To say initial coin offerings have “exploded” is, for once, to use the word justifiably. Buyers put $256 million into them in 2016, $5.5 billion in 2017, and more than $3 billion in the first two months of 2018 alone, according to CoinDesk.

Styled to sound like an IPO, an ICO offers investors not shares in a company but tokens of a cryptocurrency. Usually, the offer is that these tokens will provide a way to buy some (unspecified) amount of some (vaguely described) product or service that the company will (maybe) build at some (indeterminate) point in the future.

The headlong rush of money has enriched ICO issuers, and early buyers, by making the value of their tokens shoot up. But it’s alarmed regulators in several countries, who are starting to bring the market to heel in an attempt to stop unwary investors from being fleeced.

Tech Review sat down with Robleh Ali, the former head of digital-currency research at the Bank of England and now a researcher at the MIT Media Lab’s Digital Currencies Initiative, to try to work out what will come of the ICO craze. 

What do you think are the main misconceptions about ICOs?

The problem with ICOs is they want to ride two horses. The use of the word “coin” implies that the tokens being sold are money. The phrase “initial coin offering” is deliberately evocative of “initial public offering,” which is about a company selling shares to the public. They want to ride the Bitcoin horse by saying, “We’re not a security—it’s just money,” but they also want to ride the “You’re buying into a future enterprise that will be worth a lot of money” concept that’s inherent in the sale of shares. That’s one of the big tensions with ICOs, that lack of clarity, and that’s something that needs to be fixed.    

Why do you think these incredibly speculative investments have become popular so quickly?

People have heard about people who bought bitcoins for a few cents, put in a few thousand dollars, and are now multimillionaires. That’s the purchaser side. On the supplier side, if you see that you can write a white paper, put up a website, put up a Bitcoin address, and people will send you millions of dollars, that’s a very big temptation. You can essentially get the exit before you’ve built the product. It’s very attractive to some people, and one of the issues is the incentive problem—who is attracted to that kind of easy money.

This is not to tar every single token sale with the same brush. Some try to only sell to accredited investors [in the US, someone with a certain level of income or wealth], or use the SAFT [Simple Agreement for Future Tokens, a contract that attempts to stay on the right side of US securities law while building in some safeguards for investors]. But many of them are just like, “Here’s my website, here’s my white paper, get it listed on the exchange, and away you go.” At the end of 2017 you saw a lot of these tokens shooting up 100x, and that’s what draws people in.

A lot of these white papers bamboozle people—the number of people who can actually read them and discern which technical claims are sound and which aren’t is relatively small. Everybody else is relying on other people or signals in the market to tell them. And if you see the prices going up, it’s easy to get sucked in.

As you noted, some ICOs are limiting themselves to accredited investors. An accredited investor, almost by definition, is someone who can afford to lose money. So what’s really the risk?

If you go into it with your eyes open and say, “I know I could lose all my money and it’s money I can afford to lose,” then it’s not a problem. But it often isn’t limited to accredited investors, and a lot of people are pitching ICOs as “You’ll make 100x and this can’t possibly go down.” People who can’t afford to lose money are putting money into these things and losing it. These are people in desperate situations, and they think, “This is the thing that can get me out of it.” You’re taking advantage of people’s desperation. 

It’s also important for people who want to raise money this way to recognize that there is this large group of people you will be associated with who are tainting the whole ecosystem. If people think this is all just a bunch of scams, it’s bad for everyone who works on cryptocurrency.

Are there any cases where ICOs could be a great solution to something that wasn’t possible before?

There is an argument that issuing shares or bonds for smaller companies should be much easier. Historically there were regional stock exchanges all around the country, and it might be nice to get back to that concept. Instead of putting all your money in an S&P 500 tracker, you could put some of it in a fund of local businesses. If tokens are equity and it’s helping revitalize local businesses, that could be a good thing.

But that’s not just a technological problem—it’s about how to reform accredited-investor regulation. Really, it’s an IPO. One day tokens could represent shares, and shares could be sold more easily, and this technology hopefully plays a part in that—but that’s a very different thing from ICOs.   

What would have to happen for ICOs to not just benefit a handful of rich investors?

If this way of issuing equity is restricted to very high-growth tech companies, then it’s just a different way of doing a similar thing. To be more broad-based it needs to be more accessible to the local barbers, the local garage, the local baker or butcher or whatever. These independent small businesses need to be able to tap in, and their customers, people in the area, should be able to buy shares. You accept that your local pizza shop is probably not going to become Papa John’s, but it’s still a good business and you can invest in it.

The problem is that right now everyone is looking for the grand slam, the next Google. If you can get more businesses involved that you invest in because you want to support your local business, and you want steady growth but you’re not expecting 10x, 100x—that’s what it will take for this technology to be much more useful to a wider population.       In theory, couldn’t a local barber who was tech-savvy enough already hold an ICO?

I don’t think he could. It comes back to the “What is the coin?” problem; this is why the phrase “initial coin offering” is a bad one. If the barber had tokenized shares in his business and was selling those shares; and if the regulations around who can offer shares to the public and what type of accreditation you need to buy them had been reformed, so that he could do this legally and at relatively low cost; and if his purchasers bought that in the understanding that they were buying a share in his business and it wasn’t going to grow 100x—that’s fine. But if it’s just, like, “Here’s my coin and I’m going to get some influencers to go and pump it,” that’s not a good outcome.

We’re still talking about this concept of ICOs, and that needs to be got away from. The word “coin” is problematic because it implies money. The concept of an ICO is almost inherently flawed, and probably the phrase needs to change, because it’s trying to elide two different things.     

What would you rather call it?

When I think about how to apply this technology in the future to make a better system, I think about shares. The term IPO is perfectly fine for me. But IPOs are only for very big companies right now. The question is how to get the barrier to an IPO down much further.

The concept of selling shares in my company to the public is fine. The concept of using a blockchain and tokens instead of whatever collection of databases they use now to record shareholdings—yes, you can do that if you want to. Will that be helpful in terms of streamlining the back end and making it more flexible? Yes, that’s a possibility. But then you need to think of how the regulations can change to accommodate that. This is almost like going back to the past, of local exchanges and the buttonwood tree [where the New York Stock Exchange was formed]. That’s the sort of world I think we should be aiming for. The whole ICO craze at best is a catalyst; at worst it’s a really deliberately misleading concept and phrase.

If people are looking at ICOs, how can they tell which ones are run by people trying to do the right thing?

If they’re using SAFT, that’s probably a good sign. It’s a way of trying to formalize the law around token sales. But if they are using that, they’re only selling to accredited investors. So if you’re a member of the public and not an accredited investor, it’s all very risky.