When Ethereum (ETH -0.52%) carried out The Merge last year, it was widely hailed as one of the crowning achievements for the crypto industry. As part of The Merge, Ethereum transformed from a proof-of-work blockchain into a proof-of-stake blockchain. That had immediate implications for retail crypto investors as they could now stake their Ethereum and earn passive income.
But there's just one little problem: There's something about staking that the Securities and Exchange Commission (SEC) doesn't like. On Feb. 9, the SEC levied a $30 million penalty against cryptocurrency exchange Kraken for its "staking-as-a-service" platform.
Understandably, there's a lot of fear, uncertainty, and doubt (FUD) about what the SEC's anti-staking stance means for Ethereum, given how important it is to the crypto's business model. There are positive and negative scenarios to consider.
The negative scenario
Let's start with the negative scenario since that's the one that the media is talking about right now. It assumes the SEC is 100% against staking and will continue to crack down on any cryptocurrency exchanges that offer it to retail customers.
This, as might be imagined, could have a chilling effect on the price of Ethereum. Presumably, retail investors who might have bought Ethereum in the hopes of earning passive income on their holdings would look elsewhere for investment options.
Image source: Getty Images.
Moreover, the SEC could decide to go one step further and decide to classify Ethereum as a "security." Last year, the SEC made headlines when it suggested that Ethereum's new staking features would fundamentally change the way it views the crypto.
As the SEC sees it, staking is an investment product. If Ethereum continues to offer staking, then it might need to be classified as a security. Obviously, this would be disastrous for Ethereum and, perhaps, represent an existential risk.
The positive scenario
However, if you carefully parse the wording of the SEC action against Kraken, it appears the agency isn't so much against the concept of staking as it is against the way staking services are offered to retail investors. The nuances are important here.
The SEC was concerned that Kraken was offering staking as an investment product to retail investors without first registering it as an offering and sale of securities. Moreover, the SEC was concerned that Kraken didn't fully divulge all of the risks associated with staking or accurately disclose how the yields were calculated.
So there's still the opportunity for staking to exist in the crypto world, as long as it matches up with any SEC requirements to protect the individual investor from risk. The agency is primarily concerned about large, centralized cryptocurrency exchanges offering these services as a way of attracting customers. However, decentralized staking via platforms such as Lido DAO (LDO -4.24%) would presumably still be OK since there is no intermediary involved and no funds held on an exchange.
Decentralized staking services use a form of staking known as "liquid staking," and it's extraordinarily popular. By some estimates, there are 65 different liquid staking platforms available to investors, with nearly $12 billion staked via these platforms.
Of that $12 billion, $11 billion is from Ethereum. And of that $11 billion, nearly $8 billion is locked up in Lido DAO.
If investors can't stake their funds on centralized exchanges, they can still stake their funds on decentralized platforms -- at least for now. As proof of positive sentiment in the market, Lido DAO traded up on the news of the SEC action.
Is Ethereum a buy?
There's a lot at stake here, not just for Ethereum, but also for all of crypto. If the SEC is 100% against staking, then it would have implications for every proof-of-stake blockchain. Ethereum, as the largest proof-of-stake blockchain, stands head and shoulders above the rest of the pack and might be used by the SEC as an example to others.
As long as the SEC doesn't classify Ethereum as a "security," I remain bullish on its long-term prospects. While the recent SEC enforcement action is bearish for cryptocurrency exchanges, it's not necessarily bearish for cryptocurrencies themselves.
That's why I'm buying and holding Ethereum for the long haul. It continues to have a superior risk-reward profile, compared to other cryptocurrencies, and has enormous prospects for long-term growth made possible by The Merge.
