ESMA Highlights Risks Of Token Offering Investments, Urges Regulatory Compliance By Firms

On Monday, the ESMA – a financial regulatory institution of the European Union and a European Supervisory Authority – alerted investors to the hazards of token offerings (ICOs). Simultaneously, the authority articulated that firms involved in token offerings must abide by EU regulation and country-specific standards.

ESMA has observed a rapid growth in ICOs globally and in Europe and is concerned that investors may be unaware of the high risks that they are taking when investing in ICOs,” the Paris-based authority wrote. The ESMA is tasked with investor protection, maintaining orderly markets, and ensuring financial stability. As a new and developing crowdfunding mechanism, token offerings obviously put a strain on the ESMA achieving these objectives.

Investors

The authority enumerated five main risks that investors are exposed to through token offerings:

·        Unregulated space, vulnerable to fraud or illicit activities
·        High risk of losing all of the invested capital
·        Lack of exit options and extreme price volatility
·        Inadequate information
·        Flaws in the technology

The ESMA noted the “inherently high risk of failure” for businesses in “a very early stage of development” and cautioned that token offerings “may not be captured by the existing rules and may fall outside of the regulated space.” Furthermore, the ESMA indicted that the information in “so-called white papers” is “in most cases unaudited, incomplete, unbalanced or even misleading.” The final bullet point about potential technological flaws seems especially germane in the aftermath of the Parity mess.

In a levelheaded assessment of the token offering hype, the ESMA soberly wrote, “There is no guarantee that the services/products will be successfully developed and, even assuming that the project is successful, any eventual benefit may be extremely low relative to the invested capital.”

Firms

Today, the ESMA also wrote that the onus is on firms to comply with “relevant applicable EU regulation.” Companies that undertake token offerings “must give careful consideration as to whether their activities constitute regulated activities.”

EU rules that would potentially apply include the following:

·        Prospectus Directive (PD);

·        The Markets in Financial Instruments Directive;

·        Alternative Investment Fund Managers Directive; and

·        Fourth Anti-Money Laundering Directive.