The Department of Justice has announced the establishment of a nationwide Digital Assets Coordinator (DAC) Network, comprised of over 150 designated federal prosecutors at Main Justice and US Attorneys’ Offices across the country.
The announcement was timed to coincide with the mid-September release of the DOJ’s report on The Role of Law Enforcement in Detecting, Investigating, and Prosecuting Criminal Activity Related to Digital Assets. The DOJ identified “crimes involving or undermining the digital asset ecosystem” as a top enforcement priority. What the report describes as “cutting-edge cases” targeting “insider trading” is an enforcement trend that kicked off in June of this year when a former employee of an NFT marketplace was charged with what the DOJ heralded as “the first ever digital asset insider trading scheme.”
These developments demonstrate that the DOJ believes it can prosecute “insider trading” in NFTs and other virtual goods (which we refer to here as “digital assets”) using the federal wire fraud statutes – thus eliminating the need for the government to prove that a transaction involved a security.
Traditionally, however, corporate insider trading policies have been limited to trading in securities. In light of the DOJ’s evident focus on developing criminal cases involving trading in digital assets, companies that create or sell digital assets may wish to consider adopting digital assets-focused policies, both to provide guidance to their employees and to minimize the risks and collateral consequences of a DOJ prosecution. This is true even for private companies, which may not have existing compliance policies and procedures for securities trading because they are not publicly listed.
Considerations for drafting the policy
Creating an insider trading policy for digital assets involves several key considerations, each of which underscores how a company’s digital assets differ in important ways from its publicly-traded stock.
A central component of a standard insider trading policy is the definition of material, non-public information (MNPI). What constitutes MNPI for digital assets is not necessarily coterminous with the types of information, such as upcoming earnings announcements, that may affect a company’s stock price. The market value of a digital asset may be affected by its own attributes, including rarity and associated benefits (if any). For example, ownership of an NFT may confer benefits in the real world, such as a promotional discount on the purchase of physical product, or in the metaverse, such as privileged access to a virtual world. It can also be affected by speculative trading, like a meme stock. Care should be taken to assess both the nature of the digital asset and available public information about that asset.
Moreover, MNPI is not one size fits all even across the digital assets portfolio of a single company. Advance knowledge of an upcoming airdrop to holders of an NFT might be MNPI with respect to that NFT but irrelevant to the value of a different NFT sold by the same company.
The unique features of digital assets also complicate the use of tools that companies have long used to foster compliance with insider trading laws: blackout periods and pre-clearance procedures. For digital assets, there is no convenient equivalent to the quarterly earnings release date, which stock trading blackout periods typically precede. Instead, blackout scheduling may need to be closely coordinated with evolving business plans, and by necessity may be ad hoc.
Similarly, while a pre-clearance policy may allow a company greater visibility into employee transactions, establishing a digital assets pre-clearance mechanism can require a significant allocation of resources, both in terms of staffing and the level of familiarity with digital assets needed to understand whether to bless a trade.
Finally, there are reputational risks to permitting employees to trade in their employer’s digital assets, particularly for consumer brands. If an employee who does not have MNPI is randomly airdropped a rare special edition NFT by the company, and then profits by selling that digital asset on a virtual marketplace, there may be little to no risk of a DOJ prosecution, but an Internet user who finds the transaction on the blockchain could cry foul in a blog post. Thus, companies may wish to adopt policies addressing more generally whether and when employees can buy, sell, or gift digital assets created and sold by their employer.
The novel features of digital assets that make them appealing to consumers also may make them attractive to arbitrage opportunists, as the DOJ’s recent enforcement activity suggests. A sound digital assets insider trading policy will provide clear guidance to employees on how to comply with the law, while helping to maintain a fair marketplace for the company’s digital assets.