Global Exchanges Warn SEC: Tokenized Securities Exemptions Risk Market Integrity and Investor Protection

The SEC's "Project Crypto" initiative has begun outlining a regulatory taxonomy for digital assets, but operational clarity remains elusive. According to the SEC's speech, the framework anchors its approach to the Howey test, attempting to distinguish between securities and non-security tokens like payment or governance tokens. While this aims to reduce uncertainty for exchanges and innovators, the subjective application of these criteria leaves market participants navigating ambiguous territory regarding token classification.

To address immediate market needs, the SEC has granted temporary exemptions through orders like 34-104172 and 34-104144 in 2025. These exemptive orders provide conditional relief from specific National Market System rules, allowing platforms like NYSE Texas to pilot innovative trading mechanisms for tokenized securities.

. However, their validity hinges on strict risk management protocols designed to safeguard liquidity and market integrity.

This reliance on temporary, case-by-case exemptions creates significant arbitrage risks for intermediaries. Market participants must constantly assess whether their activities fall under current exemptions or trigger unaddressed regulatory scrutiny. Despite the SEC's stated goal of providing regulatory clarity, the current framework's reliance on discretionary exemptions instead fosters an environment of ongoing uncertainty for tokenized asset markets.

Exchange Concerns: Liquidity Fragmentation and Compliance Erosion

The push for tokenized securities trading outside traditional frameworks has ignited serious concerns about market structure integrity. Industry groups warn that regulatory exemptions intended to foster innovation could fundamentally undermine liquidity stability and compliance safeguards.

SIFMA recently urged the SEC to reject exemptive relief requests that would allow tokenized equities to bypass key securities regulations, arguing such moves risk fragmenting liquidity pools. This fragmentation could amplify price volatility as trading activity disperses across uncoordinated platforms without centralized price discovery mechanisms. Worse, tokenized securities trading outside broker-dealer frameworks might avoid FINRA compliance requirements, weakening critical KYC/AML protocols that protect against illicit activity.

Regulatory arbitrage presents another risk – if tokenized assets operate under lighter oversight than traditional securities, they could erode the transparency mandates of Regulation NMS. This creates uneven playing fields where some investors access superior pricing advantages through unregulated channels. While the SEC under Chair Gensler acknowledges the need to balance innovation with protection, exchanges emphasize that structural changes to market frameworks demand public notice and comment periods to preserve investor safeguards.

The core tension lies between enabling technological progress and preventing erosion of market integrity. Without unified regulatory standards, tokenized securities could operate in a compliance gray zone, potentially triggering cascading risks to fair markets and investor trust.

Downside Implications for Investors and Market Structure

This section examines how regulatory gaps in tokenized equity markets could erode investor protections and create hidden cash flow risks. SIFMA's June 2025 warning to the SEC underscores these concerns, emphasizing that bypassing securities regulations threatens critical safeguards. The letter flagged fragmented liquidity, regulatory arbitrage opportunities, and weakened compliance with FINRA rules, Regulation NMS transparency requirements, and KYC/AML standards as primary risks. These gaps could undermine fair markets and investor trust, despite the SEC's stated mission under Chair Gensler to prioritize both protection and efficiency.

The downstream consequences are particularly troubling. Without robust regulatory oversight, investor protection mechanisms could fail. Tokenized securities trading outside broker-dealer frameworks might expose investors to heightened counterparty risk and fraud potential, as weaker KYC/AML enforcement makes illicit activity harder to detect. During market stress, fragmented liquidity could lead to execution failures-traders might find no willing counterparties at fair prices. Institutional investors, wary of these unquantified risks, may delay adoption of tokenized assets, further stalling market development. These vulnerabilities highlight how regulatory gaps transform theoretical efficiency into tangible investor exposure.