this may meet the Howey test, which the SEC uses to assess whether a digital asset is a security. In short, if there is an investment of money in a joint venture whose profits will come solely from the efforts of others. In 2019, the SEC issued guidance applying the Howey test to digital assets, but it has not been updated since. The SEC has reportedly sent subpoenas related to the investigation and is particularly interested in information about fractional NFTs. As noted in Review Priorities, SEC examiners will assess whether broker-dealers and RIAs: (1) have processes and controls in place that comply with publicly available disclosures and the standard of conduct due to investors , as well as other regulatory obligations; (2) provide advice and recommendations, including through algorithms, that are consistent with their investors’ investment strategies and the standard of conduct due to those investors; and (3) have controls in place that take into account the unique risks associated with those assets.
Terms of custody
This year, SEC examiners will assess the offering, selling, recommending, advising, and trading of cryptoassets, including the suitability of any crypto trading recommendations. Specifically, the SEC will consider whether market participants involved in crypto-assets: (1) have complied with their respective standards of conduct when recommending or advising investors with an emphasis on due diligence and initial understanding and continues products; and (2) regularly review, update and improve their compliance practices, including reviews of crypto-asset wallets, digital asset custody practices and safeguards, anti-money laundering reviews, assessment procedures, risk disclosure and operational resilience practices.
In addition, the SEC will also review mutual funds and ETFs offering exposure to crypto assets to assess compliance, liquidity, and operational controls regarding portfolio management and market risk.