Thinking of Investing in an ICO? Read This First

It was only a matter of time. Now that there’s real money in initial coin offerings (ICOs), now that the industry has raised more than $2 billion and even Goldman Sachs has gotten into the game and says the ICO market is “too big to ignore,” it was bound to happen and yesterday it did. The Securities and Exchange Commission brought charges against ICO offerings REcoin (whose tokens are supposedly backed by real estate investments) and DRC World (whose tokens are supposedly backed by diamonds). Both companies are owned and managed by one Maksim Zaslavskiy, and the SEC has frozen the two companies’ assets and Zaslavskiy’s.

The SEC wrote in its press release:

The SEC alleges that Maksim Zaslavskiy and his companies have been selling unregistered securities, and the digital tokens or coins being peddled don’t really exist. According to the SEC’s complaint, investors in REcoin Group Foundation and DRC World (also known as Diamond Reserve Club) have been told they can expect sizeable returns from the companies’ operations when neither has any real operations.

The Feds could find no evidence that REcoin had invested in any real estate or had any plans to, or that DRC World had bought or was planning to buy any diamonds. Not only that, the SEC said, “Zaslavskiy and REcoin allegedly misrepresented they had raised between $2 million and $4 million from investors when the actual amount is approximately $300,000.” Zaslavskiy has not commented publicly on these accusations and the REcoin website appears to not be working, despite an ICO supopsedly in progress until October 7.

Just getting started?

Although this is the first time the SEC has charged a company with ICO-related fraud, it certainly won’t be the last. (In case you’re not sure what it is, here’s a good description of an ICO.) The day before filing charges, SEC Chair Jay Clayton said this: “It would shock me if you don’t see pump-and-dump schemes in the initial coin offering space. This is an area where I’m concerned about what’s going to happen to retail investors.” Indeed, it’s hard to feel that all is well when a cryptocurrency observer creates Dogecoin as a joke, but then investors bid up its market value to $400 million.

Does this mean investing in ICOs is always a bad idea? Not necessarily. But they’re different from IPOs in significant ways. First, if you buy shares of a company that’s launched an IPO, you can always sell them on the open market, although if things go badly you might have to accept a significant loss. Second, that company will be expected to adhere to SEC regulations and will also be subject to the thoughtful scrutiny of Wall Street analysts. None of that is true for ICO tokens.

A better way to think about is to look at ICOs as though they were crowdfunding campaigns, except that instead of receiving a product if the campaign succeeds, you’ll instead get an IOU promising you a small piece of the company. It might be a good idea if you do some due diligence first. (Cryptocurrency forums were already abuzz with concerns about REcoin before the SEC made its move.) But you definitely should not invest any money that you can’t afford to lose.

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