Bancor DeFi Lawsuit: Impermanent Loss Claims, Unregistered Security, and Violations

Dark, ominous courtroom scene, DeFi platform creators face a class-action lawsuit, perplexed investors in the background, bold brushstrokes, shadows reflecting the tension, cold blue light illuminating the defendants' faces, blurred lines depicting the gray area of decentralization and regulation, somber mood of broken trust and concealed truths.

Bancor, a well-known entity in the decentralized finance (DeFi) sector, together with its operator, the BProtocol Foundation and its founders, are now facing a class-action lawsuit filed in the U.S. District Court for the Western District of Texas. The suit alleges that Bancor deceived investors about its impermanent loss protection mechanism (ILP) and operated as an unregistered security.

The lawsuit brings forth six charges against the defendants, including violations of the Securities Act of 1933 and the Exchange Act of 1934, breach of contract, and unjust enrichment. The BProtocol Foundation, founded in 2017 by Bancor Protocol’s creators, played an important role in the nascent world of DeFi. The purpose of DeFi platforms is to enable traders to swap in and out of trades through liquidity pools that rely on self-executing smart contracts, eliminating the need for intermediaries.

Bancor Protocol, in particular, introduced the idea of automated market makers (AMMs) in 2017, which maintain balance within liquidity pools via mathematical formulas. However, imbalances can still occur, leading to losses for liquidity providers (LPs).

Impermanent loss refers to a situation where the value of an LP’s assets in a decentralized exchange (DEX) decreases due to price volatility in the liquidity pool. If the relative prices of the tokens in the pool return to their original state before the LP withdraws their stake, this loss can be mitigated. However, if the LP exits before the price reassessment, the loss becomes permanent.

Bancor’s v2.1 product, launched in October 2020, promised investors protection against impermanent loss. This feature was instrumental in attracting over $2.3 billion in crypto assets to the protocol. Nevertheless, it is this ILP mechanism that the lawsuit claims was a false promise. The suit alleges that Bancor’s v2.1 was operating at a deficit, which the defendants attempted to conceal by launching a new product, v3. This new offering, touted as risk-free, promised “some of the most competitive returns anywhere.”

In June 2022, Bancor suspended its ILP following a sharp increase in withdrawals, which led to significant losses for investors. The lawsuit also questions the level of control the defendants had over the platform’s operations, claiming that it contradicts the decentralized ethos of a decentralized autonomous organization (DAO). The plaintiffs argue that this control over the capital, employees, and code allowed for manipulation and domination of the Bancor DAO.

Moreover, the plaintiffs contend that the LP Program should be considered a binding investment contract and classified as a security under U.S. law. They maintain that the defendants did not comply with relevant registration and disclosure requirements, which, if fulfilled, would have deterred the plaintiffs from investing in the LP program.

With losses nearing 50% of their LP Program investments, totaling tens of millions of dollars for U.S. retail investors, the plaintiffs are seeking restitution, damages, and interest. BProtocol has yet to respond to the allegations.

Source: Decrypt

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