After digital asset manager Grayscale secured a win against the US Securities and Exchange Commission (SEC), now the leading decentralized crypto exchange (DEX) Uniswap has also bagged a victory.
In a Wednesday filing, a New York court dismissed a proposed class action lawsuit against Uniswap while classifying popular cryptocurrencies Ether (ETH) and Bitcoin (BTC) as “commodities.”
Uniswap is an Ethereum-based DEX that allows anyone to swap ERC20 tokens. Any token can be added to the DEX by funding it with an equivalent value of ETH and the ERC20 token being traded. Any ERC20 token can be listed on Uniswap, and there is no requirement for permission, with each one having its own liquidity pool.
A report released by the Multidisciplinary Digital Publishing Institute last year claimed that 97% of tokens on Uniswap were “rug pulls” and received pushback from the crypto community.
The platform charges a 0.3% fee for swapping tokens, which is split by liquidity providers proportional to their contribution to liquidity reserves.
The DEX was launched in Nov. 2018, but it didn't start gaining significant traction until 2020 as liquidity mining and yield farming platforms gained popularity. Around this time, Uniswap airdropped its governance token UNI to every wallet address that had interacted with the Uniswap protocol.
Uniswap released its V2 in May 2020, allowing for direct ERC20 to ERC20 swaps and added support for incompatible ERC20 tokens like stablecoin Tether (USDT) to make it more desirable to use. Then, in May 2021, Uniswap V3 was launched, which brought concentrated liquidity and multiple fee tiers.
In June 2023, Uniswap published the code for its next iteration, dubbed v4, which will feature limit orders, automated fee revenue compounding for liquidity providers, and customizable plugins. Uniswap v4 pools will also allow traders to execute large orders over time. Uniswap Labs plans to launch v4 after Ethereum's next major upgrade, Dencun.
During the second quarter of 2023, Uniswap processed roughly $110 billion worth of trades, surpassing that of the biggest centralized crypto exchange (CEX) in the US, Coinbase, at $90 billion. Uniswap's quarterly spot volume first exceeded Coinbase in Q1, with the exchanges facilitating approximately $155 bln and $145 bln worth of trades, respectively.
The DEX (v1, v2, and v3 combined) had its highest monthly volume of 2023 in March at just above $70.80 billion and earned $74.26 million in fees, which has been continuously falling to record the lowest for the year at $22.90 bln and $34.27 mln respectively in August, according to DeFi Llama. Uniswap accounts for 64% of all DEX market share.
Scam Token Issuers Real Defendants Not Uniswap
In April 2022, a group of investors filed a class action lawsuit against Uniswap, its creator and CEO Hayden Adams, foundation, and venture capital backers. This group was composed of six individuals who bought tokens between Dec. 2020 and March 2022 on Uniswap.
The lawsuit alleged that the decentralized finance (DeFi) platform violated US securities laws by failing to register as an exchange or broker-dealer while offering and soliciting securities on an unregistered exchange. This way, the class action lawsuit alleged that the protocol conducted securities sales disguised as digital tokens.
The suit was looking to hold the platform and the related parties accountable for investors losing money to “scam tokens” that were issued and traded on Uniswap. The “scam tokens' cited in the lawsuit included EthereumMax (EMAX), Alphawolf Finance (AWF), and Bezoge (BEZOGE).
Arguing on behalf of a “nationwide class of users,” the lawsuit alleged that Uniswap Labs controlled liquidity pools created by the scammers.
According to the plaintiffs, their claim was backed up by the fact that Uniswap held “liquidity provider funds and newly created tokens in Uniswap's proprietary core contracts,” and the defendants “likely” held the majority (at least 88%) of the UNI tokens.
But the ruling to scrap the lawsuit before it could go to trial said that the true defendants of the case were the issuers of the cited “scam tokens” and not Uniswap. Being a decentralized platform means the protocol cannot control which tokens are listed or who can interact with it.
In the opinion following Wednesday's order, Judge Katherine Polk Failla of the United States District Court for the Southern District of New York (SDNY) said the decentralized nature of the protocol made identifying scam token issuers “unknown and unknowable,” leaving no “identifiable defendant” in the case.
She then clarified that the plaintiffs argue they have no way to identify the “actual issuers” of the scam tokens. They claim that Uniswap, by “providing a marketplace and facilities for bringing together buyers and sellers of securities” for a fee, is complicit in the problematic trades. Therefore, they hope the Court might overlook the regulatory gaps in cryptocurrency that leave them without recourse for their specific claims in this case.
A Huge Win for the DeFi Industry
The case against Uniswap was built on the transfer of title theory, under which the plaintiffs argued that by writing and maintaining the smart contracts that enabled token transactions, Uniswap was effectively transferring the title of the tokens to them. However, the court dismissed this argument, which stated that the protocol's responsibilities in drafting the platform's contracts did not imply it had the title to the tokens traded on the platform.
Another theory the case was built on was solicitation, which accused Uniswap of directly promoting and soliciting tokens to the plaintiffs in order to increase the value of its native UNI token. However, the court found this theory implausible, which said the plaintiffs failed to provide any substantial evidence to prove that Uniswap had actively solicited the purchase of a security for financial profit.
The judge also said that the drafter of computer code underlying a particular software platform could not be liable for a third party's misuse of that platform.
As for plaintiffs' argument that Uniswap was like a self-driving car manufacturer and that the protocol and its creators caused harm by creating a system that allowed for scam tokens, the court stated: “Indeed, this is less like a manufacturing defect, and more like a suit attempting to hold an application like Venmo or Zelle liable for a drug deal that used the platform to facilitate a fund transfer.”
Noting the lack of clarity surrounding how securities laws apply to DeFi, Judge Falia said, “Whatever concerns DeFi transactions engender, the law is currently developing around these exchanges,” she wrote. “Regulators may someday address this gray area.”
She further called out the lack of relevant regulation and concluded that the concerns of the investors “are better addressed to Congress than to this Court.”
She also cited the unsuccessful class action brought against Coinbase last year for unregulated securities sales in her reasoning. The case has been dismissed with prejudice and, hence, cannot be retried.
In the ruling, Judge Polk Failla called Ethereum a commodity and declined to “stretch the federal securities laws to cover the conduct alleged” in the case against Uniswap. This is in direct contrast to the SEC chairman Gary Gensler's views, who has called all cryptocurrencies except Bitcoin a security.
The court's opinion on its dismissal of the class action suit is yet another huge win for the crypto market as it clarifies just how US securities law applies to DeFi. Moreover, the decision showed an understanding of DeFi.
Not to mention, this decision can influence future litigations against decentralized protocols. Crypto lawyers can further use this case as a precedent to defend DeFi applications (DApps) against similar accusations in the future.
This could empower other DeFi projects to leverage their distributed nature as a defense against allegations of regulatory non-compliance or illegal activities. The dismissal further highlights the challenges regulators face in overseeing the rapidly evolving cryptocurrency industry, particularly in the DeFi space, where traditional regulations may not apply seamlessly.
This comes only a week after the arrest of Roman Storm, founder of Tornado Cash, who is now out on bail. However, the crypto community is still concerned about attacks on decentralized software development.
And it only shows that crypto and DeFi continue to face significant regulatory hurdles in the US. For example, just last week, the Internal Revenue Service (IRS) proposed legislation requiring DEXs, NFTs marketplaces, and other entities facilitating digital asset trading to comply with stringent reporting requirements when serving users based in the US.
This context of evolving regulation makes individual cases against crypto companies especially significant. One such noteworthy case is overseen by Judge Polk Failla, who is also handling the SEC lawsuit against the publicly traded crypto exchange Coinbase (COIN), accusing it of facilitating trading of unlicensed securities.
Impact on Price: Crypto Assets in a Decline Still
Despite this win, the price of the 22nd largest cryptocurrency with a market cap of $3.3 bln UNI has fallen 6% in the past 24 hours to now trade at $4.39. The altcoin is down 30.4% in the past month and more than 15% in 2023 so far.
UNI is also recording a negative performance of 27.5% over the past year while being down 90.27% from its all-time high (ATH), according to CoinGecko.
These latest losses for UNI have actually been due to Bitcoin taking a dip and being back under $26K.
At the time of writing, the largest cryptocurrency by market cap has been trading at $26,029, while Ether has been exchanging hands at $1,646. With this, Bitcoin and Ether are up 57.2% and 37.65% year-to-date (YTD) while being down 62.32% and 66.3% from their respective peaks.
Today, the broad crypto space is in red, with the total cryptocurrency market cap down by 3.6% at $1.087 trillion.
The drawback in prices came after Bitcoin spiked to a high of $28,127 on Tuesday following investment fund manager Grayscale's court victory over the SEC in the crypto company's bid for a spot bitcoin ETF.
A federal court ruled that the SEC must review its rejection of Grayscale's attempt to convert the Grayscale Bitcoin Trust (GBTC) into an ETF. This potentially opens the door for a spot Bitcoin ETF in the US.
A spot Bitcoin ETF is expected to enable greater public interest in investing in the oldest crypto asset without having to actually hold the digital asset. But the SEC has disapproved every such ETF application it's reviewed to date.
Now, earlier this week, Circuit Judge Neomi Rao, writing the DC Circuit Court of Appeals' opinion, said that federal agencies are required to “treat like cases alike,” referring to the SEC's approval of Bitcoin futures ETFs but denying approval of Grayscale's bitcoin fund “arbitrary and capricious.” The order, however, did not direct the SEC to immediately approve Grayscale's bid to convert its ETF application but rather to review the application again. The SEC has started “reviewing the court's decision to determine next steps.”
This resulted in the price of Bitcoin surging by 8%, one of the largest hourly moves since Terra's collapse last year, in part due to low liquidity. However, BTC has since given up all of those gains and returned to its pre-court decision level.
Bitcoin plunged under $26,000 Thursday afternoon and continues to show weakness on Friday, which will see the release of the monthly US jobs report, after the SEC delayed decisions on six applications for spot Bitcoin ETFs from BlackRock, WisdomTree, Invesco Galaxy, Wise Origin, VanEck, Bitwise, and Valkyrie Digital Assets.
The SEC has delayed making a decision on these applications until October. On Thursday, the Commission extended existing comment periods, allowing for greater public feedback on the applications. With this, the new deadline is mid-October.
While the price dipped as decisions on applications got delayed, many have already been expecting a gradual sell-off in Bitcoin. While the approval of a Spot Bitcoin ETF will be bullish for BTC and the whole crypto market, until then, currently negative technicals and market fundamentals will be driving the price, which translates to the further downside over the next couple of months.