‘Perfect storm of investor risk’: SEC enforcement chief pushes back on crypto industry’s ‘regulation by enforcement’ chorus

On Friday, Gurbir Grewal, the SEC’s director of enforcement, pushed back against criticism from industry participants that his agency is engaging in “regulation by enforcement,” arguing that crypto represents a “perfect storm of investor risk” that needs to be addressed through existing securities law.

At an event in Midtown Manhattan hosted by the law firm Lowenstein Sandler and Rutgers Law, he told two law professors that the SEC’s frenzied activity was spurred by the crypto industry’s promises of financial inclusion and wealth generation coupled with “wholesale noncompliance,” a lack of meaningful disclosures, and widespread fraud.

“The increase in risk has forced us to focus our efforts here,” he said.

‘Getting smoked’

Although Grewal’s enforcement division has a staff of around 1,300 that annually compiles more than 700 recommendations for action, he cautioned that it “can’t be everywhere at once.” Since the collapse of FTX, the SEC has brought highly publicized enforcement actions against everyone from Kim Kardashian and Paul Pierce to failed projects like Terraform Labs.

Barring the passage of new crypto regulation by Congress, the SEC relies on existing securities law, which Chair Gary Gensler has argued are sufficient to oversee the industry. Even so, the agency has expanded its view of cryptocurrencies that it deems securities—an approach participants say prevents them from operating compliantly. On Friday, the digital assets platform Bakkt decided to delist three major tokens after the SEC named them as securities in its recent lawsuits against Binance and Coinbase.

Speaking on Friday, Grewal described accusations of regulation by enforcement as “catchy but tired.”

“What we’re doing is enforcing existing rules and regulations,” he said. “Folks just really don’t like the application of the rules to their particular projects.”

Grewal argued that existing standards, including the Howey Test, as well as previous SEC guidance such as a 2019 framework for investment contract analysis of digital assets, should be sufficient for firms operating in the space. Too many in the sector, he contends, are too focused on labels, not the underlying offerings.

“We’ve seen plenty of DeFi products that are neither decentralized nor finance—but rather just straight fraud,” he added.

Recent criticism has centered around an insider trading case brought by the SEC against a Coinbase employee, whom the agency accused of using confidential information on token listings for personal benefit. In the lawsuit, the SEC alleged that several cryptocurrencies were unregistered securities. While firms sought to challenge the assertion through amici briefs, the SEC settled with the defendant before the issue could be litigated.

Grewal defended the SEC’s approach, arguing that it would be impossible to take individual action against the more than 20,000 available cryptocurrency tokens, the vast majority of which Gensler argues are securities. Grewal said the agency should not have to bring individual actions against token issuers before filing insider trading cases.

Speaking at a later panel on Friday, Coinbase chief policy officer Faryar Shirzad criticized the SEC’s action, saying that companies should have the opportunity to weigh in on token classification, even if the final court decision does not settle in their favor.

Grewal said that the SEC has been engaging with the crypto industry, including changing its approach to individual enforcement actions after meeting with stakeholders, including after issuing Wells Notices, or notifications that the agency plans to bring a lawsuit.

“It’s not picking winners or losers,” he said. “It’s about protecting people who are getting smoked.”