Summary The SEC has charged Kraken with selling unregistered securities for its staking as a service product. While Lido Finance's product isn't technically the same thing as a centralized yield earning account, I'm not sure the SEC will see a major distinction. Lido's terms of use make clear geo-blocking is a possibility. Losing the ability to interact with the interface without a VPN is something US users should consider. US regulators appear to be at the beginning of a significant crackdown on cryptocurrencies and the banks servicing the broader industry. The latest development in what has been dubbed "Operation Chokepoint 2.0" by some, has been the halting of further minting of the Binance-branded ( BNB-USD ) dollar-pegged stablecoin Binance USD ( BUSD-USD ) by Paxos Trust Company. In my view, there are significant implications from that and the latest development has been a Wells Notice issued to Paxos from the SEC amid the claim that BUSD is an unregistered security. This is important context given what happened last week. Claim Against Kraken Just days before Paxos halted BUSD minting and disclosed the Wells Notice, Kraken paid a $30 million fine and ceased offering staking-as-a-service products for its customers after the SEC charged the company with selling unregistered securities. Kraken is one of the largest exchanges by trading volume and has been an important crypto on-ramp for US customers. It is important to distinguish, however, that the SEC's charge was not a result of Kraken selling certain crypto coins. Rather, the SEC believes Kraken's yield products are unregistered securities. In the SEC's press release: The Securities and Exchange Commission today charged Payward Ventures, Inc. and Payward Trading Ltd., both commonly known as Kraken, with failing to register the offer and sale of their crypto asset staking-as-a-service program Part of this staking as a service model that the SEC appears to be calling into question is Kraken's ETH staking pool on Ethereum ( ETH-USD ). Like similar centralized and decentralized products, Kraken is essentially an ETH-staking intermediary for customers who lack the minimum ETH for direct staking. This product has made Kraken the third largest staker on Ethereum behind only Lido Finance ( LDO-USD ) and Coinbase ( COIN ): Rank Entity Staked Validators Market Share 1 Lido 4,884,448 152,639 29.2% 2 Coinbase 2,071,424 64,732 12.4% 3 Kraken 1,234,496 38,578 7.4% 4 Binance 1,034,144 32,317 6.2% 5 stakefish 573,792 17,931 3.4% Source: Dune Analytics/hildobby, as of 2/14/23 Since Coinbase is also a huge contributor to ETH staking through pooled customer funds, it stands to reason that Coinbase could also be sued by the SEC for similar unregistered securities infractions. That said, Coinbase has been proactive in the public discourse over the last several days and has laid out what it says to be the differences between what Kraken offered customers and what Coinbase offers. Furthermore, Coinbase CEO Brian Armstrong said on Twitter that the company is planning to fight any similar charge from the SEC in court: Coinbase's staking services are not securities. We will happily defend this in court if needed. How that plays out is very much up in the air, but if Coinbase does indeed get charged with unregistered securities sales by the SEC for the same reason as Kraken, it opens up the possibility that any market demand for staking intermediaries could go on-chain. One possible winner in that regard could be Lido Finance. Lido to the Rescue? Lido Finance is a liquid staking protocol that I've covered for Seeking Alpha in the past. One of the major responses to the Kraken news is the idea that Lido Finance, RocketPool ( RPL-USD ), and other similar liquid staking protocols should benefit from centralized exchanges losing the ability to provide any sort of staking as a service product. However, I'm not quite as convinced. To be clear, I do believe it makes sense to go through a staking pool if the user can't stake directly on-chain, either due to high minimum requirements or due to technical competency concerns. But I'm not sure the SEC will make a distinction between a corporation and a DAO. If Kraken's staking as a service product is an unregistered security in the eyes of the SEC, I think we can reasonably infer the agency will take the same view regarding Lido Finance's or Rocket Pool's product offerings. Right or wrong, I'm not totally sure the agency would view decentralized staking services much differently from the yield accounts offered by centralized exchanges. Especially considering liquid staking protocols are also minting ETH derivative coins that the SEC could potentially consider unregistered securities as well. This Could Get More Complicated Something I think the US-based crypto user should think deeply about is these protocols laid out right in the terms of use that geo-blocking is a possibility. This is from Lido's: we reserve the right to limit or restrict access to the Interface by any person or entity, or within any geographic area or legal jurisdiction, at any time and in our sole discretion. We will not be liable to you for any losses or damages you may suffer as a result of or in connection with the Interface being inaccessible to you at any time or for any reason. From the user's standpoint, if one is unable to interact directly with the contract without the front-end application, it might be too risky to stake through these protocols since jurisdiction is a non-zero percent risk at best and a major headwind at worst. From the LDO investor's standpoint, geo-blocking US consumers from Lido's front-end interface would almost certainly slow the growth of what has otherwise been a hugely popular DeFi protocol, but it is unlikely to stop it entirely. As I mentioned, DeFi participants that are more technically savvy can interact with the contract without the front-end interface. And it's also possible that foreign developers could build an unaffiliated front end and simply opt to not comply with US regulators. None of this would be good, though. For what it's worth, Lido Finance's head of business development seems concerned as well, recently telling Bloomberg : The biggest risk I personally see as a US-based person is if they come down and say you can no longer even interact with or contribute to these types of protocols. Then me as a contributor to the DAO, does that mean I can't work on Lido anymore? Do I have to go leave and do something else? Summary What I don't want this article to portray is FUD. I'm still very long-term bullish crypto, Ethereum, and liquid staking protocols on Ethereum. What I'm much less certain about is whether US consumers will be allowed to legally interact with many of these DeFi protocols. I don't think there is any doubt at this point there is a broad crypto crackdown that seems to be just getting started. If I were a DeFi user in a more crypto-friendly jurisdiction, I wouldn't be nearly as concerned as a US-based DeFi user. Crypto will progress with or without the United States. Whether or not the SEC considers Lido Finance, the staking service Lido provides, LDO, or the liquid staking tokens that Lido mints to be securities may not ultimately matter 5 to 10 years from now. However, if the SEC does take that position, I think it will slow growth in the protocol and by extension reduce demand for LDO. To be clear, I'm not saying sell everything. But I am of the opinion that LDO holders (and RPL holders) should probably be cautious. Especially after such nice price runs over the last couple of weeks.
