The U.S. Securities and Exchange Commission recently imposed charges against Galois Capital, a crypto-focused advisory firm that held client assets at FTX. As a result of their actions, Galois has agreed to pay a civil penalty of $225,000, which will be distributed to affected investors. The SEC found that Galois failed to ensure that the crypto assets held by the private fund it advised were kept with a qualified custodian, opting instead to use unqualified crypto trading platforms like FTX.
The SEC revealed that about half of the fund’s assets, managed from early to mid-November 2022, were lost due to the collapse of FTX. This collapse marked the largest corporate crypto failure in history, causing customers to lose $8 billion and investors to lose $1.7 billion. During the trial of FTX’s CEO, Sam Bankman Fried, it was determined that he and other executives had engaged in fraudulent activities, including secretly trading and losing customer funds with FTX’s sister trading desk, Alameda Research. This catastrophic event led to a wave of contagion and bankruptcies for other firms that had relied on FTX, such as BlockFi, Genesis, and Gemini Earn.
Aside from the issues with FTX, the SEC also found that Galois misled investors by stating that withdrawals required five business days’ notice before the end of the month, while allowing other investors to redeem on shorter notice. This inconsistency exposed investors to the risk that fund assets, including crypto assets, could be lost, misused, or misappropriated. Corey Schuster, Co-Chief of the SEC Enforcement Division’s Asset Management Unit, emphasized the importance of holding advisers accountable for violating investor protection obligations.
Galois Capital, without admitting or denying the allegations, agreed to pay the civil penalty and abide by an order preventing further violations of the Investment Advisers Act. In response to the charges, Galois stated on Twitter that it was relieved to resolve its issues with the SEC, mentioning that it had used Fireblocks as its custodian for crypto assets. Fireblocks, despite not being a qualified custodian, was considered by Galois to be the best solution for securing crypto assets at the time.
The downfall of Galois Capital serves as a cautionary tale for firms operating in the crypto space. It highlights the importance of thorough due diligence when selecting custodians for crypto assets and ensuring compliance with regulatory requirements. Investors must be wary of entrusting their funds to entities that do not prioritize security and transparency. The regulatory actions taken against Galois also underscore the SEC’s commitment to upholding investor protections and holding accountable those who fail to meet their obligations.
The case of Galois Capital reveals the potential risks and consequences associated with inadequate custody practices in the crypto industry. It serves as a reminder for firms to prioritize investor protection, adhere to regulatory standards, and exercise diligence in their operational practices to avoid facing similar repercussions.