Blockchain Bitcoin & Crypto Weekly CXO Briefing for week starting 31st July 2017

The Blockchain Bitcoin & Crypto Weekly CXO Briefing is all you need to know, each week, jargon free for CXO level business leaders and investors who will use this technology to change the world. Each week we select the 3 news items that matter and explain why and link to one expert opinion.

For the intro to this weekly series, please go here.

News Item 1: Russian held over bitcoin laundering linked to BTC-e exchange

Decrypted: Earlier this week the Greek police arrested the main figure behind the Bitcoin exchange BTC-e, on suspicion of money laundering. Identified as Alexander Vinnik, he was the key person responsible for running a large-scale money laundering operation. Its estimated that over $4 billion worth in Bitcoin were trafficked through the BTC-e since 2011.

BTC-e is allegedly involved in a wide range of crimes that go far beyond the lack of regulation of the Bitcoin exchange, and include identity theft, drug trafficking, numerous ransomware attacks, facilitating money laundering from criminal actions of organized crime around the world and other cyber-criminal activity.

The indictment also alleges that Vinnik was involved in the infamous Mt. Gox theft, another Bitcoin exchange that was hacked in 2014 losing $450 million and eventually failing, partly due to losses from the theft.

Our take: Cryptocurrencies such as Bitcoin provide people around the world new and innovative ways of engaging in legitimate commerce. Just as new computer technologies continue to change the way we engage each other, so will criminals that use these new technologies to serve their own nefarious purposes.

As the various governments and organizations are scrambling to limit money laundering, new methods emerge. The development of electronic payment systems and virtual currencies like Bitcoins provide another way for funds to move across borders. Virtual currencies offer anonymity, which is invaluable when illegal transactions are involved.

Bitcoin is an untraceable currency, that is is not centrally controlled by any one government. Yet, Bitcoin’s transactions aren’t truly untraceable. Because of blockchain, the underlying technology behind Bitcoin, it’s possible to see the sequence of exchanges involving Bitcoin. One of the main characteristics of Bitcoin’s is that every transaction is public and anyone can follow the coins as they move between addresses. This makes it difficult to launder stolen bitcoins, but not impossible.

Bitcoin used together with the anonymity provided by the TOR network, allows anyone to order and pay anonymously for digital goods and criminal activities. In addition to the anonymity that Tor provides, anyone can get additional protection and encryption, using Tails, Bitcoin tumblers, and mixers. Bitcoin tumblers, can break up your Bitcoins, move them around and reassemble them. Repeat that process a few times and it becomes nearly impossible to track the original coins. All the pieces are there, but its hard to put them back together.

Also, technologies like Dark Wallet go even further, integrating laundering by default into every payment its users make. Its uses a technique called CoinJoin: Every time a user spends bitcoins, his or her transaction is combined with that of another user chosen at random who’s making a payment around the same time. Say, if Alice is buying socks from an online sock seller and Bob is buying cocaine on the Deep Web, Dark Wallet will combine their transactions so that the blockchain records only a single movement of funds. The bitcoins simultaneously leave Alice’s and Bob’s addresses and are paid to the sock seller and the Deep Web. The negotiation of that multi-party transaction is encrypted, so no eavesdropper on the network can easily determine whose coins went where. To mix their coins further, users can also run CoinJoin on their bitcoins when they’re not making a real payment, instead sending them to another address they own.

Cash has alway been king for criminals. For years, criminals moved suitcases full of dollar bills to trade illegal goods and services.  The FBI in 2012, published an Intelligence Assessment about Bitcoin that indicated that because of Bitcoin’s small user base, the probability of it being used for illegal activities was low. Also, according a recent report from the European Commission, virtual currencies are rarely used by criminal organizations because of the high technology required.

The landscape is changing. Cryptocurrencies are growing exponentially, so if criminals up to now didn’t have the interest or technical chops, there is no question they find them and experiment how they can move money with Bitcoin and other cryptocurrencies. Even though everything you do online leaves a digital footprint, one of the greatest dangers is greed and corruption that can enable organized crime to get a foothold and propagate their criminal activities using cryptocurrencies.

News Item 2: SEC Issues Investigative Report Concluding DAO Tokens, a Digital Asset, Were Securities

Decrypted: Since the inception of Bitcoin and blockchain, government organizations around the world have had difficulties understanding this technology. Until recently many were hostile, and hoped that it would go away or that somehow they could turn it off. Well, those days are over.

The SEC issued an investigative report that concludes that ICO tokens may be indeed securities. With this recent initial report, the SEC layed out the groundwork of what’s going to follow. The SEC concluded federal US securities laws may apply to anyone that offers and sells securities in the United States whether or not the issuing entity is a decentralized autonomous organization and regardless of whether those securities are purchased using US dollars or virtual currency.

Our take: Its about time they made their opinion public. Overall, I would say that the SEC report is positive, not negative. Let me address some of the key points:

    • ICOs are not illegal
    • “The Report confirms that issuers of distributed ledger or blockchain technology-based securities must register offers and sales of such securities unless a valid exemption applies.”
    • Laws may apply
    • “As discussed in the Report, virtual coins or tokens may be securities and subject to the federal securities laws.”
    • Encouraging innovation
    • “The SEC is studying the effects of distributed ledger and other innovative technologies and encourages market participants to engage with us. We seek to foster innovative and beneficial ways to raise capital, while ensuring – first and foremost – that investors and our markets are protected.”
    • Cryptocurrencies are money
    • “Investors in The DAO Invested Money. It is well established that cash is not the only form of contribution or investment that will create an investment contract.” 

When it comes to what happened with DAO, even though the SEC considered it unlawful, it decided not to pursue criminal charges, and only suggested caution. “Laws may apply” leaves this wide open and very ambiguous of what might happen in the future.  It sounds to me that from this point forward, no one is going to get a free pass. 

In the US., the Howey Test is the leading definition of an investment contract and what will be used used to determine what tokens are securities. Marco Santori, posted an excellent tweetstorm about the SEC report, and what tokens would be considered securities. To give an example,  if you make in investment in a gym and want to make money from the operation of the business, then its a security. If you join the gym to get in shape, then its not a security.

In an open letter to the SEC via Facebook, Tim Draper spoke about the recent SEC decision regarding DAO tokens as securities. He thanked the SEC for their decision and added his own three executive recommendations for their consideration:

1. If the purpose of a token is for investment, it must register with the SEC.

2. If the purpose of a token is for societal transformation, and all proceeds go to the support and development of the token, it need not register.

3. If the purpose of a token is to raise money for a company, and the money is used to support the company, it must register with the SEC.

Until ICOs came along, only wealthy accredited investors that met strict requirements issued by regulators could invest in private companies. With ICOs anyone can invest. The real innovation that ICOs bring to the table, is their openness, that allows anyone, anywhere, not only accredited investors, to invest in interesting companies and projects, With cryptocurrency it’s hard to track who is an accredited investor and who is not, making it difficult for any organization that wants to launch an ICO, to produce the documentation that proves only accredited investors put up money in their ICO.

The SEC wants to regulate companies that offer and sell securities in the US., but enforcing these regulations on organizations outside of the United States, might be difficult, even if the SEC has a long arm. Also, we need to keep in mind that the US Securities and Exchange Commission laws, only apply to US. companies or organizations that are doing ICOs or to individuals from the United States that want to invest in an ICO.

This report is a big deal in light of a recent ICO-mania with dozens of companies raising  millions and in some cases hundreds of millions of dollars, from small investors. It remains to be seen if the SEC ruling will have a chilling effect for the overall ICO market, drive US. companies to incorporate in other countries or if it will completely limit token sales to investors outside of the U.S.

The SEC announcement may have also caused some ripple effects to the price of Ether. After the announcement, Ether dropped 10%, but its not clear how much can be attributed to the SEC report or to the currency’s intrinsic volatility

SEC ruling may be just the beginning of more regulations to come. I wouldn’t be surprised to see other countries and regulators follow in the footsteps of the SEC. So if you’re considering an ICO be cautious, because you will need to factor in the US. securities laws and register, produce the proper investor documentation or exclude US. based investors to avoid problems in the future. The best way to move forward, is to disregard any assumptions you may have and make sure to get legal advice.

News Item 3Abra Users Can Now Buy Bitcoin With American Express Card

Decrypted: American Express integrated the American Express card with the Bitcoin wallet Abra for instant funding and remittance, for peer-to-peer transfers across the world. American Express’s integration is essentially acting like an exchange, that lets Amex users purchase Bitcoin with a credit or prepaid card and send funds immediately to any other Abra user worldwide. Funds sent are accessible within minutes. Amex customers may purchase Bitcoin in increments of up to $200 a day and $1,000 a month for a fee of 4% of the transaction.

While many other players in the payments space, like Visa and Mastercard, are also exploring blockchain, it appears that the industry is still in its early stages.

In 2015, American Express’ venture capital arm invested in Abra, as part of its $12m Series A round. Also this past January, American Express joined blockchain consortium Hyperledger, which is exploring ways to capitalize on the technology without cryptocurrency at all.

Our take: Payments companies can see the threat from distributed ledger technology and have been making Bitcoin and blockchain part of their overall strategy. A permissionless public ledger could remove the need for a central clearing house in the form of Visa and MasterCard. Blockchain could disrupt the processing ecosystem and one day change how consumer card payments are verified.

Over the last couple of years, payment giants have understood the importance of blockchain and have been looking closely at the technology and its potential to transform the world of payments. Financial services companies are on the hunt for more growth opportunities and exploring blockchain for instant payment processing and real-time fraud prevention. From American Express to Visa and Mastercard, major firms across the financial services landscape have made investments in Bitcoin and blockchain startups.

Visa recently released Visa B2B Connect, a pilot that is the result of the partnership between Visa and Chain.com. Visa B2B Connect offers financial institutions a simple, fast and secure way to process B2B payments globally, through Visa’s standard practices. Back in 2015, Visa, Citi, Nasdaq and other large financial institutions invested in Chain.com, an enterprise blockchain services provider.

In late 2015, Visa revealed a proof-of-concept that leveraged Bitcoin’s blockchain for record keeping. The project set out to digitize the car rental process, using Bitcoin transactions to create a digital fingerprint for each vehicle on the blockchain.

Last November, MasterCard filed with the US Patent Office four applications related to its work with blockchain and distributed ledger technology. The proposed patents suggest that MasterCard is at least weighing the question of how blockchain-based digital currencies could be integrated into its own systems. The applications focus on methods and systems for authorizing, processing and securing blockchain-based transactions, with MasterCard arguing that a combination of blockchain and its existing payment technology could be a boon for those making digital payments. Also, MasterCard was one of 11 investors in Barry Silbert’s Digital Currency Group’s (DCG).

However, even though there’s been a steady flow of new payments innovations that are important for growth of the industry, most have not disruptive, at least not yet.

Companies everywhere who deal with global payments should feel positive to see change coming at larger scale. Blockchain represents an opportunity to improve customer experience for companies dealing with international payments.

OpinionBitcoin Should Be Regulated to Go Mainstream: Bank of America Official

Despite the increase in trading prices and volume since the beginning of the year, Bitcoin and other cryptocurrencies have found it difficult to go mainstream and the debate, whether Bitcoin is a legitimate currency or not, continues. Yet, we’ve seen a lot of news about banks supporting Bitcoin, Ethereum and blockchain, even if they are only testing and exploring things.

A recent report by Merry Lynch, stated that Bitcoin could take the next big step and become an established world currency. But, it would need to overcome three hurdles: safety, liquidity and return, as these are cornerstones for other reserve currencies like the dollar or euro. In an article by Merril Lynch’s Francisco Blanch, he noted the similarities between digital currencies and gold and went on to talk about the value of salt in the world and how salt was mined and used as money. But its durability wasn’t strong enough, so people switched to gold and copper and later on to silver and paper money.

The primary reason that Bitcoin so far has not gone mainstream, is the lack of support from well-established financial institutions. Banks are against the use of cryptocurrencies, at least right now. Banks like Morgan Stanley have expressed that they recognize Bitcoin’s use as a value-holding asset, but are hesitant to call it a true currency. Their position is understandable, given the fact that Bitcoin and cryptocurrencies could jeopardize their business today. Banks are in the process of getting all of their ducks in a row, before they join the blockchain revolution. Even though bankers are expressing that may not want Bitcoin or think it will never go fully mainstream, they clearly believe in blockchain and that is why they’ve been filing all kinds of patents over the last few years.

Volatility is key parameter to understand the concept of safety in a reserve currency. Bitcoin’s price fluctuations are driven by many factors. Price is dependent on the intensity of supply and demand. The demand for Bitcoin, like anything is affected by what goes on around us, which can create negative sentiment and drive down demand. The whole scaling debate has been a serious thorn, causing uncertainty and lack in confidence in Bitcoin. The recent nose-dive in July was testament of the fear that Bitcoin might split into two coins. Also, in the minds of most people the absence of a central governing authority, not only makes the digital currency more vulnerable to chaos, but also susceptible to hacking, identity theft and fraud. But regulations and initiatives that have been popping up in countries around the world, are positive note and can only contribute to more widespread adoption. Also its important to note that twice last year, Bitcoin’s volatility fell below silver, which was the world’s currency for 400 years.

Cryptocurrencies have scaled rapidly and liquidity is increasing all the time. Interest in digital currencies has soared with daily trading volume jumping to $2 billion, from $400 million in 2012. Also compared to a few years ago, its a lot easier to turn your Bitcoin into a fiat currency and cryptocurrencies now are accepted as a means of payment by many companies and individuals. Now you can sell millions of dollars worth of Bitcoin over the counter, use a card like Xapo to access your Bitcoin through ATMs or pay merchants in dollars, euros and other fiat currencies.

In terms of returns, Bitcoin doesn’t have an interest rate attached to it, so it’s difficult to quantify returns. But, Bitcoin has been phenomenal in terms of absolute value, something that very few assets are able to match.

The ultimate test for Bitcoin will be when banks start accepting it as collateral. When we start seeing banks accepting Bitcoin as a collateral, so you can get a loan to start a business, buy a car or to go to school. That’s when Bitcoin will be a legitimate global asset and you will know that it has reached the tipping point.

Ilias Louis Hatzis is a Blockchain entrepreneur who writes the Blockchain Bitcoin & Crypto (BBC) Weekly CXO Briefing each Monday.

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