Carlo Di Carlo practices corporate/commerical law at Stockwoods LLP in Toronto
Last week, Bitcoin had its debut session on a futures exchange. This generated a lot of activity in the market. The value of these futures surged by as much as 26 per cent over the course of the day. In fact, the price increase was so rapid that it triggered two temporary trading halts (which are designed to calm a market).
The introduction of Bitcoin (and digital and cryptocurrencies more generally) has given rise to increasing speculation within the investment community. This was dramatically captured by the president of the North American Securities Administrators Association, who noted that his organization has "seen mortgages being taken out to buy Bitcoin."
However, it is worth wondering whether this speculation and skyrocketing value will only serve to reaffirm the views of Canadian securities regulators that these investments require regulation.
The appeal of digital currencies is that they avoid the need for middlemen, such as banks. Because of the blockchain technology that these currencies use, transactions are supposed to be secure and hidden. Proponents of digital currencies claim that, because of this technology, there is no need for regulation.
Canadian securities regulators are not so sure. Last August, the Canadian Securities Administrators (a body made up of securities regulators from all of the provinces and territories in Canada) issued a news release entitled "Cryptocurrency Offerings." In this release, the CSA advised the market that cryptocurrencies may constitute "securities" – that is, that they are no different than stocks of corporations. This was a significant step for the regulators to take, as once an investment is deemed to be a security, it is subject to the regulation of the various securities commissions throughout Canada.
The CSA found that cryptocurrencies may constitute securities because of the economic realities surrounding them. Courts have always looked at these realities when determining whether or not something is a security. Specifically, where an investment involves: (i) an outlay of money; (ii) in a common enterprise; (iii) with the expectation of profit; and (iv) which comes from the efforts of others, courts and regulators have found such investments to be securities subject to regulation. In the news release, the CSA noted that a case-by-case assessment will be required to determine whether a specific digital currency is a security.
The recent trading surrounding Bitcoin futures may only serve to strengthen the regulators' views on this. The speculation surrounding the trading of these futures may lead these regulators to believe that these investments are not being treated as storages of wealth (as currencies typically are viewed). Instead, it may appear that these are investments made with the expectation of deriving a profit. In addition, securities regulators also have an investor protection mandate. In the CSA's August release, the authors note that cryptocurrencies raise investor protection concerns because of issues around "volatility, transparency, valuation." Again, the recent activity with respect to Bitcoin's futures will likely heighten this concern.
What all of this means is that we can likely expect more activity from Canadian securities regulators with respect to digital and cryptocurrencies. The CSA stated that entities looking to make initial sales of such currencies will likely have to release a prospectus (absent certain exemptions). This document provides the investing public with certain information, including potential risks associated with the investment.
Canadian investors looking to "cash in" on Bitcoin might want to act with caution in light of this potential regulatory action. Similarly, the uncertainty of the regulators' response means that digital currency companies must also tread with caution. This is something that might have longer term implications for the development of the Canadian digital currency market – at least one company (Kik Interactive Inc.) has excluded Canadian residents from the initial sale of its digital currency. Absent clarity from the regulators, we can expect that this uncertainty will create a damper on the Canadian digital currency market.