{"id":26661,"date":"2024-05-09T20:31:52","date_gmt":"2024-05-09T20:31:52","guid":{"rendered":"https:\/\/davidgerard.co.uk\/blockchain\/?p=26661"},"modified":"2024-05-09T20:33:58","modified_gmt":"2024-05-09T20:33:58","slug":"robinhood-crypto-receives-an-sec-wells-notice-for-securities-violations","status":"publish","type":"post","link":"https:\/\/davidgerard.co.uk\/blockchain\/2024\/05\/09\/robinhood-crypto-receives-an-sec-wells-notice-for-securities-violations\/","title":{"rendered":"Robinhood Crypto receives an SEC Wells notice for securities violations"},"content":{"rendered":"<p><em>By <strong>Amy Castor<\/strong> and <strong>David Gerard<\/strong><\/em><\/p>\n<ul>\n<li aria-level=\"1\">You can sponsor our efforts to produce more work like this. Here\u2019s<a href=\"https:\/\/www.patreon.com\/amycastor\">\u00a0Amy\u2019s<\/a>\u00a0Patreon and here\u2019s\u00a0<a href=\"https:\/\/www.patreon.com\/davidgerard\/\">David\u2019s<\/a>. For casual tips, here\u2019s<a href=\"http:\/\/ko-fi.com\/amycastor\">\u00a0Amy\u2019s<\/a>\u00a0Ko-Fi and here\u2019s<a href=\"https:\/\/ko-fi.com\/A1529D5\">\u00a0David\u2019s<\/a>.<\/li>\n<li aria-level=\"1\">Help our work: if you liked this post,\u00a0<b><i>tell just one other person<\/i><\/b>.<\/li>\n<\/ul>\n<p>Popular <s>day trading app for degenerate gamblers<\/s> stockbroker Robinhood Markets runs quite a profitable crypto business on the side.<\/p>\n<p>In the 2021 bubble, the crypto side was a massive chunk of Robinhood\u2019s overall profits. Crypto pays them so well because they can charge trading fees, while stock trading charges 0%.<\/p>\n<p>Anyway, Robinhood Crypto is gazing into the orbital laser cannon of regulatory clarity \u2014 they received a <a href=\"https:\/\/en.wikipedia.org\/wiki\/Wells_notice\">Wells notice<\/a> from\u00a0 the SEC on May 4. It seems that some of what the crypto side deals in constitutes unregistered securities.<\/p>\n<p>&nbsp;<\/p>\n<p><a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2024\/05\/09\/robinhood-crypto-receives-an-sec-wells-notice-for-securities-violations\/robinhood-crypto\/\" rel=\"attachment wp-att-26662\"><img loading=\"lazy\" decoding=\"async\" class=\"aligncenter size-full wp-image-26662\" src=\"https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2024\/05\/robinhood-crypto.jpg\" alt=\"\" width=\"510\" height=\"315\" srcset=\"https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2024\/05\/robinhood-crypto.jpg 680w, https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2024\/05\/robinhood-crypto-300x185.jpg 300w, https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2024\/05\/robinhood-crypto-348x215.jpg 348w\" sizes=\"auto, (max-width: 510px) 100vw, 510px\" \/><\/a><\/p>\n<p>&nbsp;<\/p>\n<h3>The Wells notice<\/h3>\n<p>Here\u2019s the text from the 8-K that Robinhood filed about the notice. This is all our actual knowledge so far: [<a href=\"https:\/\/www.sec.gov\/ix?doc=\/Archives\/edgar\/data\/0001783879\/000178387924000138\/hood-20240504.htm\"><i>8-K<\/i><\/a>]<\/p>\n<blockquote><p>On May 4, 2024, RHC received a \u201cWells Notice\u201d from the Staff of the SEC (the \u201cStaff\u201d) stating that the Staff has advised RHC that it made a \u201cpreliminary determination\u201d to recommend that the SEC file an enforcement action against RHC alleging violations of Sections 15(a) and 17A of the Securities Exchange Act of 1934, as amended.<\/p><\/blockquote>\n<p>Section 15(a) deals with broker-dealers. Section 17A and Rule 17Ab2-1 require an entity to register with the SEC or obtain an exemption before acting as a clearing agency. [<a href=\"https:\/\/www.govinfo.gov\/content\/pkg\/COMPS-1885\/uslm\/COMPS-1885.xml\"><i>Act<\/i><\/a><i>; <\/i><a href=\"https:\/\/www.law.cornell.edu\/cfr\/text\/17\/240.17Ab2-1\"><i>LII<\/i><\/a>]<\/p>\n<p>Since Robinhood is a public company, they had to file about the Wells notice immediately. The text of the notice itself has not yet been put up.<\/p>\n<p>If you sell securities on behalf of your clients, you are a broker-dealer. If you facilitate trades between a buyer and a seller, you are a clearinghouse. The SEC requires that these functions be kept separate, for good reason!<\/p>\n<h3>Be your own clearinghouse!<\/h3>\n<p>After a buyer and seller agree on a price for a trade, a clearinghouse will \u201cclear\u201d or settle the trade between the two parties.<\/p>\n<p>The role of the clearinghouse is to reduce counterparty risk. If you\u2019re an investor, you don\u2019t have to worry about the brokerage going bankrupt, because the clearinghouse ensures the funds are there.<\/p>\n<p>In the US, the main clearinghouse for stocks is the massive SEC-registered Depository Trust &amp; Clearing Corporation. The purpose of the DTCC is to protect investors and the markets by ensuring brokerage firms have the funds to support the trades they make.<\/p>\n<p>As the SEC already pointed out in its <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2023\/06\/07\/the-sec-sues-coinbase-its-on\/\">lawsuit against Coinbase<\/a>,\u00a0the duties of an exchange, a broker-dealer, and a clearinghouse are not to be intertwined \u2014 because that would risk massive conflicts of interest.<\/p>\n<p>Robinhood Financial, the stock trading division of Robinhood Markets, is a registered broker-dealer. They clear their trades through the DTCC.<\/p>\n<p>The Robinhood Crypto division is <em>not<\/em> registered as a broker-dealer. They also function as their own clearinghouse.<\/p>\n<p>This is stupidly risky \u2014 as Robinhood has experienced firsthand. In January 2021, Robinhood got a call from the DTCC asking them for $3 billion in overnight capital to mitigate the risks of prices on certain assets collapsing \u2014 specifically, popular meme stocks.<\/p>\n<p>Robinhood didn\u2019t have the money! So they responded by limiting buy orders on GameStop (GME) and other volatile securities to reduce the collateral demands.<\/p>\n<p>This crashed the stock and led to a class-action lawsuit, an SEC investigation, and Congressional hearings. But the point is that the DTCC was there to avert disaster.<\/p>\n<h3>How the Robinhood crypto casino works<\/h3>\n<p>Robinhood was founded in 2013 as a way for people to trade stocks commission-free. Founders Baiju Bhatt and Vladamir Tenev made their money from day traders, who became addicted to the game-like quality of the mobile app.<\/p>\n<p>To lure in more gamblers of greater degeneracy, they expanded the platform in 2018 to include crypto, which is super volatile and like crack cocaine to day traders. In the process, they turned themselves into their own clearinghouse.<\/p>\n<p>Robinhood Crypto is not an exchange \u2014 they don\u2019t match sellers and buyers like Coinbase or Kraken. Instead, they pass orders through to a liquidity provider.<\/p>\n<p>Robinhood Crypto used to send orders to Jump Trading, but that relationship ended in 2023 after Jump decided there was a bit too much regulatory heat in the crypto business. Now Robinhood works with other market-making firms, including B2C2. According to their 10-Q for Q1 2024, they send more than 10% of their crypto orders through <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2023\/01\/06\/crypto-collapse-gemini-vs-dcg-new-york-charges-mashinsky-in-celsius-voyager-sale-troubles-silvergate-troubles-wintermute\/\">Wintermute.<\/a> [<a href=\"https:\/\/www.coindesk.com\/business\/2023\/08\/29\/robinhood-and-jump-trading-no-longer-have-crypto-partnership-source\/\"><i>CoinDesk<\/i><\/a><i>, 2023; <\/i><a href=\"https:\/\/www.sec.gov\/ix?doc=\/Archives\/edgar\/data\/1783879\/000178387924000145\/hood-20240331.htm\"><i>10-Q<\/i><\/a>]<\/p>\n<p>Dogecoin (DOGE) was particularly profitable. In the first three months of 2021, more than a third of Robinhood&#8217;s crypto business was driven by DOGE. [<a href=\"https:\/\/www.sec.gov\/Archives\/edgar\/data\/1783879\/000162828021013318\/robinhoods-1.htm\"><i>S-1<\/i><\/a><i>, June 2021<\/i>]<\/p>\n<p>Like many crypto firms, Robinhood benefited from a <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2024\/03\/06\/bitcoin-hits-a-new-all-time-high-world-reacts-wow-that-things-still-around\/\">surge in the price of bitcoin<\/a> in the first quarter of 2024. Its crypto revenue tripled in Q1. [<a href=\"https:\/\/investors.robinhood.com\/files\/doc_financials\/2024\/q1\/Q1-2024-Robinhood-Exhibit-99-1.pdf\"><i>Press release<\/i><\/a><i>, PDF; <\/i><a href=\"https:\/\/www.sec.gov\/ix?doc=\/Archives\/edgar\/data\/1783879\/000178387924000145\/hood-20240331.htm\"><i>10-Q<\/i><\/a>]<\/p>\n<p>Robinhood Crypto operates to the high standards one expects of a crypto firm \u2014 they <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2022\/08\/17\/news-starbucks-nfts-reddit-karma-points-on-the-blockchain-saylor-fired-telegram-ico-slight-return\/\">paid a $30 million fine<\/a> to New York for compliance failures in 2022.<\/p>\n<h3>Crypto securities on Robinhood<\/h3>\n<p>Currently, Robinhood Crypto lists just 15 crypto tokens: AAVE (Aave), Avalanche (AVAX), Bitcoin (BTC), Bitcoin Cash (BCH), Chainlink (LINK), Compound (COMP), Dogecoin (DOGE), Ethereum (ETH), Ethereum Classic (ETC), Litecoin (LTC), Shiba Inu (SHIB), Stellar Lumens (XLM), Tezos (XTZ), Uniswap (UNI), and USD Coin (USDC). [<a href=\"https:\/\/robinhood.com\/us\/en\/support\/articles\/no-commission-crypto\/\"><i>Robinhood<\/i><\/a><i>, <\/i><a href=\"https:\/\/archive.ph\/fNGiX\"><i>archive<\/i><\/a><i> of May 9, 2024<\/i>]<\/p>\n<p>They delisted Solana (SOL), Polygon (MATIC), and Cardano (ADA) tokens when the SEC called those out as unregistered securities in June in its lawsuits against <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2023\/06\/07\/the-sec-sues-coinbase-its-on\/\">Coinbase<\/a> and <a href=\"https:\/\/amycastor.com\/2023\/06\/12\/sec-sues-binance-part-1-the-complaint-binance-us-asset-freeze-tai-chi-plan-sock-puppet-ceos-weird-cash-flows\/\">Binance<\/a>.<\/p>\n<p>The SEC just needs to show that one or more of the crypto tokens on Robinhood Crypto are unregistered securities, which shouldn\u2019t be too hard. The SEC has already warned that the \u201cvast majority\u201d of cryptos are unregistered securities.<\/p>\n<p>Consensys recently <a href=\"https:\/\/amycastor.com\/2024\/04\/27\/consensys-gets-a-wells-notice-over-metamask-swaps-and-staking\/\">got a Wells notice<\/a>, and they are worried that the SEC will determine that ETH is an unregistered security, after Ethereum switched to <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2022\/08\/20\/proof-of-stake-is-better-than-proof-of-work-but-ethereums-merge-wont-fix-any-other-problem-with-cryptocurrency\/\">proof of stake<\/a>.<\/p>\n<p>Uniswap also <a href=\"https:\/\/amycastor.com\/2024\/04\/15\/crypto-is-going-sideways-avi-eisenberg-trial-begins-uniswap-gets-a-wells-notice-bitfinex-securities-in-el-salvador\/\">got a Wells notice<\/a>, and we would not be surprised if UNI is called out as an unregistered security.<\/p>\n<p>What securities will the SEC call out if it sues Robinhood? We would guess UNI and, given the Consensys Wells notice, even ETH is a possibility \u2014 but they could potentially call out any one of the 14 non-bitcoin tokens as securities.<\/p>\n<h3>Not backing down<\/h3>\n<p>Robinhood says it\u2019s going to fight! Dan Gallagher, Robinhood&#8217;s chief legal officer, insists in a company blog post that the company is not selling securities incorrectly. [<a href=\"https:\/\/newsroom.aboutrobinhood.com\/robinhood-response-to-receipt-of-wells-notice-from-the-u-s-securities-and-exchange-commission\/\"><i>Robinhood<\/i><\/a>]<\/p>\n<p>Vlad Tenev said Robinhood would &#8220;contest this matter in the courts,&#8221; to defend itself and to establish \u201cregulatory clarity.&#8221; [<a href=\"https:\/\/twitter.com\/vladtenev\/status\/1787595554538786977\"><i>Twitter<\/i><\/a><i>; <\/i><a href=\"https:\/\/twitter.com\/vladtenev\/status\/1787595555981668751\"><i>Twitter<\/i><\/a>]<\/p>\n<p>Robinhood does have regulatory clarity \u2014 just not the kind of regulatory clarity that lets them keep making money on unregistered securities with a COI-filled business arrangement. What crypto wants is special rules that allow them to keep violating decades-old securities laws.<\/p>\n<h3>What this means<\/h3>\n<p>The SEC\u2019s <a href=\"https:\/\/davidgerard.co.uk\/blockchain\/2023\/06\/07\/the-sec-sues-coinbase-its-on\/\">action against Coinbase<\/a> is existential \u2014 if the SEC prevails, a huge chunk of Coinbase\u2019s US business disappears. Robinhood isn\u2019t in that position.<\/p>\n<p>We doubt Robinhood will fight very hard. Crypto isn\u2019t even their main business \u2014 it accounted for just 7% of their transaction-based revenue last year. [<a href=\"https:\/\/www.axios.com\/2024\/05\/07\/sec-crypto-robinhood-wells-notice\"><i>Axios<\/i><\/a>]<\/p>\n<p>We expect Robinhood will eventually settle, pay a fine, and move on.<\/p>\n<p>The SEC is already suing <a href=\"https:\/\/amycastor.com\/2023\/12\/03\/crypto-collapse-sec-brings-regulatory-clarity-to-kraken-and-celsius-stablecoins-for-the-uk-crypto-money-laundering\/\">Kraken<\/a> and Coinbase and is preparing to sue <a href=\"https:\/\/amycastor.com\/2024\/04\/15\/crypto-is-going-sideways-avi-eisenberg-trial-begins-uniswap-gets-a-wells-notice-bitfinex-securities-in-el-salvador\/\">Uniswap<\/a> and <a href=\"https:\/\/amycastor.com\/2024\/04\/27\/consensys-gets-a-wells-notice-over-metamask-swaps-and-staking\/\">Consensys<\/a>. As long as Biden is re-elected in November and Gary Gensler remains the chair of the SEC, we expect the SEC will see all these lawsuits through. The public is still pissed off about the crypto crooks from the last bubble.<\/p>\n<br><br><div align=\"center\"><p><a href=\"https:\/\/www.patreon.com\/bePatron?u=8420236\"><img src=\"https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2021\/10\/become_a_patron_button.svg\" alt=\"Become a Patron!\" title=\"Become a Patron!\" width=217 height=51><\/a><br><p style=\"align:center;\" class=\"patreon-badge\"><i>Your subscriptions keep this site going. <a href=\"https:\/\/www.patreon.com\/bePatron?u=8420236\">Sign up today!<\/a><\/i><\/p><\/div>","protected":false},"excerpt":{"rendered":"<p>Gazing into the orbital laser cannon of regulatory clarity.<\/p>\n","protected":false},"author":1,"featured_media":26662,"comment_status":"open","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"inline_featured_image":false,"jetpack_post_was_ever_published":false,"_jetpack_newsletter_access":"","_jetpack_dont_email_post_to_subs":false,"_jetpack_newsletter_tier_id":0,"_jetpack_memberships_contains_paywalled_content":false,"_jetpack_memberships_contains_paid_content":false,"footnotes":""},"categories":[1],"tags":[632,2876,1343,33],"class_list":["post-26661","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-uncategorised","tag-dogecoin","tag-dtcc","tag-robinhood","tag-sec"],"jetpack_featured_media_url":"https:\/\/davidgerard.co.uk\/blockchain\/wp-content\/uploads\/2024\/05\/robinhood-crypto.jpg","jetpack_sharing_enabled":true,"_links":{"self":[{"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/posts\/26661","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/comments?post=26661"}],"version-history":[{"count":19,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/posts\/26661\/revisions"}],"predecessor-version":[{"id":26681,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/posts\/26661\/revisions\/26681"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/media\/26662"}],"wp:attachment":[{"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/media?parent=26661"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/categories?post=26661"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/davidgerard.co.uk\/blockchain\/wp-json\/wp\/v2\/tags?post=26661"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}