SEC Launches Civil Fraud Trial Against Terraform Labs, Do Kwon Over UST Collapse

In the SEC's civil fraud trial against Terraform Labs and its founder, the SEC alleges that the company and Kwon misrepresented the stability of TerraUSD, leading to investor losses of over $40 billion. The SEC claims that TerraUSD was propped up through secret purchases by a third party and that Terraform falsely touted its blockchain's use in a Korean payment app. The defendants deny the allegations, with Terraform's attorney citing cherry-picked evidence and Kwon's attorney emphasizing that failure does not constitute fraud.

SEC Commences Civil Fraud Trial Against Terraform Labs and Do Kwon

By Jody Godoy

New York, New York - The Securities and Exchange Commission (SEC) initiated a civil fraud trial against Terraform Labs and its founder, Do Kwon, on Monday, alleging that they misled investors about the stability of TerraUSD (UST), a stablecoin that collapsed in 2022, causing significant market turmoil.

SEC's Allegations

Devon Staren, an attorney for the SEC, asserted that Terraform Labs and Kwon constructed a "house of cards" by falsely representing UST's stability. The SEC also accused them of making misleading claims about the use of Terraform's blockchain in a popular South Korean mobile payment application.

"Terra was a fraud, a house of cards, and when it collapsed, investors lost nearly everything," Staren declared during the trial.

Terraform's Defense

Louis Pellegrino, an attorney representing Terraform Labs, contended that the SEC's case is based on selective evidence and the testimony of individuals seeking whistleblower rewards if the SEC prevails. David Patton, Kwon's attorney, emphasized that Kwon never portrayed Terra's cryptocurrency as risk-free.

"Failure doesn't equal fraud," Patton argued.

Kwon's Absence and Legal Proceedings

Kwon is not present at the trial, which is projected to last approximately two weeks. He was apprehended in Montenegro in March 2023 and is awaiting extradition to South Korea, where he faces criminal charges. A Montenegrin court recently postponed his extradition due to concerns raised by the prosecutor's office.

Federal prosecutors in New York have also indicted Kwon with fraud and are pursuing his extradition to the United States.

TerraUSD and Luna's Collapse

Kwon created TerraUSD and Luna, a volatile token that was closely linked to UST. The SEC estimates that investors lost over $40 billion in both tokens combined when UST's peg to the dollar failed in May 2022.

The collapse of UST and Luna precipitated a decline in the value of other cryptocurrencies, including Bitcoin, and caused widespread disruption in the crypto market, leading to several bankruptcies in 2022.

SEC's Alleged Manipulations

The SEC alleges that Kwon and Terraform Labs secretly orchestrated the purchase of substantial amounts of UST by a third party to maintain its price when the stablecoin briefly lost its peg in May 2021. According to the SEC, Kwon falsely attributed the recovery to the effectiveness of UST's algorithms.

The SEC also asserts that Kwon and Terraform Labs falsely claimed that Terraform's blockchain was used to facilitate transactions on the Chai payment app.

SEC's Remedies

The SEC seeks civil penalties and injunctions barring Kwon and Terraform Labs from the securities industry.

Court's Previous Rulings

In December, U.S. District Judge Jed Rakoff partially ruled in favor of the SEC, determining that Terraform Labs illegally sold digital assets without registering them as securities. However, the judge dismissed the SEC's allegations that Terraform Labs and Kwon illegally offered security-based swaps.

The court has not yet established the amount of damages that Terraform Labs must pay. The company, which filed for bankruptcy protection in January, has indicated that any penalties could exceed its assets.

Conclusion

The ongoing trial against Terraform Labs and Do Kwon highlights the SEC's efforts to regulate the burgeoning cryptocurrency market and hold accountable those alleged to have engaged in fraudulent practices. The outcome of the trial will have significant implications for the crypto industry and the broader financial landscape.