SEC weighs rules aimed at GameStop-type risk, crypto investments

The US Securities and Exchange Commission (SEC) was also due to vote on whether to propose changing rules protecting client assets held by investment managers, in a move that would likely prevent cryptocurrency platforms from serving a key marketplace role.

Officials say shortening the time between when a securities order is placed and when a trade concludes can lessen the kind of “systemic risk” spotlighted in early 2021 when the share price of the consumer electronics retailer GameStop Corp plummeted amid intense market volatility.

Trade groups have broadly welcomed the commission’s proposal to cut the so-called settlement cycle to a single business day from two, six years after an earlier SEC rule shortened the period from three days.

Market participants’ eagerness to move to the shorter settlement cycle “will help expedite the transition and overcome any obstacles,” such as expensive systems updates and industry-wide changes to processes, Cornell University Law Professor Birgitta Siegel said in a comment submitted to the SEC.

Industry players have complained, however, that the SEC has proposed requiring compliance with the new rule by March 31, 2024, six months earlier than they would like.

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In a report on the events surrounding the GameStop trades of early 2021, SEC staff said the longer a trade remained unsettled, the greater the likelihood that a buyer or seller would default – by refusing to pay or to hand over shares sold. Clearing houses often require trading platforms to offset such risks with high-dollar margin deposits, costs that can skyrocket during periods of volatility and market stress.

GameStop’s share price tanked after its earlier volatility resulted in a multi-billion-dollar margin call on trading platform operators such as Robinhood Markets Inc. Robinhood and others responded by blocking users from buying the stock.

A shorter settlement cycle should see fewer defaults and thus help cut margin deposit costs, thereby reducing the chances of such a scenario recurring, according to the SEC.

The commission was also weighing whether to propose new requirements for investment advisers, who can only maintain custody of client funds or securities if they meet requirements to protect the assets.

The SEC’s draft proposal would expand these requirements to any client assets, such as cryptocurrencies.

Advisers need to hold investors’ assets with a firm deemed to be a “qualified custodian.” The pending proposal would prevent many crypto platforms from serving as these custodians by requiring them to have independent audits and ensuring that clients’ assets are segregated and held in accounts to protect them in the event of a bankruptcy.

That would make it more difficult for hedge funds and private equity firms investing in digital assets on behalf of clients to work with crypto firms.

“Make no mistake. Based upon how crypto platforms generally operate, investment advisers cannot rely on them as qualified custodians,” SEC chair Gary Gensler said in a statement about the proposal.