The U.S. Securities and Exchange Commission hitting Uniswap with a Wells notice, disclosed Wednesday, marked a departure from the regulator’s tried-and-true practice of clamping down on centralized crypto entities, attorneys said.
A Wells notice typically precedes an SEC lawsuit — if Uniswap Labs, the creators of the decentralized Uniswap exchange, is sued, it would mark, by a wide margin, the regulator’s most significant enforcement action against a decentralized exchange (DEX), which are key facilitators of decentralized finance (DeFi).
Previous DeFi enforcements by the SEC were not “hugely significant,” according to attorney Sam Enzer, adding that a case against Uniswap would be “Gensler’s first major DeFi enforcement action” — amplified by the fact that the DEX is a “big piece of where trading activity occurs” and a “big piece of the market infrastructure.”
Read more: The Very Soul of DeFi Is on Trial With the Avi Eisenberg and Uniswap Cases
Enzer, a partner at law firm Cahill Gordon & Reindel LLP focusing on cryptocurrency, said it’s too early to discern the SEC’s possible allegations against Uniswap because no legal action has been filed. But there are a number of likely issues at play, as well as some past cases that may amount to a precedent.
The regulator could claim Uniswap Labs, as the original issuer of UNI, violated securities law by facilitating the trading of alleged unregistered securities, a similar claim made in its cases against Ripple and Coinbase. The outcome of the Ripple case, however, appears to have especially muddied those waters, with secondary token transactions not being deemed securities by the judge in that case.
In addition, the Department of Justice’s money laundering case against cryptocurrency privacy mixer Tornado Cash is a notable instance of the complications of prosecuting cases involving decentralized crypto services. The DOJ argued that Tornado Cash’s two core developers were responsible for facilitating the laundering of more than $1 billion for a series of illicit actors. Both developers have maintained their innocence and moved to dismiss the case, with attorneys arguing that they were only responsible for creating the Tornado Cash protocol’s smart contracts — not how users chose to use them.
Clampdowns on Uniswap and Tornado Cash appear to raise at least one key identical question, according to Greg Strong, an attorney specializing in cryptocurrency at DLx Law.
“At what point does activity that is adjacent to the deployment of immutable smart contracts on a blockchain give rise to liability for the activity that takes place in that code?” he said.
SEC’s Latest Escalation
Last year, the SEC went after Binance, Binance.US, and founder and former CEO Changpeng “CZ” Zhao. The lawsuit became the latest instance of the US securities overseer targeting high-profile industry players operating centralized exchanges. Meanwhile, Kraken last year settled with the regulator for $30 million regarding allegations surrounding the exchange’s staking program, and Coinbase’s legal tussle with the SEC is still in its early innings.
The move against Uniswap is “obviously another example of the SEC getting very aggressive with respect to enforcement in [DeFi],” according to Strong.
Today @Uniswap Labs received a Wells notice from the SEC.
I’m not surprised. Just annoyed, disappointed, and ready to fight.
I am confident that the products we offer are legal and that our work is on the right side of history. But it’s been clear for a while that rather than…
— hayden.eth 🦄 (@haydenzadams) April 10, 2024
Though the majority of the SEC’s case against Coinbase has been cleared to continue, lawyers for the exchange did score one recent victory: getting allegations that Coinbase was running an unregistered brokerage by offering Coinbase Wallet, a non-custodial decentralized finance (DeFi) wallet, to customers tossed in court. A potential SEC play against Uniswap could look to score a fresh ruling that would overturn that outcome.
That component of the ruling has now become “really important in terms of the Uniswap investigation and potential lawsuit,” according to Strong, because “the judge was clearly making a distinction between providing technology to allow users to engage in actions that were self-directed versus facilitating activity as an intermediary” with the wallet being an example of the former and Coinbase itself an example of the latter.
Decentralized Scrutiny on the Rise
Compliance experts and traders alike have been parsing possible patterns emerging from when — and who — the SEC has been choosing to investigate. Though the Uniswap investigation was reportedly in the works for a considerable period of time, news of the Wells notice comes with other decentralized enforcements still up in the air.
Read more: UNI Drops 16% as SEC Targets Uniswap Labs
The regulator has reportedly been probing the Ethereum Foundation in recent weeks and is currently engaged in a trial alleging fraud on the behalf of trader Avraham “Avi” Eisenberg via the decentralized exchange Mango Markets.
The scope of the latter, which claimed Eisenberg fraudulently made off with about $116 million in crypto, pales in comparison to a likely Uniswap suit in monetary terms, considering the DEX has about $6.2 billion in total value locked (TVL).
Ram Ahluwalia, chief executive officer of digital assets specialist Lumida Wealth Management, said the SEC is “prioritizing going after leaders, because they want to set examples that others can follow.” Because there are “so many tokens and protocols, the SEC can’t go after them all, so, in their mind, that’s their strategy,” he said.
Ahluwalia, who is a co-host on Unchained Crypto’s upcoming Bits and Bips podcast, said he views Uniswap as a “step removed from DeFi” as an automated market maker (AMM). But it facilitates DeFi trades.
Though he said Uniswap has a “good chance” of coming out on top in a potential lawsuit, other decentralized players could be drawn into the SEC’s crosshairs under the opposite outcome.
Enzer concluded that the industry in 2023 and 2024 has been the target of a “focus by SEC Chair Gensler and his enforcement staff of trying to choke out the intermediaries that are core infrastructure for trading digital assets in the United States,” referring to both centralized exchanges and DEXes.