SEC Issues Risk Alert Detailing Their Continued Focus on Digital Asset Securities

SEC Issues Risk Alert Detailing Their Continued Focus on Digital Asset Securities

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On February 26, 2021, the Securities and Exchange Commission’s Division of Examinations (formerly known as the Office of Compliance Inspections and Examinations) issued a Risk Alert providing observations regarding digital assets. Digital assets refer to assets that are issued or transferred using distributed ledger or blockchain technology, including virtual currencies, coins and tokens. Such digital assets may or may not need to meet the definition of a security under the federal securities laws.

The observations were made during examinations of investment advisers managing digital assets that meet the definition of securities (“Digital Asset Securities”). Based on these observations, future examinations will focus on:

  • Portfolio Management. Whether advisers classify digital assets as Digital Asset Securities, perform due diligence, evaluate and mitigate risks, manage risks associated with “forked” or “airdropped” digital assets and fulfill their fiduciary duties with respect to investment advice.
  • Books and Records. Whether advisers maintain accurate books and records related to trading activity in digital assets.
  • Compliance with the custody rule, including reviewing for unauthorized transactions, controls around safekeeping of digital assets, business continuity plans (particularly regarding personnel with access to private keys), policies regarding loss of private keys and evaluation of harm, reliability of software used to access digital asset networks, storage of digital assets – both on trading platform accounts and with third-party custodians, and security procedures.
  • Adequacy of disclosures to investors regarding the unique and complex risks related to digital assets.
  • Pricing Client Portfolios. Valuation methods for digital assets, as well as how valuation methods are disclosed.
  • Registration Issues. Matters related to registration, including how RAUM is calculated, how digital assets are characterized, or how funds determine applicable exemptions from registration as investment companies.

The Risk Alert also outlines specific examination priorities for broker-dealers, national securities exchanges and transfer agents, including safekeeping, recordkeeping, AML, offerings, disclosure and outside business activity concerns. The SEC encourages firms to review their policies and procedures, as applicable, to promote improvements as they relate to the trading and ownership of digital assets.

The full Risk Alert can be viewed at SEC.gov.

 

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