Mark Kenkre and Lesley-Ann Ainsworth explore the surge in crypto group actions

Mark Kenkre, Partner and Head of the Investment Fraud and Mis-Selling Team, and Lesley-Ann Ainsworth, Senior Associate, explore the surge in group actions relating to crypto investments following a crash in the value of cryptoassets.

Mark’s article was published in BusinessCloud, 15 August 2022, and can be found here. A different version of Mark and Lesley-Ann’s article was published in PLC Magazine, 25 August 2022, and can be found here.

With the recent crypto crash, we have seen a collapse in the value of cryptocurrencies. Despite digital currencies peaking in value at $3 trillion in November 2021, they have since lost an incredible $2 trillion in value, with Bitcoin now trading at less than a third of its record price. The cryptoasset crash is leading to a surge in litigation relating to crypto investments, both in the UK and internationally. In particular, we are seeing an increase in class actions relating to cryptoasset investments.

In recent years, regulators have been taking steps to bring cryptoassets within their regulatory remit. However, it takes time to put regulatory frameworks in place meaning there are few safeguards to protect investors and genuinely effective measures are still years away.

Even without a dedicated cryptoasset regulatory regime, regulators such as the UK’s Financial Conduct Authority (FCA) have made use of their existing powers to tackle abuses. In June 2021, the FCA banned Binance from conducting regulated activities in the UK. The FCA however admitted that 111 unregistered cryptocurrency providers were operating in Britain. The FCA has also banned the sale of crypto derivatives to consumers due to its “concerns surrounding the volatility and valuation of the underlying cryptoassets.” However, in reality, UK consumers can simply buy them from abroad online.

The FCA’s advice to consumers is clear. It says that “Cryptoassets are considered very high risk, speculative purchases. If you buy cryptoassets, you should be prepared to lose all your money.” Unfortunately, many investors continued with their investments in cryptoassets and have now suffered substantial losses.

The largely unregulated markets have created the ideal conditions for an explosion in crypto-related litigation. Without effective regulatory protections for investors, the risks of crypto investments are often misrepresented to investors. Class action litigation is therefore expected to continue to rise as investors, shouldering heavy losses, claim they were mis-sold cryptocurrencies. With group litigation becoming increasingly established in the UK legal system, the inevitable result is a growing wave of class action litigation focused on the mis-selling of investments in the crypto space.

Mis-selling can occur when investors are misled into believing that cryptocurrencies are low risk investments. For example, a class action lawsuit was filed in the United States on 13 June against crypto-trading platform Binance. Investors allege that they were misled by the platform’s misleading marketing of Terra USD as being a safe asset, prior to the stablecoin’s collapse.

Binance was also separately sued as a result of outages on the platform following a sharp drop in crypto value, which prevented investors from adding to their liquidity to prevent automatic liquidation of their investments or selling off their positions before they became worthless. The Nexo platform is also facing a group action from investors after allegedly making false representations relating to the Luna stablecoin.

Stablecoins were intended to offer safer exposure through reduced volatility by being pegged to a reserve asset such as the US dollar or gold. However, it is becoming increasingly clear that their stability has been falsely represented. The lawsuit against Binance shows that there are already class actions being filed alleging that investors have been misled into buying these stablecoins. How the investors have been misled includes marketing suggesting there were lower levels of risk and misleading investors as to the assets backing them.

For example, in 2021 Tether had to pay a $41 million penalty to a US regulator due to falsely representing that its digital tokens were fully backed by dollars. This has prompted further investigations by regulators into issuers of stablecoins regarding misleading statements as to their reserves, with Bitfinex also being accused of falsely representing their reserves and facing a substantial fine. We anticipate that we will continue to see more fines or class actions based on misrepresentations of this nature, notably where the reserves held for stablecoins issued have been misrepresented to investors.

The high numbers of retail crypto investors combined with the collapse in the value of cryptoassets will likely lead to the damages for these matters being substantial. It is therefore unsurprising that litigation funders are becoming increasingly interested in financing these disputes. Going forwards, one can safely predict that the number of cryptoasset class actions will only increase with investors looking for ways to recoup their losses.