SEC Staff Issues Statement on Crypto Asset Exchange-Traded Products

The staff of the Securities and Exchange Commission’s Division of Corporation Finance (the “Staff”) published a detailed statement expressing the Staff’s views on how the disclosure requirements of the Securities Act of 1933 and the Securities Exchange Act of 1934 apply to crypto asset exchange-traded products (“Crypto Asset ETPs”).¹ The Statement discusses the Staff’s observations regarding disclosure practices for Crypto Asset ETPs, investment products (typically structured as trusts) that are listed and traded on national securities exchanges and that hold spot crypto assets or derivative instruments that reference crypto assets. Notably, the Statement only covers offerings of Crypto Asset ETP securities under the Securities Act and Exchange Act and does not address offerings by Crypto Asset ETPs that are registered as investment companies under the Investment Company Act of 1940.

The Statement covers a range of required disclosures for Crypto Asset ETP offerings, including risk factors, business operations, service providers, the plan of distribution and financial statements. The Staff specifically notes that each Crypto Asset ETP issuer should consider:

• Its own facts and circumstances when preparing its disclosures.
• Whether it is permitted to provide “scaled disclosures”² with respect to any applicable requirements.

Summarized below, the Statement reflects the Staff’s observations regarding disclosure practices from its reviews of crypto asset ETP filings and specific inquiries that market participants have presented to the Staff. While the Statement is carefully worded to avoid creating or changing disclosure requirements set forth in the relevant SEC forms, the purpose of the Statement is clearly to guide issuers toward disclosures less likely to draw Staff comments.

Crypto Asset ETP Disclosure Requirements: Now Less Cryptic

The Statement acknowledges that it does not address all material disclosure items and that the disclosure topics addressed below may not be relevant for every issuer. Nonetheless, the Statement addresses several areas that typically form part of the registration statements for almost all Crypto Asset ETPs.

For instance, the Statement highlights the following:

• Prospectus Summary: Summaries should identify the most significant aspects of the offering and should be written in clear, plain language, avoiding merely repeating the text of the prospectus. Examples include:
  • An overview of the trust, including a description of the trust’s investment objective and the index or benchmark it will reference.
  • A description of the underlying crypto asset(s) and the associated network(s).
  • The issuer’s policies regarding the management of the underlying crypto asset(s), including any limitations on how they are held or used.
  • The issuer’s policies on incidental rights associated with the underlying crypto assets(s), including forks, airdrops or similar events.
  • That the amount of underlying crypto assets per share held by the trust will decline over time as the assets are sold to pay the trust’s expenses.
• Risk Factors: Crypto asset issuers must identify material risks specific to the issuer, product and crypto asset involved and should avoid discussing risks that could apply generically to any issuer. The scope of the risk disclosure will depend on material factors, such as: the nature of the security being offered, the issuer’s business, the underlying crypto asset(s), the tracking index or benchmark, limited rights of holders, insurance coverage, valuation and liquidity risks, cybersecurity risks or technological and regulatory risks. The Statement notes the following as examples of risks that have been disclosed:
  • Volatility and market manipulation in the underlying crypto asset(s).
  • Theft of private keys and hacking incidents.
  • Fraud, manipulation and security failures on crypto trading platforms.
  • Attacks on the associated network(s) by malicious actors.
  • Risks related to validator or miner incentives and market competition.
  • Risks from authorized participants (“APs”)³ and other service providers or counterparties providing services for competitors.
• Description of Business: Issuers must include a narrative description of the material aspects of their business. For Crypto Asset ETPs, this includes detailed information about:
  • Underlying Crypto Assets and Networks
    • The origin, development team, the method of generating, minting or mining the crypto asset(s), the process for staking, locking and burning the crypto asset(s), the consensus protocol, use cases and network fees.
    • Details on total supply, burn/mint schedules, halving events, forks and market capitalizations.
    • The structure and regulation of spot and futures markets for the crypto asset(s).
  • Use of an Index or Benchmark
    • Constituent crypto trading platforms used for pricing, with market share and volume data.
    • Index construction and selection methodology.
    • Oversight committee structure (if any).
    • Whether the sponsor can change the benchmark and how changes are communicated to investors.
  • NAV Calculation
    • NAV calculation methodology and contingency procedures if the index is unavailable.
    • Differences (if any) between NAV and fair value methodologies used for GAAP reporting.
    • Whether third-party methodologies or licenses are used for valuation.
• Service Providers and Custody: The disclosure must discuss the extent to which the issuer’s business is materially reliant on third parties and the various fees payable to the ETP sponsor and third-party service providers, including crypto asset custodians. Issuers are required to file as exhibits to the registration statement material contracts not made in the ordinary course of business, or if in the ordinary course of business, those on which the issuer is substantially dependent, except when immaterial in amount or significance. Examples include disclosures relating to:
  • Trust Service Providers
    • Identifying the APs, describing the material terms of the AP agreement, and filing the agreement as an exhibit to the registration statement.
    • The Statement notes that some prospectus cover pages identify the initial AP or the initial purchaser as a statutory underwriter.
    • Identifying any counterparties contracted to assist in the purchase and sale of the underlying crypto asset(s) and :
      • Describing material terms of agreements with such parties.
      • Disclosing any affiliations or material relationships between the counterparties and the APs.
      • Discussing the criteria for engaging the counterparties.
      • Filing any material agreements as exhibits to the registration statement.
    • To the extent the trust has an agreement with a counterparty to provide financing for purchases and sales of the underlying crypto asset(s), disclosing the material terms of that arrangement, including the rate of interest, describing the mechanics of financing in connection with creation and redemption orders and filing any material agreements as exhibits to the registration statement.
  • Custody of the Trust’s Assets
    • The material terms of custodian agreements.
    • Storage policies for private keys, including the use of cold, warm or hot wallets, whether the issuer’s crypto assets are commingled and asset transfer processes.
    • Access to private keys and procedures for verifying crypto asset holdings.
    • Insurance coverage for custodial losses and whether the coverage is issuer-specific or pooled.
  • Fees and Expenses
    • Sponsor fee calculation methodology, which fees and expenses are assumed by the sponsor and which fees are capped or otherwise not assumed by the sponsor.
    • o Third-party fee arrangements, including transaction fees and other expenses.
    • o Any payment of fees in crypto assets held by the trust.
• Description of Securities: Issuers should include a disclosure of the circumstances under which shareholders have voting rights, including:
  • Any limitations or restrictions on voting rights;
  • Whether rights can be modified without majority shareholder approval;
  • How investors are notified of material amendments to or termination of the trust agreement.
• Plan of Distribution: SEC rules require disclosure of the plan of distribution of securities offered and sold in a registered offering. Issuers must describe:
  • Mechanics of the creation and redemption process between the trust, APs and other third-party service providers;
  • Whether and to what extent creation and redemption orders will be settled onchain or offchain;
  • Potential impact on the arbitrage mechanism from price volatility, trading volume and price differentials across crypto asset trading platforms.
  • Whether and how the sponsor may suspend creation and redemption orders and provide notice of such.
• Management: Crypto asset ETPs have sponsors whose directors and executive officers perform functions similar to a board of directors and executive officers for trust. When sponsors perform such policy-making functions, disclosures should be provided about the directors, executive officers or employees involved in these functions, as well as the fees paid to the sponsor or any third party for performing such functions (although disclosure regarding these individuals’ executive compensation is not required).
• Conflicts of Interest: Disclosures must include information about transactions with related persons and the policies related to the review, approval or ratification of transactions involving related people. Examples include:
  • Whether insiders hold the underlying crypto assets.
  • Whether the trust has a code of conduct or otherewise requires pre-clearance of transactions involving employees, sponsors or affiliates and the underlying crypto assets.
  • The sponsor’s experience sponsoring other exchange-traded products and its specific experience in crypto asset markets.
• Financial Statements: Issuers organized as statutory trusts or limited partnerships must provide financial statements of the trust/partnership in addition to separate financial statements for each series. Where the issuer is a trust limited partnership offering multiple series, the issuer must provide for each series:
  • Separate audited and interim financial statements.
  • Separate materiality assessments for Regulation S-K and Regulation S-X purposes.

Concluding Observations

Beyond Bitcoin and Ether: This Statement may also be a sign of things to come for Crypto Asset ETPs. Thus far, the SEC has only permitted Crypto Asset ETPs based on bitcoin and/or ether to be listed and traded on national securities exchanges. The reasons for that restrictive approach are rooted in the Exchange Act’s requirements for rule changes by securities exchanges, rather than in concerns related to disclosures.⁴ In recent months, however, there has been a significant number of filings for crypto assets beyond bitcoin and ether, including, for example, for products based on Solana, XRP, DOT, and SUI, among others. While it may be premature to predict which types of Crypto Asset ETPs the SEC will permit to be listed and traded on national securities exchanges, it is likely that the Statement signals a broader range of ETPs being approved beyond those based on bitcoin and/or ether.

Actively-Managed ETPs: While the Statement discusses disclosures relating to the indexes and benchmarks tracked by passive ETPs at length, it does not expressly address actively managed ETPs. This silence notwithstanding, the Statement should be useful guidance to actively managed ETPs, in addition to those that track indexes or benchmarks. Issuers of actively managed products accordingly consider the guidance in the Statement in drafting their own disclosures.

This Staff Statement is the latest of a series of publications by the SEC staff that seek to clarify or provide guidance on specific categories of crypto assets or activities related to crypto assets.⁵ Notably, SEC staff also recently published a statement outlining disclosure expectations for entities conducting offerings of securities in connection with crypto asset-related activities.⁶ Unlike this Statement concerning Crypto Asset ETPs, that earlier statement concerned offerings of securities of issuers whose operations relate to crypto assets, crypto asset networks or their applications. These two statements provide valuable guidance as to the facts around crypto assets and their blockchains and networks that the SEC staff consider to be material in the context of registration statements and prospectuses.

Issuers of existing or proposed Crypto Asset ETP may want to assess their disclosures against the Staff’s Statement and consider whether enhancements or modifications are warranted.