CUBE RegNews: 14th June

Posted: 2024-06-14

Terraform Labs and former CEO to pay $4.5 billion in SEC settlement 

The Securities and Exchange Commission (SEC) has announced that Terraform Labs PTE, Ltd (Terraform), the entity behind the stablecoin TerraUSD, and its former CEO, Do Kwon, have agreed to pay over $4.5 billion in fines and disgorgement for orchestrating a fraud scheme in the cryptoasset securities market. The scheme led to substantial investor losses and, according to Gurbir S Grewal, Director of the SEC’s Division of Enforcement is, "one of the largest securities frauds in US history." 

The SEC had initially charged Terraform and Kwon with securities fraud and conducting unregistered transactions on 16 February 2023. Then, on 5 April 2024, a jury found Terraform and Kwon guilty of securities fraud by unanimous decision. 

"This case affirms what court after court has said: The economic realities of a product—not the labels, the spin, or the hype—determine whether it is a security under the securities laws," said SEC Chair Gary Gensler. 

As part of the settlement, Terraform has agreed to pay $3,586,875,883 in disgorgement, $466,952,423 for prejudgment interest, and a $420,000,000 civil penalty. As for Kwon, he will pay $110,000,000 in disgorgement, $14,320,196 for prejudgment interest jointly with Terraform, and an $80,000,000 civil penalty. 

Terraform will also cease the sale of its crypto asset securities, wind down its operations, replace two directors, and distribute remaining assets to investors and creditors through a liquidation plan, pending court approval in its ongoing bankruptcy case. 

Both defendants have agreed to a permanent injunction preventing them from violating registration and fraud provisions in the future. 

Click here to read the full RegInsight on CUBE’s RegPlatform   

EBA issues MiCAR prudential regulatory products 

The European Banking Authority (EBA) has released a new set of regulatory technical standards (RTS) and guidelines as part of the Markets in Cryptoassets Regulation (MiCAR). These standards and guidelines focus on prudential matters, including own funds, liquidity requirements, and recovery plans. They follow the final governance regulatory products published last week. 

The EBA’s regulatory products package includes: 

Own Funds 

• Draft RTS on additional own funds requirements and stress testing: The draft RTS specify the procedure and timeframe for an issuer of an asset-referenced token (ART) to adjust to higher own funds requirements when there is a higher degree of risk, the criteria for competent authorities during the assessment of such risk, and minimum requirements for stress testing programs. 
• Draft RTS on the procedure and timeframe to adjust own funds: The draft RTS specify the procedure and timeframe for an issuer to adjust the amount of its own funds when issuing an ART or Electronic Money Tokens (EMT) classified as ‘significant’. 

Liquidity Management 

• Draft RTS further specifying the liquidity requirements: MiCAR requires issuers of ART to constitute and at all times maintain a reserve of assets. The draft RTS establish percentages of the reserve of assets, overall techniques for liquidity management and the specific minimum amount of deposits in each official currency referenced. 
• Draft RTS to specify the highly liquid financial instruments in the reserve of assets: MiCAR requires that issuers of ART that decide to invest the proceeds they receive from the issuance of the tokens and form part of the reserve of assets shall do it in financial instruments that are highly liquid and with minimal market risk, credit risk and concentration risk The draft RTS specify the financial instruments that can be considered highly liquid and bearing minimal market risk, credit risk and concentration risk. 
• Draft RTS to specify the minimum content of liquidity management policy: The draft RTS envisage procedures for identifying, measuring and managing liquidity risk, a contingency policy and mitigation tools, as well as minimum aspects of liquidity stress testing. 

Recovery plans 

• Guidelines on recovery plans: The guidelines specify the format and the content of the recovery plan that issuers need to develop and maintain. Considering the feedback received during the consultation period, the guidelines further specify the content of the communication and disclosure plan. Several targeted amendments were also made to streamline the wording and provide further clarity. 

Click here to read the full RegInsight on CUBE’s RegPlatform   

Gensler lays out SEC budget plans for 2025 

Gary Gensler, Chair of the US Securities and Exchange Commission (SEC) has laid out his plans for the SEC budget in his testimony to the Subcommittee on Financial Services and General Government. 

Noting the SEC’s 90th anniversary this year, Gensler began by highlighting the US capital market’s leading global position, adding that its lead cannot be taken for granted and noting that the SEC as “cop on the beat... does extraordinary work with limited resources”. 

He reiterated this “limited resources working with tremendous growth” theme by detailing the growth of the US capital markets, as an example noting that approximately 58% of American households now own stocks, up from 52% in 2016. The nonbank sector, particularly registered and private funds, now surpasses the banking sector in size, with US debt capital markets facilitating 75% of corporate debt financing. 

He continued to set the scene by noting that the number of registered investment advisers has surged from 12,000 in 2016 to more than 15,400 today, managing an aggregate of nearly $112 trillion across various funds and accounts. This exponential growth has, he said, placed an unprecedented burden on the SEC, which oversees approximately 40,000 entities, including broker-dealers, exchanges, and self-regulatory organisations. 

Technological transformation and the rise of crypto 

The rapid evolution of technology, from electronic trading to artificial intelligence, has reshaped financial markets. Gensler noted the proliferation of digital communication channels and the significant risks posed by the largely unregulated crypto markets. He cited the surge in investor losses due to fraud and mismanagement within the crypto space, where many investments have evaporated following platform collapses. 

Increasing workload and budgetary constraints 

Despite the growth in market activity, the SEC's funding has not kept pace. Gensler pointed out that from 2016 to 2022, the SEC's workforce actually contracted. Although the SEC received authorisation to hire 400 additional staff in FY 2023, it remains understaffed by around 300 positions due to flat funding. This has strained the agency's ability to perform its regulatory duties effectively. 

Gensler stressed that approximately 70% of the SEC's budget is allocated to staff, with the remainder split among technology, facilities, and other essential expenses. Flat funding, amidst rising costs, necessitates cuts to staffing, technology, and real estate, undermining the SEC’s operational capabilities. Despite this Gensler noted the very low staff churn at the SEC, just 3 per cent annualised. 

The 2025 budget request 

Gensler advocated for the President's FY 2025 request of $2.594 billion to support 5,621 positions and 5,073 full-time equivalents, plus an additional $8.4 million for real estate projects. He highlighted that the SEC's funding is deficit-neutral, offset by transaction fees, and critical to maintaining robust oversight of the markets. 

He outlined the specific needs of the SEC’s primary Divisions: 

1. Enforcement: With a 13% increase in tips and complaints in 2023, the Division of Enforcement requires additional staff to handle the rising volume of cases and the growing complexity of frauds, particularly in the crypto space. 27 FTEs requested. 
2. Examinations: Responsible for more than 3,100 examinations in FY 2023, the Division needs more personnel to oversee the increasing number of registrants and to address emerging cyber and information security risks. Even so, Gensler noted the request to grow the Division by 20 FTEs would be “the minimum just for the Division to stay abreast of the growth in market participants”. 
3. Corporation Finance: Overseeing the disclosures of public companies, the Division needs more staff to handle the increase in active reporting companies and ensure timely, accurate disclosures. 16 FTEs requested. 
4. Investment Management: With the massive growth in registered and private funds, this Division requires additional resources to oversee the significant volume of investment advisers and fund complexes. Gensler has requested an extra nine FTEs. 
5. Trading and Markets: This Division’s role in maintaining market order and efficiency necessitates more staff to oversee exchanges, broker-dealers, and other market participants. 14 additional FTEs have been requested. 
6. Economic and Risk Analysis: Critical for providing economic analyses and supporting enforcement, this Division also needs additional personnel to meet the increasing demands. One additional hire has been requested. 

Gensler highlighted the essential role of technology in the SEC's operations. He requested $457 million for IT investments to enhance cybersecurity, migrate to the cloud, and modernise systems like EDGAR. Budget cuts have already delayed crucial technology upgrades, affecting the SEC's ability to keep pace with market innovations. 

Gensler’s testimony emphasises the crucial need for adequate funding to enable the SEC to effectively oversee the expanding and increasingly complex US capital markets. He warned that without additional resources, the SEC's ability to protect investors, maintain market integrity, and support capital formation would be severely compromised. His call for increased funding aims to ensure that the SEC can continue to uphold its mission in the face of rapid market growth and technological change. 

Click here to read the full RegInsight on CUBE’s RegPlatform   

Rostin Behnam lays out CFTC budget plans 

Rostin Behnam, Chair of the Commodity Futures Trading Commission (CFTC), has laid out his plans for the CFTC budget in his testimony to the Subcommittee on Financial Services and General Government. 

As with his US Securities and Exchange Commission (SEC) counterpart, Behnam noted a significant milestone with the CFTC celebrating its 50th anniversary as an independent agency, He reflected on its pivotal role in ensuring financial stability and economic growth through effective regulation of futures trading. Over the past five decades, the CFTC has expanded its jurisdiction significantly, especially following the Dodd-Frank Act, which brought swaps markets under its purview. 

Technological disruption and regulatory evolution 

Behnam highlighted the rapid technological changes transforming financial markets, necessitating an equally agile and technologically adept regulatory response. Key priorities for him personally include: 

• Addressing regulatory gaps. 
• Enhancing organisational effectiveness. 
• Incorporating the digital asset ecosystem and artificial intelligence (AI) into regulatory frameworks. 

He also noted the themes from the CFTC 2023 agenda: 

• Risk management and resilience 
• Customer protections 
• Efficiency and innovation 
• Reporting and data policy 
• Duplicative regulatory requirements 
• International comity 

Adding that, “fundamental to all of these themes is the need to update our ruleset to address the derivatives industry’s current course”. 

Operational and organisational focus 

Central to Behnam’s testimony was the emphasis on strengthening the CFTC’s organisational structure to ensure operational effectiveness and competitive attractiveness as an employer. Recognising the shift towards remote work, Behnam stressed the importance of balancing telework with the benefits of in-office collaboration. 

Data management and cybersecurity enhancements 

Under Behnam’s leadership, the CFTC has undertaken significant reforms in market data collection, interpretation, and reporting. Transitioning to cloud-based systems and bolstering cybersecurity measures are crucial steps towards ensuring robust infrastructure and data security. The establishment of the Division of Data (DOD) and the appointment of the CFTC’s first Chief Data Scientist exemplify the agency’s commitment to leveraging technology for enhanced regulatory oversight. 

Behnam also noted the newly formed AI Task Force’s request for comments on AI use in CFTC-regulated markets, which he said represents a proactive stance towards integrating AI capabilities. This initiative aims to enhance the agency’s surveillance, enforcement, and analytical functions, ensuring the CFTC remains at the forefront of regulatory innovation. 

Like Gensler at the SEC, Behnam was keen to stress that the budget request was the very minimum required, that it “reflects the minimum resources needed for the CFTC to perform its role as the primary regulator of the US futures, swaps, and options markets, and to properly enforce the law to protect markets and market participants.” 

The 2025 budget request 

Behnam requested $399 million and 725 full-time equivalents (FTEs). This would support critical areas such as technological innovation, market oversight, and enforcement, ensuring the CFTC remains equipped to protect market participants and maintain financial stability. 

He outlined the specific needs of the CFTCs primary Divisions: 

1. Division of Enforcement (DOE): Behnam reaffirmed the CFTC’s unwavering commitment to enforcement, particularly in the rapidly evolving digital asset space. The DOE has been instrumental in detecting, investigating, and prosecuting violations, with a significant focus on digital commodity fraud. Despite lacking direct regulatory authority over the cash digital commodity market, the CFTC has utilised its resources to address misconduct, highlighting the urgent need for legislative action to fill regulatory gaps. He requested 163 full time equivalents (FTEs). 
2. The Division of Market Oversight (DMO): The DMO continues to play a crucial role in maintaining market integrity, especially amidst growing interest in novel and complex financial products. Behnam pointed out the increasing number of exchange applications and the necessity for additional resources to ensure thorough and timely reviews. He requested 88 FTEs. 
3. The Division of Clearing and Risk (DCR): The DCR remains vital in managing liquidity and margin requirements amid global market volatility. With US-regulated central counterparties (CCPs) considered among the strongest worldwide, the CFTC’s oversight ensures the robustness of these critical financial infrastructure components. Behnam’s request for increased funding and 86 FTEs aims to enhance the Division’s examination and surveillance capabilities, crucial for maintaining financial stability. 
4. The Market Participants Division (MPD): The MPD oversees the registration and compliance of thousands of derivatives market participants, ensuring they adhere to regulatory standards. This Division’s work is essential for maintaining market integrity and protecting customer funds. He requested 69 FTEs 
5. The Division of Data: This Division’s mission to implement an enterprise data strategy underscores the CFTC’s focus on data-driven decision-making. Leveraging cloud technology and enhancing data analysis capabilities will enable the agency to oversee rapidly evolving markets more effectively. Behnam has asked for 41 FTEs. 

Behnam’s testimony highlighted the CFTC’s strategic vision and adaptive approach in navigating the complexities of modern financial markets. He emphasised regulation, innovation, and collaboration as key to ensuring markets function well, but doubled down on the first of these ending his testimony by noting that “we need thorough and thoughtful regulation to ensure confidence and accountability in the derivatives markets....[with] consistency and certainty so that we can allocate resources towards critical and multi-year investments.” 

Click here to read the full RegInsight on CUBE’s RegPlatform   

EBA issues revised list of ITS validation rules 

The European Banking Authority (EBA) has released an updated version of its Implementing Technical Standards (ITS) on supervisory reporting. In this revision, the EBA has identified certain validation rules that have been deactivated due to errors or IT issues. Competent authorities across the European Union are advised not to formally validate data against these deactivated rules when submitting information in compliance with the ITS. 

Click here to read the full RegInsight on CUBE’s RegPlatform