ESMA Statements on ICO Risks for Firms and Investors

 

Following the European Securities and Markets Authority‘s (“ESMA“) observation in rapid-growth initial coin offerings (“ICOs“)s, on November 13, 2017, ESMA issued two statements on ICOs.

ESMA notes in a statement for firms that where ICOs qualify as financial instruments, it is likely that the firms involved in ICOs will be conducting regulated investment activities, whereby they need to comply with the relevant legislation, including:

  • Markets in Financial Instruments Directive (2004/39/EC) (“MiFID“). Where the coin or token qualifies as a financial instrument, the process by which a coin or token is created, distributed or traded is likely to involve some MiFID activities and services, such as placing, dealing in or advising on financial instruments.
  • Alternative Investment Fund Managers Directive (2011/61/EU) (“AIFMD“). An ICO scheme could qualify as an alternative investment fund (“AIF“), to the extent that it is used to raise capital from a number of investors, with a view to investing it in accordance with a defined investment policy.
  • Prospectus Directive (2003/71/EC) requires publication of a prospectus before the offer of transferable securities to the public or the admission to trading of such securities on a regulated market situated or operating within a member state. Also, the Prospectus Directive specifies that the prospectus should contain the necessary information that is material to an investor for making an informed assessment of the facts and that the information shall be presented in an easily analyzable and comprehensible form.
  • Fourth Money Laundering Directive ((EU) 2015/849) (“MLD4“).

ESMA stresses that any failure by firms to comply with the applicable rules will constitute a breach. Firms involved in ICOs must give due consideration as to whether their activities constitute regulated activities.

A statement for investors by ESMA also alerts them of the high risk of losing all of their invested capital as ICOs are highly speculative investments. ICOs are vulnerable to the risk of fraud or money laundering.

Depending on how they are structured, ICOs may fall outside of the scope of EU law and regulations, in which case investors cannot benefit from the protection that these laws and regulations provide. Also, the price of the coin or token is typically extremely volatile, and investors may not be able to redeem them for a prolonged period.