Federal prosecutors from the Southern District of New York recently charged Nathan Chastain with wire fraud and money laundering in connection with a purported scheme to illegally profit from sales and purchases of Non-Fungible Tokens (“NFTs”).[1] This landmark criminal case marks the first time federal prosecutors have pursued criminal action to police insider trading in the NFT marketplace.
Chastain is a former employee of Ozone Networks, Inc. d/b/a OpenSea (“OpenSea”), the largest online marketplace for the purchase and sale of NFTs, and allegedly used confidential information about which NFTs were going to be featured on OpenSea’s homepage for his personal financial gain. Chastain was responsible for selecting NFTs to be featured on OpenSea’s homepage, and OpenSea kept confidential the identity of featured NFTs until they appeared on its homepage.[2] After an NFT was featured on OpenSea’s homepage, the value of that NFT, and other NFTs made by the same creator, typically increased substantially.[3] The government alleges that Chastain was aware of this fact and used his confidential business information concerning which NFTs would be featured to purchase dozens of NFTs under an anonymous account shortly before they were featured. Once the value of the NFTs Chastain purchased had increased from their exposure on OpenSea’s homepage, Chastain would allegedly resell those NFTs for a significant profit.[4]
On August 19, 2022, Chastain filed a motion to dismiss the indictment. Chastain argues that the government’s wire fraud theory of insider trading does not apply in this context because insider trading requires trading in securities or commodities.[5] Because they have no connection to the financial markets, Chastain contends, NFTs are neither. In addition, Chastain argues the government’s wire fraud charge cannot succeed because it requires the government to establish, inter alia, money or property as the object of a scheme or artifice to defraud, and the confidential information he allegedly misappropriated did not constitute “property,” but instead consisted of a “marketing concept” which was “devoid of any inherent economic value and based on [his] unspoken personal thoughts.”[6] Chastain also argues that the money laundering count must be dismissed because it requires a showing that he attempted to conceal his alleged fraud. Here, all of the movements and transactions were conducted on the Ethereum blockchain, and thus were visible to the public. According to Chastain, he did nothing more than move money in an “obvious and perceptible” manner, which does not constitute money laundering.[7]
On August 24, 2022, the New York Council of Defense Lawyers (the “NYCDL”) filed an amicus brief in support of Chastain’s motion to dismiss. In the brief, the NYCDL writes that it is “deeply concerned about efforts by the Department of Justice to expand the scope of mail and wire fraud beyond the boundaries Congress has set.”[8] The NYCDL’s brief primarily focuses on Chastain’s second argument, taking issue with the government’s definition of “property,” to extend to all confidential business information received by employees in connection with their employment. The NYCDL argues that such a construction “would…capture virtually every instance of an employee using internal employer information for non-work purposes,”[9] including, for example, situations in which a corporate whistleblower gathers information about corporate malfeasance and provides it to a journalist in violation of company policy.[10]
On September 7, 2022, the government filed its opposition brief. In refuting Chastain’s and the NYCDL’s arguments, the government contends that the “novelty of NFTs” does not make the case “a novel prosecution,”[11] and “[t]he misappropriation theory of wire fraud is not limited to cases involving traditional securities or commodities.”[12] The government further argues that the Second Circuit has previously rejected the argument that confidential business information is not ‘property’ if the company cannot ‘commercially exploit the information by trading on it.’”[13] Moreover, the fact that Chastain, rather than OpenSea, profited from use of the confidential business information does not mean that it had no economic value to OpenSea. The government suggests that OpenSea “could have tapped into that value by, for instance, giving tips about upcoming featured NFTs as perks to business partners.”[14] Choosing not to tap into the information’s potential “was a business decision, not a sign that the information was valueless.”[15] The government also argues that while Chastain’s motion seizes upon the purportedly incorrect use of the term “insider trading,” Chastain was not actually charged with committing insider trading; he was charged with wire fraud and money laundering.[16] The references to the term “insider trading” in the indictment were nonetheless appropriate insofar as Chastain “use[d] confidential, non-public information to trade an asset.”[17]
With respect to the money laundering charge, the government contends that even though the transactions took place on the Ethereum blockchain, Chastain took steps to conceal his connection to those transactions by using anonymous accounts.[18] Further, the money laundering statute broadly defines “transaction” to include a “transfer” of funds, which covers Chastain’s movement of assets on the blockchain.[19] The government also argues that Chastain’s challenges to the money laundering charge are all “fact-dependent arguments for a jury,” and are “not proper bases for the dismissal of the [i]ndictment.”[20]
Chastain highlights the DOJ’s increased focus on the emerging digital assets space. The case will be an important one to watch, particularly as we expect to see additional enforcement in this area by the government going forward.
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[1] NFTS are “a type of digital asset stored on a blockchain, which is a digital decentralized ledger that stores information, including information about transactions.” U.S. v. Chastain, Indictment, 22-CR-305, ECF No. 1 (S.D.N.Y. May 31, 2022) at 2. “Each NFT is typically associated with a digital object, such as a piece of artwork, and the NFT provides proof of ownership of that digital object and a license to use it for specific purposes.” Id.
[2] Id. at 1.
[3] Id. at 1-2.
[4] Id. at 4.
[5] U.S. v. Chastain, Memorandum of Law In Support of Nathaniel Chastain’s Motion to Dismiss the Indictment, 22-CR-305, ECF No. 19 (S.D.N.Y. Aug. 19, 2022) at 2.
[6] Id.
[7] Id. at 3.
[8] U.S. v. Chastain, Brief of Amicus Curiae the New York Council of Defense Lawyers In Support of Dismissal of the Indictment, 22-CR-305, ECF No. 20 (S.D.N.Y. Aug. 24, 2022) at 2.
[9] Id. at 1.
[10] Id. at 5.
[11] U.S. v. Chastain, Government’s Memorandum of Law in Opposition to Defendant’s Motion to Dismiss the Indictment, 22-CR-305, ECF No. 23 (S.D.N.Y. Sept. 7, 2022) at 1.
[12] Id. at 6.
[13] Id. at 13. See, e.g., United States v. Grossman, 843 F.2d 78 (2d Cir. 1988).
[14] Id. at 15.
[15] Id.
[16] Id. at 1.
[17] Id.
[18] Id. at 26.
[19] Id. at 28.
[20] Id. at 25. In his Motion, Chastain has requested for oral arguments, and the next hearing before the Court is scheduled for October 27, 2022.
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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.
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