Crypto Weekly News Recap: The SEC Is Not Terrafied of Terra

This week, US Senators Kirsten Gillibrand (D-NY) and Cynthia Lummis (R-WY) published a proposal for legislation that would clarify regulation of cryptographic digital assets. It would largely give the Commodities Futures Trading Commission purview over crypto, which is seen as a friendlier agency to crypto than the Securities Exchange Commission.

On this Friday’s episode of Unchained, Lewis Cohen, co-founder of blockchain and crypto law firm DLx Law who helped shape the bill, explains why it makes use of a new term "ancillary asset" to describe crypto assets rather than using a framework promoted by SEC Commissioner Hester Peirce. Plus, he talks about how the bill seeks to regulate stablecoins, and whether it would mean the end for algorithmic stablecoins such as TerraUSD, which collapsed last month.

Bloomberg reported Thursday that the SEC is investigating the marketing claims behind TerraUSD, aka UST, the now-defunct algorithmic stablecoin that collapsed last month. According to Bloomberg’s source, the SEC will be attempting to determine whether UST marketing violated several federal US investor-protection laws. Terraform Labs said it was unaware of SEC action related to UST marketing, and the SEC has declined to comment.

Also this week, court documents published by the U.S. Second Circuit on June 8th made clear that Terraform Labs and its cofounder Do Kwon will be required to comply with SEC subpoenas related to the ongoing investigation of Terra’s Mirror Protocol. Kwon had initially been served with a subpoena in this investigation upon his arrival at Messari’s Mainnet conference in New York in September 2021, where he was a speaker.

At the time, Terraform Labs lawyers argued that the SEC lacked jurisdiction over the entity due to Terraform’s lack of “sufficient contacts” with the US. It also argued that the SEC violated its own Rules of Practice when it served the subpoena by handing a copy to Kwon in person.

Despite Terra’s lawyering, the court ruled that the SEC was in line with its own rules and did have jurisdiction in the case because Terraform Labs had US employees and had previously stated that 15% of its users resided in the country.

Investigations are also ongoing in Korea. According to the Financial Times, the Seoul Metropolitan Police Agency said it was looking into allegations that employees of Terraform Labs embezzled an undisclosed amount of the organization’s bitcoin holdings. The bitcoin holdings in question had allegedly been loaned to market makers to help buttress the UST peg last month, but there has been no independent verification that the funds were used according to their stated purpose.

Wednesday morning, Ethereum’s Ropsten testnet, the largest of its three testnets, completed the protocol’s first successful public merge of an active test network; Ethereum’s other two testnets, Goerli and Sepolia, are expected to merge as well in the coming months.

In the proposed merge of the Ethereum mainnet (to be enacted “Q3/Q4 2022”), the economic activity on the existing Proof of Work chain will be merged onto the Proof of Stake chain currently being run on the Beacon Chain with a set of independent validators each staking 32 ETH.

While Ropsten’s successful dress rehearsal bodes well for the technical aspects of the merge, concerns are building about the centralization of staking both in terms of software clients running the network as well as staking-as-a-service providers. For example, the Prysm client holds a two-thirds market share in the validator set for Ethereum’s beacon chain, which is worrying, because if Prysm had a bug, it could cause a consensus failure on the network. Additionally, staking services contribute to this centralization. More than a third of all validators are controlled by staking services (of which Lido is far and away a leader), and a significant portion of the rest are operated by centralized exchanges.

Twenty million of the new OP tokens from Optimism were purloined due to a mistake made by Optimism’s market-making partner, Wintermute. Optimism provided the tokens to Wintermute in the form of a loan.

Unfortunately for Wintermute, the address they had supplied and confirmed to the Optimism team was an Ethereum wallet that did not have proper support for L2 chains. An adversarial actor took possession of the 20 million OP tokens that had been sent to the defunct address.

Optimism and Wintermute both published statements on the matter. Wintermute has taken full responsibility for the attack and promised to buy tokens in the open market to counteract any sales by the attacker and “make the protocol whole.”

Wintermute also promised to pursue legal recourse against the attacker provided the tokens are not returned within the next week. If they are returned, a gig is in the offing: Wintermute described the adversary’s actions as “rather impressive” and offered an opportunity for consulting work.

Kain Warwick, founder and CEO of Optimism-based derivatives liquidity protocol Synthetix, wrote in a tweet thread Wednesday that “Seeing the funds in your address is NOT sufficient as a test… The correct way to test a tx is to ensure you can move the received tokens, but like 0% of people do this.”

“My conclusion after years of watching this stuff happen is that it’s not possible to avoid every mistake but communicating them transparently and quickly is the optimal approach,” Kain wrote.

According to Bloomberg the SEC is investigating Binance's initial coin offering, or ICO, of BNB, a token with a nearly $50 billion market cap. The BNB ICO occurred in 2017; 100 million tokens were sold to the public for $15 million.

The firm has recently backed away from its initial promise to use 20% of the exchange’s profits to buy back the token each quarter. Changpeng Zhao, founder and chief executive of Binance, claimed in a 2020 blog post that the decision was a result of legal advice so as to not classify BNB as a security, according to Bloomberg.

Also this week, Reuters released an investigative report on how Binance “became a hub for hackers, fraudsters, and drug dealers” to the tune of $2.35 billion. The report caused a stir in the community; Binance responded in a blog post by publishing a portion of its email correspondence with Reuters.

In related news, Binance received regulatory permission for the opening of regional European headquarters in Paris this week after 18 months of work with French regulators. The exchange has agreed to invest $100 million in France to advance crypto technology (and donate $2 million for the restoration of a room in the Chateau Versailles).

On June 4th, last Friday, the Discord server of Yuga Labs was hacked. A participant obtained the login credentials of a senior community manager and absconded with keys controlling “approximately” 32 NFTs – including one BAYC NFT, according to crypto security research firm PeckShield. The attack was first publicized by Twitter user @NFTherder.

Yuga did not confirm the hack until 11 hours after the initial tweet from @NFTherder.

This was the second time in less than ten months that Yuga Labs has been compromised. On April 26th, 2022, Yuga disclosed a $2.6 million loss in a phishing attack related to an intruder accessing its Instagram account.

When BAYC founder “Gordon Goner” responded to the incident, he blamed Discord, saying, “Discord isn’t working for Web 3 communities. We need a better platform that puts security first.”

However Steve Fink of NounsDAO tweeted that it’s users’ faults for clicking on phishing links: “you didn’t lose your NFT because you used Discord. [Y]ou lost your NFT because you signed a malicious transaction with your key.”

Yuga Labs recently raised $450 million in venture funding in a seed round entailing a “monster” valuation.

The Osmosis DEX was compromised on Thursday after a bug was found that allowed users to increase their position sizes without adding capital through the deposit and withdrawal of funds.

An official post from the Osmosis team stated, “Liquidity pools were NOT "completely drained." Devs are fixing the bug, scoping the size of losses (likely in the range of ~$5M), and working on recovery.”

On-chain activity and validators were paused upon discovery of the vulnerability, but not before $5 million was lost. One culprit was the FireStake validation pool which reported that it had taken $2 million from the protocol during a “temporary lapse of good judgment.”

Representatives from the pool said, “we were thinking about our family's future, and not the future of our community.” Osmosis remains non-functional as of the time of this recording.

Science fiction author Neal Stephenson coined the term Metaverse in his 1993 science fiction novel, “Snow Crash”. Now, he’s partnering with crypto OG Peter Vessenes to create a metaverse project called Lamina1.

Lamina1 will have a focus on virtual reality and augmented reality integrations; the ultimate goal is to create a 3D metaverse based on Snow Crash. Testnet and mainnet implementations are intended to be released later this year.

Jay-Z and Jack Dorsey are “teaming up” to launch a financial literacy program in the Marcy Houses, a Brooklyn public housing project where Jay-Z grew up. The program will offer classes such as, “What is Money?”, “What is Cryptocurrency?”, “What is Blockchain?”, and “How to Keep Yourself Safe from Scammers.” Participants will receive a MiFi device, a smartphone, and data plan setup that they will be able to keep after the conclusion of the class.

The Curriculum has been developed by Black Bitcoin Billionaire and Crypto Blockchain Plug with an eye toward reducing barriers and improving access to bitcoin and to finance in general.

If you're interested in learning more about crypto and Web3:

Cover Credit: Yuichiro Chino