Synthetic Blockchain Stocks Prompt SEC’s Gensler To Caution Bankers

Securities and Exchange Commission (SEC) Chair Gary Gensler cautioned bankers to take heed regarding the proliferation of synthetic stocks on the blockchain, according to a Wednesday (July 21) speech made before the American Bar Association’s Derivatives and Futures Law Committee.

Gensler warned that any business selling the tokens to people in the U.S. will likely face trouble with regulators. Reliance on the credit default swaps (CDS) sprung during the Great Recession of 2008 and led to a weakening of underwriting standards, Gensler said. It also enabled financial institutions to lower the bar on regulatory capital requirements to a dangerous level.

By the end of 2007, the CDS market’s notional value grew to more than 10 times larger than it had been in 2004, reaching $61 trillion, according to Gensler. He committed to using all SEC enforcement tools to ferret out any company selling the assets without registration.

CDS currently has a notional value exceeding $8 trillion, Gensler said in the speech, citing Bank for International Settlements Statistics Explorer. CDS now comprises “narrow-based equity swaps,” with some categorized as total return swaps.

“Though we don’t yet have reliable data on the size of equity swaps and total return swaps, from time to time they too have played an important role in our capital markets,” Gensler said, per the speech.

Starting November 1, security-based swap dealers and major security-based swap participants will have to register with the SEC.

“It doesn’t matter whether it’s a stock token, a stable value token backed by securities, or any other virtual product that provides synthetic exposure to underlying securities,” Gensler said during the speech. “These platforms — whether in the decentralized or centralized finance space — are implicated by the securities laws and must work within our securities regime.”

Synthetic versions of stocks from known brands are popping up on blockchains as part of a pilot to see whether the stock market can live on a blockchain. The tokens were developed to mirror securities pricing but without the ability to make purchases.