Digital Assets Remain Top of Mind for SEC Division of Examinations
Genna Garver, a partner with Troutman Pepper, was quoted in the April 8, 2021 Hedge Fund Law Report article titled, " Digital Assets Remain Top of Mind for SEC Division of Examinations."
"Fund managers investing in digital assets should assume the Division will be asking about those matters. If a manager's Form ADV includes disclosure regarding digital assets, it's possible that could impact the manager's SEC exam risk profile," Garver observed.
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"The Division is concerned enough about the uniqueness of this asset class to be conducting outreach," Garver noted, "but I think we are all still learning how to ensure compliance with the [Investment Advisers Act of 1940 (Advisers Act)] and its rules, which, when adopted, certainly were not designed with digital assets in mind."
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"Literally, the first listed area of focus in the risk alert – which is based on exam deficiency observations – is the classification of digital assets as securities," Garver observed. ... "I would assume most managers are working closely with their legal counsel to the extent they are treating any digital asset as a non-security," Garver opined, adding, "Bitcoin is one asset with which we have some clarity on classification as a non-security, but as new issuances emerge, each asset needs to be analyzed. And, managers can always be second-guessed by the Monday morning quarterbacks on [an] exam."
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The Alert focuses on the need for appropriate due diligence with respect to digital assets. "At the end of the day, the manager needs to know what it's buying, who it's buying from, where the asset is 'held' and how it can exit the investment," Garver advised. ... "Although this is true of every investment, the technological complexities and vulnerabilities with holding a virtual asset supercharge the due diligence required for digital assets," she said.
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"We need clarity on the appropriate measures and gatekeepers to keep digital assets safe. The industry is also evolving so rapidly that we are all trying to keep up with developing processes and complex terminology, such as 'forked' and 'airdropped,'" she noted.