How DeFi Exploits and SEC Suits Can Actually Speed Crypto Adoption

Where next for DeFi after this latest price pullback, a growing number of unwelcome exploits and the SEC’s recent blocking of Coinbase’s lending product?

First, let’s get our market bearings. Bitcoin briefly fell below $40,000, confirming near-term support at that level, but has since bounced to currently trade at $42,650.

The crypto complex has arrested selling pressure for now as the wider financial market finds its feet as the situation with Evergrande appeared to calm.

Far from behaving as digital gold, bitcoin is being very much traded as a risk asset and that has triggered this week’s selloff.

Traders looking to buy the dip will be scouring the market for the best opportunities at this point.

Alternatively if you are looking to sell bitcoin right now, read our guide.

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DeFi exploits: Why Avalanche and Solana troubles are actually a buy signal

So-called “ethereum killers” such as Avalanche and Solana have both been on a strong run as they seek to steal away DeFi and NFT activity from Ethereum. However, both coins fell harder than their large market cap peers during the past 24 hours or so. As we shall see DeFi exploits and other tech issues are part of the explanation.

You can buy ethereum with PayPal – we show you the hows and wheres in our guide.

However, of the two, Avalanche is showing greater stamina, currently priced up 5% at $64.34, so could provide an opportunity for quick turnaround profits.

But, as seen recently with Solana, the downside of relatively new protocols is the prevalence of bugs and exploits. Solana went down last week in an outage that hurt its price not to mention its reputation for ‘liveness’.

Avalanche hasn’t been immune either, with DeFi project Vee Finance losing $35 million in an attack on its main net just days after launching – 8,804 ETH and 214 BTC were siphoned out of the network after the thieves were able to exploit a bug  in Vee’s trading contract.

This news comes hot on the heels of Zabu Finance being hacked last week to the tune of $3.2 million.

Solana, for its part, saw its giant price rally brought to a shuddering halt after the super-fast smart contract network suffered a 17-hour outage.

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Pyth on Solana can only get better

Exactly what happened on Solana is not known, although the devs say they will eventually tell the world. But news emerging this morning about problems on the much-trumpeted Pyth “institutional-grade” price discovery platform set up by Chicago trading firms, FTX and others, will give Solana backers and holders of the coin pause for thought.

On Twitter Path reported: “Between 12:21 and 12:23 UTC the Pyth BTCUSD aggregate price was below $40,000 – the lowest price reported was $5,402 with a confidence interval of $21,623 (4x the asset reported price) for a single slot – which was off-market relative to the BTC price available on other markets”.

That is one hell of a pricing anomaly. Pyth runs on Solana and went down when Solana was struck down by its outage.

On the face of it, these events highlighting the lack of resilience of Solana and Avalanche appear to be near-death experiences. It is not exactly a great advert for a blockchain network to go offline or for projects to regularly fall prey to bad actors draining contracts of funds.

However, these could be seen as admittedly expensive and dangerous real world testing experiences in which both networks mentioned here will come out of their trials and tribulations the stronger for it.

Coinbase Lend is dead for now – but brings regulatory clarity nearer

Probably the more pressing concern for Layer 1 blockchains is the regulatory climate around the fast-growing DeFi space.

The US Securities and Exchange Commission (SEC) has successfully stamped on Coinbase’s plans for launching a lending product, despite a forlorn attempt at push back by the company chief executive Brian Armstrong in a Twitter remonstration.

When it comes to the Howey Test to determine what is and what isn’t a security, it looks increasingly likely that the SEC will conclude that all DeFi products are securities. Gary Gensler has pretty much said as much already.

Coinbase looks like it may have now recognised this, when it emerged yesterday that the exchange would be bringing forward its own ideas about how DeFi should be regulated and crypto more widely.

Coinbase was seen by other crypto firms “as fighting the good fight” on behalf of the entire industry, but it has now changed tack in the face of the SEC’s enforcement threat. 

If you want to see if Coinbase is a good fit for your trading needs, check out our Coinbase review.

The regulatory assault is certainly beginning to look like an envelopment movement, a la the Red Army and the German Sixth Army at Stalingrad. Celsius has been ordered by the US state of New Jersey to cease and desist offering and promoting its interest-bearing products.

BlockFi, which is something of a trailblazer in the crypto lending sector, is being investigated by Alabama, Kentucky New Jersey, Texas and Vermont.

DeFi passes the Howey Test

Whichever way you look at the Howey Test, the meaning and intent of it captures DeFi, be it Yearn Finance, Celsius and everything inbetween. Sure, it is a different type of security and the business logic written into the code of a smart contract makes it a peculiar entity from the standpoint of traditional finance, but as crypto people were once fond of stating “the code is the law”.

By way of a reminder here’s the Howey Test:

  • It is the money investment
  • There is an expected profit associated with the investment
  • The money investment is a common enterprise
  • Profit comes from the third-party or promoter’s efforts

When a smart contract is a securities contract

Are DeFi products covered by the test? The clue is in the words “smart contract”.

Regulation might be costly and could impact how many of DeFi’s lending products, for example, work and who has access. It is probably better to engage constructively with the SEC and other regulators than trying to fight them or have rules imposed that could end up destroying the efficiencies and utility that DeFi has brought into being. 

From the SEC’s perspective, protecting investors makes absolute sense against the background of persistent DeFi exploits,  but it needs to be done in a way that doesn’t drive out innovation and wallow DeFi from retail investors by making it the preserve of “accredited investors”.

As with the teething problems of Layer 1 smart contract platforms, the circling of the regulators is ultimately a plus for crypto because it brings forward the day when compliance clarity arrives.

If you are looking to invest in a DeFi protocol or use its hosted products, then it makes sense to dig out those projects that have demonstrated a realistic assessment of the regulatory climate that is likely to come into view (Ok, there’s not that many of those), and have prepared for that eventuality both technically and legally.

Disclaimer: Finixio, the owner of this website, has an interest in the DeFi project DeFi Coin (DEFC).

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