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On June 1, 2022, the U.S. Attorney’s Office for the Southern District of New York announced the indictment of former OpenSea employee Nathaniel Chastain for an NFT “insider trading” scheme.

From at least June to September 2021, according to the indictment, Chastain purchased dozens of NFTs immediately before they were to be featured on OpenSea’s homepage and, in some instances, additional NFTs’ by the same creator. Chastain knew which NFTs would appear on OpenSea’s homepage before the public because it was among his job responsibilities to choose them. The value of the NFTs (and others by the same creator) typically rose after OpenSea featured them.

OpenSea kept confidential the identity of featured NFTs until they appeared on the homepage. Under a written agreement he signed upon joining OpenSea, Chastain had an obligation to maintain the confidentiality of OpenSea’s confidential business information and refrain from using such information except for the benefit of the company. Chastain sold the NFTs he purchased for about two to five times the prices he paid. To conceal his conduct, the government alleges, he used anonymous OpenSea accounts instead of his publicly-known account, in his name, and transferred funds through multiple Ethereum wallets, including new wallets with no transaction history.

In announcing the charges, the USAO referred to the matter as the “first ever digital asset insider trading scheme.” The government is relying on a misappropriation theory, namely, that Chastain misappropriated OpenSea’s information for his personal gain. In other words, in an odd way, Chastain’s conduct would have been fine or at least not cognizable as fraud under this theory if his employment agreement did not contain a confidentiality provision that covered his conduct.

Unlike in a traditional insider trading case, the government will not have to prove the NFTs were securities because it did not charge securities fraud. Nor did it charge commodities fraud. It charged wire fraud. It also charged money laundering for the concealment activity.

LEGAL TOKENS

If the case survives judicial scrutiny, would it mean the government could charge “insider trading” of anything? Perhaps. Insider trading is a form of market abuse and the wire fraud statute is broad. However, in this regard, it is worth noting how OpenSea and other NFT platforms often resemble securities or commodities exchanges displaying, among other things, sales prices, bids, asks, volume, and leaderboards for tokens often sold in series or multiples, or that represent fractional ownership of an indivisible real world asset.

Furthermore, in March, it was reported in the press that staff from the SEC’s Division of Enforcement had sent subpoenas to NFT creators and platforms where they are traded. And, on May 3, 2022, when the SEC announced that it had doubled the size of its Crypto Assets and Cyber Unit, it listed NFTs as a key priority area for the expanded group, along with crypto asset offerings and exchanges, lending and staking products, DeFi platforms, and stablecoins.

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Author's Assets

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Philip Moustakis | Counsel

A former senior counsel in the SEC’s Division of Enforcement, Philip advises companies and individuals at Seward & Kissel on cryptocurrencies and blockchain technology, SEC enforcement matters, other regulatory investigations, and internal investigations. As a founding member of the SEC’s Cyber Unit, Philip advised the Commission on cryptocurrencies and investigated matters involving initial coin offerings (ICOs), unlawful touting of ICOs, and other violations of the federal securities laws related to cryptocurrencies. Publicly filed enforcement matters Philip spearheaded included the SEC’s first ever Bitcoin-related enforcement action against the operator of Bitcoin Savings & Trust, a Bitcoin-denominated Ponzi scheme, settled proceedings against an operator of a Bitcoin-related social media marketing venture and a popular Bitcoin betting site for the offer and sale of unregistered securities, and settled proceedings against an operator of unregistered cryptocurrency-denominated securities exchanges and broker-dealers.

“The case is not much of a surprise. After all, the SEC has signaled that it intends to pursue investigations or actions against crypto-exchanges.

Unless and until the SEC provides further guidance and a path to compliance for token issuers, crypto lending products, exchanges, and other market participants, the question of whether any particular crypto asset or transaction is a security will be litigated one at a time.”

Philip’s thoughts on the recent class-action suit brought against the crypto exchange Coinbase, as published in a Coinspeaker article titled, “Coinbase Served Lawsuit Over Sale of ‘Unlicensed’ Crypto Assets."