Securities Regulation in Virtual Space

Washington and Lee Law Review, Aug 2018

Eric C. Chaffee

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Securities Regulation in Virtual Space

Securities Regulation in Virtual Space Eric C. Chafee 0 1 0 This Article is brought to you for free and open access by the Washington and Lee Law Review at Washington & Lee University School of Law Scholarly Commons. It has been accepted for inclusion in Washington and Lee Law Review by an authorized editor of Washington & Lee University School of Law Scholarly Commons. For more information , please contact , USA 1 University of Toledo College of Law - I. Introduction ...................................................................1388 II. A Brief Primer on Video Games, Virtual Worlds, Virtual Reality, and Augmented Reality.......................1394 A. Exploring Virtual Space ..........................................1395 B. Securities Solely Existing in Virtual Space ............1399 III. A Brief Primer on Federal Securities Regulation .........1400 A. Definition of a Security............................................1403 B. Registration .............................................................1411 C. Anti-Fraud ...............................................................1416 IV. The Application of Federal Securities Regulation to Virtual Space .................................................................1419 A. Securities Purchased and Sold in Real World Transactions Based Upon Real World Activity.......1420 B. Securities Purchased and Sold in Real World Transactions Based Upon Virtual Activity .............1420 C. Securities Purchased and Sold in Virtual Transactions Based Upon Real World Activity.......1421 D. Securities Purchased and Sold in Virtual Transactions Based Upon Virtual Activity .............1422 V. The Arguments for Not Applying Federal Securities Regulation to Securities Existing Entirely Within Virtual Space .................................................................1433 * Professor of Law, The University of Toledo College of Law; J.D., University of Pennsylvania Law School; B.A., The Ohio State University. This Article benefited from discussions with scholars too numerous to mention. I would like to offer special thanks to Dr. Anna Langhorne for providing feedback and advice that contributed greatly to this Article. I would also like to thank Christine Gall, Esq. for her encouragement while drafting this work. This project was supported by a summer research grant from The University of Toledo College of Law. The views set forth in this essay are completely my own and do not necessarily reflect the views of any employer or client either past or present. I. Introduction On July 6, 2016, Niantic, Inc. released Pokémon Go, a mobile app for iOS and Android devices.1 The premise of this game is that players locate and interact with virtual creatures, known as Pokémon.2 However, unlike traditional video games, which allow 2. See Clara Ferreira-Marques, Pokémon Game Adds $7.5 Billion to Nintendo Market Value in Two Days, REUTERS (July 11, 2016), http://reut.rs/29wIhiJ (last visited Sept. 21, 2017) (“[Pokémon Go], which marries a classic 20-year old franchise with augmented reality, allows players to walk around real-life neighborhoods while seeking virtual Pokémon game characters on their smartphone screens—a scavenger hunt that has earned enthusiastic early reviews.”) (on file with the Washington and Lee Law Review); Nick Wingfield & Mike Isaac, Pokémon Go Brings Augmented Reality to a Mass Audience, N.Y. TIMES (July 11, 2016), http://nyti.ms/29CGXJr (last visited Sept. 21, 2017) (“In the case of Pokémon Go, players traverse the physical world following a digital map, searching for cartoon creatures that surface at random. People look through their smartphone cameras to find Pokémon.”) (on file with the Washington and Lee Law Review); Dave Thier, What Is ‘Pokémon GO,’ And Why Is Everybody Talking About It?, FORBES (July 11, 2016), https://www.forbes.com/sites/davidthier/2016/07/11/facebook-twitter-social-whatis-pokemon-go-and-why-is-everybody-talking-about-it/#12ad69fc1758 (last visited Sept. 21, 2017) (“[Pokémon Go] takes place in a world full of Pokémon, monsters of various sizes that can be captured in tiny red balls and tamed by Pokémon trainers, who use them to fight.”) (on file with the Washington and Lee Law players to interact with virtual characters in virtual settings, Pokémon Go is an augmented reality game that places virtual characters in real world settings using a mobile device’s GPS and camera capabilities.3 In short, Pokémon Go was designed to transform a player’s world for purposes of game play. Based upon its immediate popularity, Pokémon Go has also transformed the world of video games as well.4 In doing so, this app has created a number of new legal issues that implicate a variety of different areas, including criminal law, privacy law, property law, and tort law.5 Review). 3. See David E. Fink & Jamie N. Zagoria, VR/AR in a Real World, ENT. & SPORTS LAW., Fall 2016, at 2 (“For the uninformed, Pokémon Go is a game that uses the player’s smartphone camera and augmented reality to insert virtual Pokémon (fictitious creatures) into the user’s real world.”); Cristin Wilson, How Can Employers Reduce the Risk of Pokémon Go?, ABA JOURNAL (Oct. 1, 2016), http://www.abajournal.com/magazine/article/pokemon_go_at_work (last visited Sept. 21, 2017) (“[Pokémon Go] is indeed a phenomenon . . . . The app works in conjunction with the GPS on your phone, and the goal is for users to capture the virtual characters they see around them.”) (on file with the Washington and Lee Law Review); Larry N. Zimmerman, Pokémon Go, J. KAN. B. ASS’N, Sept. 2016, at 10 (“The app is GPS-connected and your onscreen avatar moves on a Google map as you walk the streets of your city, burg, or village searching . . . . A tracker vaguely points to nearby Pokémon requiring you to walk and explore until the monsters finally pop up onscreen.”). 4. See Ferreira-Marques, supra note 2 (“In the United States, by July 8— two days after its release—[Pokémon Go] was installed on more than 5 percent of Android devices in the country, according to web analytics firm SimilarWeb.”); Zimmerman, supra note 3, at 10 (“Pokémon Go is the biggest mobile game release in U.S. history, attracting more users than Twitter within just three days of its release on July 6 of this year.”); Wingfield & Isaac, supra note 2 (“Pokémon Go represents one of those moments when a new technology—in this case, augmented reality or A.R., which fuses digital technology with the physical world—breaks through from a niche toy for early adopters to something much bigger.”). 5. See Tamara Chuang, Playing Pokémon Go? Here’s How to Stay Safe, DENVER POST (July 15, 2016), http://www.denverpost.com/2016/07/15/pokemongo-safety-online/ (last visited Sept. 21, 2017) (“By now, you’ve probably heard of the new mobile game craze Pokémon Go. And perhaps you’ve heard there were some privacy concerns—like the app requiring full access to a user’s Google account for those who chose to sign into the game using Google. Those were real.”) (on file with the Washington and Lee Law Review); Joseph Rothberg, ‘Pokémon GO’ Field Guide: What You Need to Know About Civil Trespass Laws, FORBES (July 21, 2016), https://www.forbes.com/sites/legalentertainment/2016/07/21/afield-guide-to-civil-trespass-in-the-age-of-pokemon-go/#75e0c5236b6f (last Technology invariably creates new legal questions of how to apply existing law to new circumstances. As Pokémon Go evidences, courts, lawmakers, and commentators are often forced to struggle with how to address these new issues hurriedly after they arise. In such instances, developers, platform owners, and users encounter a great deal of uncertainty regarding the lawfulness of their behavior and potential liability. This Article is designed to educate, explore, and analyze when and how federal securities regulation applies to video games, virtual worlds, virtual reality, and augmented reality, i.e., securities that exist entirely within virtual space. “Virtual space” is a term coined within this Article to designate any software created environment, including the virtual elements of augmented reality. It can be as simple as a virtual chess board for a game of chess or as complex as a well-developed virtual reality simulator. Although it is highly unlikely that federal securities regulation applies to Pokémon Go, what that game demonstrates is how quickly issues related to video games, virtual worlds, virtual reality, and augmented reality can appear and how useful it can be for developers and platform owners to comprehend the potential legal concerns before unleashing their creations into the world. Securities regulation is an important area of law to understand prior to a developer creating, distributing, and marketing any type of virtual experience that has investment-related aspects to it that are tied to real world currency. This application of securities law to virtual space is developing, and the question is more one of how the law ought to apply, rather than how it does apply, because the case law and commentary is so sparse. This is not to claim that securities regulators have never found their jurisdiction extending into cyberspace. Initially, as the Internet came into being, regulators struggled with questions of visited Sept. 21, 2017) (“Since its launch, excited players have been venturing into closed public spaces after hours and even trespassing onto private properties in order to catch Pokémon and advance in the game. There have been multiple reports by home and business owners of players trespassing . . . .”) (on file with the Washington and Lee Law Review); Zimmerman, supra note 3, at 10–11 (“The vast library of . . . stops in the game represents real places—some of them memorials, businesses, and even residences that did not ask to participate and do not want the traffic . . . . [T]raffic near sites also creates risks of trespass, vandalism, or disturbance from groups of players arriving to play.”). how to apply securities regulation when it was used as a means of communication.6 In recent years, however, the Internet has become an omnipresent tool in the purchasing and selling of securities.7 As a result, in many instances, investors can now feel assured that their investments are at least somewhat protected by state and federal securities regulation as it has evolved to address securities issues online.8 This is not the case, however, when it 6. See Anita Indira Anand, Securities Law in the Internet Age: Is “Regulating by Analogy” the Right Approach?, 27 QUEEN’S L.J. 129, 136 (2001) (“[R]egulators have struggled with how to integrate the Internet into concepts currently embedded in securities law.”); Roberta S. Karmel, Regulatory Initiatives and the Internet: A New Era of Oversight for the Securities and Exchange Commission, 5 N.Y.U. J. LEGIS. & PUB. POL’Y 33, 33 (2002) (“The trading of securities over the Internet has challenged securities regulators to adjust old legal constructs to fit this new medium.”); Lawrence J. Trautman & George P. Michaely, Jr., The SEC & The Internet: Regulating the Web of Deceit, 68 CONSUMER FIN. L.Q. REP. 262, 262 (2014) (“The Internet has created challenges for regulators of financial markets unimagined over eighty years ago by drafters of the Securities and Exchange Acts.”). 7. See Tamar Frankel, The Internet, Securities Regulation, and Theory of Law, 73 CHI.-KENT L. REV. 1319, 1319–20 (1998) (“The Internet affects the environment in which securities markets operate and the laws that govern them. The use of the Internet has already begun to change the way information about securities is disseminated and the way securities are traded, two activities regulated by the securities laws.”); Constance Z. Wagner, Securities Fraud in Cyberspace: Reaching the Outer Limits of the Federal Securities Laws, 80 NEB. L. REV. 920, 920 (2001) (“More and more securities activities in both the primary and the secondary markets are moving on-line these days.”). 8. See Olufunmilayo B. Arewa, Securities Regulation of Private Offerings in the Cyberspace Era: Legal Translation, Advertising and Business Context, 37 U. TOL. L. REV. 331, 331–32 (2006) (“What is often termed the cybersecurities era refers to the process by which securities regulation has been translated to changing technological and business practices in the last two decades, particularly since the advent of the Internet.”); Eric C. Chaffee, The Dodd-Frank Wall Street Reform and Consumer Protection Act: A Failed Vision for Increasing Consumer Protection and Heightening Corporate Responsibility in International Financial Transactions, 60 AM. U. L. REV. 1431, 1437 (2011) (“The United States Securities and Exchange Commission (SEC) . . . has demonstrated little concern about broadening its reach to cover securities transactions occurring online, even in the absence of an edict from Congress to do so.”); Michael L. Rustad, Punitive Damages in Cyberspace: Where in the World is the Consumer?, 7 CHAP. L. REV. 39, 105 n.402 (2004) (“Similarly, the SEC has been active in extending federal securities law to the enforcement of predatory, anti-fraud and anti-competitive practices in cyberspace. SEC actions may be brought for insider trading, pyramid schemes, fraudulent investment opportunities, and false and misleading information about securities and the companies that issue them.”). comes to securities existing entirely within the virtual space of video games, virtual worlds, virtual reality, and augmented reality. While securities regulation may extend into these realms, the case law is limited, and the legal commentary is meager at best.9 Regarding securities existing entirely within virtual space, this Article argues that securities law likely could be applied in these settings based upon the definition of “security” found within Section 2(a) of the Securities Act of 1933 and Section 3(a) of the Securities Exchange Act of 1934.10 Based on the language found within both of these sections—which limits the application of this definition of a security if “the context otherwise requires”— however, regulators and courts should determine that these securities existing entirely within virtual space, which are dependent on virtual activity, are not securities for purposes of federal securities regulation.11 As will be explained below, eliminating the application of the federal securities law is the correct solution because of the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity and regulatory experimentation.12 This Article advances the existing scholarship in three main ways.13 First, this Article thoroughly explores the multiple ways in 9. Notably, in July 2017, the United States Securities and Exchange Commission (SEC) issued a report stating that certain cryptocurrencies could be subject to federal securities regulation, if they met the definition of a security. Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934, Exchange Act Release No, 81207 (July 25, 2017). In issuing the report, the SEC stated that the cryptocurrency in the matter was offered and sold by a “virtual organization” known as “The DAO.” Id. at 1. Although this is an interesting development in securities regulation in cyberspace, the SEC report in no way resolves the issue presented in this paper because it did not involve securities existing within virtual space, i.e., video games, virtual worlds, virtual reality, and augmented reality. 10. 15 U.S.C. §§ 77b(a)(1), 78c(a)(10) (2012). 11. Id. §§ 77b(a), 78c(a). 12. See infra Part V (providing arguments for not applying federal securities regulation to securities existing entirely within virtual space). 13. Remarkably, the issues of when or how federal securities regulation in the United States applies to transactions in virtual worlds has been largely ignored in the existing legal scholarship and other commentary. The major published pieces on the topic consist of a book chapter and a student comment. See BENJAMIN TYSON DURANSKE, VIRTUAL LAW: NAVIGATING THE LEGAL LANDSCAPE which securities can interact with virtual space, whereas the very limited previous scholarship focuses mainly on virtual securities in virtual worlds.14 This Article is designed to be a foundational piece about how securities can relate to virtual space, which is defined to include a wide variety of environments existing within video games, virtual worlds, virtual reality, and augmented reality. Second, this Article updates the very limited prior scholarship in light of the recent enactment of the Jumpstart Our Business Startups Act (JOBS Act).15 The JOBS Act amended various portions of the Securities Act to allow for expanded purchases and sales via the Internet and mandated that the United States Securities and Exchange Commission (SEC) adopt a number of rules and regulations regarding the online purchase and sale of securities.16 The JOBS Act may potentially have an impact on when and how federal securities laws apply to transactions in virtual space. Third, this Article offers a new solution to regulation of securities existing entirely within virtual space, i.e., to exclude them from the coverage of the federal securities law, and to allow other regulation to govern. Although federal securities regulation could apply to these securities, this is not the best means of regulating these realms. Unlike the previous limited scholarship, this Article argues that based upon the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity and regulatory experimentation, a strong case exists for determining that securities existing entirely within virtual space should not be subject to federal securities law.17 OF VIRTUAL WORLDS 217–24 (2008) (exploring the consequences of cash economies within virtual worlds and the growth of virtual markets). See generally Shannon L. Thompson, Comment, Securities Regulation in a Virtual World, 16 UCLA ENT. L. REV. 89 (2009) (exploring the consequences of virtual securities within virtual worlds such as the game “Second Life”). 14. See DURANSKE, supra note 13, at 217 (analyzing how securities regulation interact with virtual worlds); Thompson, supra note 13, at 98 (“[T]his Article examines whether virtual world securities are, in fact, securities subject to regulation under the federal securities laws.”). 15. Jumpstart Our Business Startups Act, Pub. L. No. 112-106, 126 Stat. 306 (2012) (codified as amended in scattered sections of 15 U.S.C.). 16. Id. 17. See infra Part V (providing arguments for not applying federal securities The remainder of this Article is structured as follows. Part II provides background on virtual space and its many forms including video games, virtual worlds, virtual reality, and augmented reality, and Part III offers a brief primer on federal securities regulation.18 Part IV offers an analysis of how federal securities regulation might interact with securities existing entirely within virtual space and concludes that the virtual context should preclude the application of federal securities law.19 Part V provides various arguments in support of that position based upon the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity and regulatory experimentation.20 Part VI addresses various counterarguments in favor of applying federal securities regulation, including that the application of federal securities regulation is necessary for investor protection, is required to prevent an unworkable patchwork of state regulation, and is needed to ensure that these rapidly developing and evolving virtual environments are properly regulated.21 Finally, Part VII offers brief concluding remarks.22 II. A Brief Primer on Video Games, Virtual Worlds, Virtual Reality, and Augmented Reality The term “virtual space” has been coined specifically for this Article. Within this paper, “virtual” is defined using the popular definition of “being on or simulated on a computer or computer network . . . such as . . . of, relating to, or existing within a virtual reality.”23 Virtual space designates any software-created environment, including the virtual elements of augmented reality. regulation to securities existing entirely within virtual space). 18. Infra Parts II, III. 19. Infra Part IV. 20. Infra Part V. 21. Infra Part VI. 22. Infra Part VII. 23. Virtual, MERRIAM-WEBSTER, https://www.merriam-webster.com/ dictionary/virtual (last visited Sept. 21, 2017) (on file with the Washington and Lee Law Review). Virtual space entails a wide variety of realms including video games, virtual worlds, virtual reality, and augmented reality. Virtual space can designate everything from a simple video game chess board to a complex virtual reality environment. This space is different from cyberspace, although the two are closely related. Cyberspace designates “the online world of computer networks and especially the Internet.”24 Although virtual space and cyberspace do overlap in most instances, virtual space does exist beyond the world of networked computers. For example, an individual could create a computer with a video game, virtual reality experience, or augmented reality experience that is not networked with any other computer and is not in any way connected to the Internet. This virtual space would exist separate and apart from cyberspace. Thus, as used in this Article, virtual space is expansive, and it encompasses many different realms, including video games, virtual worlds, virtual reality, and augmented reality. A. Exploring Virtual Space Although an exhaustive discussion of video games, virtual worlds, virtual reality, and augmented reality is beyond the scope of this Article, a few words ought to be said about these media in which virtual space can exist. The vast majority of readers will have some familiarly with these media, but some discussion of their pervasiveness will demonstrate that it is a question of when, rather than if, securities regulation issues will arise in virtual space. Video games are electronic games that allow a player to interact through a user interface with images on a video screen, such as a television or video monitor.25 The first patent for a video 24. Cyberspace, MERRIAM-WEBSTER, https://www.merriam-webster.com/ dictionary/cyberspace (last visited Sept. 21, 2017) (on file with the Washington and Lee Law Review). 25. See Video Game, MERRIAM-WEBSTER, https://www.merriamwebster.com/dictionary/video%20game (last visited Sept. 21, 2017) (defining the term “video game” as “an electronic game played by means of images on a video screen and often emphasizing fast action”) (on file with the Washington and Lee Law Review); see also Jethro Dean IV, Comment, Would You Like to Play Again? Saving Classic Video Games from Virtual Extinction Through Statutory game was filed by Thomas T. Goldsmith Jr. and Estle Ray Mann on January 25, 1947, and it was issued on December 14, 1948.26 During the 1950s and 1960s, video games were developed mainly for purposes of research, public displays, and instructional purposes, and they did not become popular until the 1970s and 1980s when video arcade games and video gaming consoles became widely available.27 During the 1990s, the development of the Internet and reduced cost of home computers helped to fuel the growth of video games. Today, video gaming is a multi-billion-dollar industry with a multitude of different games available.28 The amount and types of virtual space available within video games is substantial. During the 2000s, the video game industry popularized a specific genre of virtual space known as virtual worlds.29 The term Licensing, 35 SW. U. L. Rev. 405, 406 (2006) (“Originally, video game ROM files were fixed on memory boards installed inside large arcade cabinets that were primarily designed to hold the video monitor and controls.”). “virtual world” designates an online, computer-created environment that allows users to interact using avatars.30 An avatar is a digital representation of the user that allows the user to exist within the computer-created space.31 These environments allow users to feel as though they are present in a space separate from the traditional world, which is why virtual worlds are worlds unto themselves.32 These environments represent spaces in which the application of “real world” law can be highly uncertain. As a result, a number of law review articles have been authored regarding the application of real world law to virtual worlds,33 2000s, computer simulation has become part of mainstream culture and a significant part of the real-world economy.”). 30. See GREG LASTOWKA, VIRTUAL JUSTICE 9 (2010) (“All virtual worlds . . . are Internet-based simulated environments that feature software-animated objects and events.”). 31. See id. (“Users are represented in virtual worlds by ‘avatars,’ digital alter egos that both embody and enable users within the simulated space.”). 32. See id. (“The social and interactive complexity of virtual worlds can be substantial, making users feel like they are truly ‘present’ somewhere else. This is why virtual worlds are truly called ‘worlds.’”). 33. See generally Jack M. Balkin, Virtual Liberty: Freedom to Design and Freedom to Play in Virtual Worlds, 90 VA. L. REV. 2043 (2004); Marc Jonathan Blitz, A First Amendment for Second Life: What Virtual Worlds Mean for the Law of Video Games, 11 VAND. J. ENT. & TECH. L. 779 (2009); Susan W. Brenner, Fantasy Crime: The Role of Criminal Law in Virtual Worlds, 11 VAND. J. ENT. & TECH. L. 1 (2008); Bryan T. Camp, The Play’s the Thing: A Theory of Taxing Virtual Worlds, 59 HASTINGS L.J. 1 (2007); Joshua A.T. Fairfield, Avatar Experimentation: Human Subjects Research in Virtual Worlds, 2 U.C. IRVINE L. REV. 695 (2012); Joshua A.T. Fairfield, Mixed Reality: How the Laws of Virtual Worlds Govern Everyday Life, 27 BERKELEY TECH. L.J. 55 (2012); Joshua A.T. Fairfield, Nexus Crystals: Crystallizing Limits on Contractual Control of Virtual Worlds, 38 WM. MITCHELL L. REV. 43 (2011); Jon M. Garon, Beyond the First Amendment: Shaping the Contours of Commercial Speech in Video Games, Virtual Worlds, and Social Media, 2012 UTAH L. REV. 607; Jon M. Garon, Playing in the Virtual Arena: Avatars, Publicity, and Identity Reconceptualized Through Virtual Worlds and Computer Games, 11 CHAP. L. REV. 465 (2008); Greg Lastowka, User-Generated Content and Virtual Worlds, 10 VAND. J. ENT. & TECH. L. 893 (2008); F. Gregory Lastowka & Dan Hunter, The Laws of the Virtual Worlds, 92 CAL. L. REV. 1 (2004); Leandra Lederman, “Stranger Than Fiction”: Taxing Virtual Worlds, 82 N.Y.U. L. REV. 1620 (2007); Juliet M. Moringiello, What Virtual Worlds Can Do for Property Law, 62 FLA. L. REV. 159 (2010); John William Nelson, A Virtual Property Solution: How Privacy Law Can Protect the Citizens of Virtual Worlds, 36 OKLA. CITY U. L. REV. 395 (2011); Tyler T. Ochoa, Who Owns an Avatar? Copyright, Creativity, and Virtual Worlds, 14 VAND. J. ENT. & TECH. L. 959 (2012); Kevin W. Saunders, Virtual Worlds—Real Courts, 52 VILL. L. REV. although the discussion of the application of securities regulation to this virtual space has been minimal.34 In addition, virtual reality is another popular technology for generating virtual space. Virtual reality refers to the use of software to generate realistic images, sounds, and other sensations to create a virtual environment.35 Although virtual reality has a substantial history, this medium for virtual space has been particularly hot in the past few years based upon the widespread availability of virtual reality headsets.36 As a result, virtual reality has become increasingly popular, including with academics, who have begun to explore the legal issues associated with it.37 187 (2007); Theodore P. Seto, When Is a Game Only a Game?: The Taxation of Virtual Worlds, 77 U. CIN. L. REV. 1027 (2009); Robin Fretwell Wilson, Sex Play in Virtual Worlds, 66 WASH. & LEE L. REV. 1127 (2009). 34. See supra note 13 (discussing the very limited scholarship addressing the application of securities regulation to virtual worlds). 35. See Marc Jonathan Blitz, The Freedom of 3D Thought: The First Amendment in Virtual Reality, 30 CARDOZO L. REV. 1141, 1142 (2008) (“[A]nother kind of electronic environment . . . is more all-encompassing. It does not merely claim a small piece of our perceptual field. It swallows it entirely. It is not simply a virtual world on a screen—but a full-fledged virtual reality—a three-dimensional space that we seem to be within.”); Gregory P. Joseph, Virtual Reality Evidence, 2 B.U. J. SCI. & TECH. L. 12, 12 (1996) (“‘Virtual reality’ refers to a category of computer-generated simulations—generally three-dimensional animations—that are designed to place the viewer in a simulated environment that reacts in a visually appropriate fashion to the viewer’s actions.”); Natalie Salmanowitz, Unconventional Methods for a Traditional Setting: The Use of Virtual Reality to Reduce Implicit Racial Bias in the Courtroom, 15 U. N.H. L. REV. 117, 138 (2016) (“[V]irtual reality is broadly defined as any technology in which the user experiences and interacts with a virtual environment, commonly (but not necessarily) through the perspective of an avatar.”). 36. See Fink & Zagoria, supra note 3, at 1 (“[T]he headsets through which the world of virtual reality can be accessed, have been or will be made available for sale to the public this year, such as Facebook-owned Oculus VR’s Oculus Rift, Samsung’s Gear VR, Sony’s PlayStation VR, HTC’s Vive, etc. In other words, VR/AR is going mainstream.”). 37. See Francis X. Shen, Law and Neuroscience 2.0, 48 ARIZ. ST. L.J. 1043, 1073 (2016) (“Virtual Reality . . . is now being explored for an incredible range of uses . . . . Regulators, legislators, practicing attorneys, and scholars have already begun to weigh in on issues such as intellectual property, privacy, and constitutional law.”); Mark A. Lemley & Eugene Volokh, Law, Virtual Reality, and Augmented Reality 2 (Mar. 17, 2017) (unpublished manuscript), https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2933867 (last visited Sept. 21, 2017) (“AR and VR both present legal questions for courts, companies, and users. Some are new takes on classic legal questions. People will die using AR and As discussed above, augmented reality, based on the popularity of Pokémon Go, is also a hot medium for virtual space. 38 This is true despite augmented reality having existed for roughly half a century.39 Typically, augmented reality places virtual characters and objects in real world settings using a mobile device’s GPS and camera capabilities.40 In short, virtual space is plentiful and constantly evolving. As a result, now is the time to discuss how legal issues might arise in this space before these issues appear and end up being addressed haphazardly. B. Securities Solely Existing in Virtual Space Securities regulation issues could easily find—and in many cases already have found—their way into virtual space. The best way to illustrate how easily issues relating to securities solely existing in virtual space could come into being is to consider the following hypothetical: Adam Anderson sits at a computer in his home office. Financial newspapers and books on investing are piled high around him. He reaches for the mouse to start his work, and he knocks over his cup of coffee that he left on the edge of his desk. The cup’s VR—indeed, some already have. They will injure themselves and others. Some will use the technology to threaten or defraud others.”) (on file with the Washington and Lee Law Review). 38. See supra notes 1–5 and accompany text (providing an overview of Pokémon Go and its popularity). 39. See Scott R. Peppet, Freedom of Contract in an Augmented Reality: The Case of Consumer Contracts, 59 UCLA L. REV. 676, 689 (2012) (“Augmented reality has been developing for decades. In 1968, Ivan Sutherland created . . . the first augmented reality system. The system consisted of a helmet with a digital display that the user could wear to look around the room and see digital information overlaid on the physical world.”). 40. See Marc Jonathan Blitz, The Right to Map (and Avoid Being Mapped): Reconceiving First Amendment Protection for Information-Gathering in the Age of Google Earth, 14 COLUM. SCI. & TECH. L. REV. 115, 128 (2012) (“[N]ew ‘augmented reality’ applications for iPhones, Blackberries, and other smartphones superimpose words or icons on images of the surrounding terrain . . . .”); Wilson, supra note 28, at 1131–32 (“These ‘augmented reality’ technologies push virtual experiences and object down into real space, erasing the boundary between the virtual world and the real world.”). lukewarm contents splash onto his new pants. Anderson mumbles a few inaudible words. Anderson returns to staring at the screen. He checks the values of his investments. A number of his stocks are performing very well. He notices his stock in Global Giant Corporation has dropped substantially based on claims of accounting misstatements that spread across the Internet yesterday. With a few keystrokes, his shares of Global Giant Corporation are sold. He decides to use the profits to purchase shares of Pear Inc., a computer company that has been promising the announcement of a new and innovative smartphone. He purchases 200 shares of Pear Inc., and he turns off the computer. Situations similar to the hypothetical above occur regularly throughout the United States. When these events are occurring in the “real world,” the application of federal securities regulation is undeniable. The facts of this hypothetical, however, could easily be incorporated into a video game, a virtual world, a virtual reality experience, or an augmented reality experience. If the hypothetical above occurs in a virtual space, investors cannot currently feel assured that state and federal securities regulation will apply because of the limited amount of case law and other guidance regarding this issue. This is particularly troubling because the ubiquity and anonymity of the Internet makes virtual environments very well suited for fraud and other sorts of abusive transactions. III. A Brief Primer on Federal Securities Regulation Although some readers of this Article will have an extensive familiarity with federal securities regulation, a few words ought to be said about the consequences of participating in transactions involving securities for those readers who may not have spent a significant amount of time studying such regulation. This Part is not designed to be a comprehensive discussion of securities law. Many important aspects of federal securities regulation that may be applicable to virtual space will not be discussed within the pages of this Part, including such topics as exchange regulation, broker-dealer regulation, and investor adviser regulation. In addition, this Part focuses only on federal securities regulation, rather than state securities regulation, even though such state regulation may have important consequences in transactions involving securities.41 This Part is designed only to briefly introduce securities regulation and to highlight the importance of whether securities law is applicable to virtual space. The current system of federal securities regulation in the United States came into being during the first half of the twentieth century. Prior to the development of federal securities law in the United States, securities transactions were regulated by general anti-fraud statutes that were supplemented in some instances by privately imposed regulation on certain exchanges.42 Because general anti-fraud provisions and private exchange regulation proved ineffective to regulate securities markets, Kansas enacted the first state securities act in 1911.43 Within two decades, the vast 41. See Rutheford B. Campbell, Jr., The Role of Blue Sky Laws After NSMIA and the JOBS Act, 66 DUKE L.J. 605, 618 (2016) (“Blue sky laws have an important role in the governance of capital formation. States generally retain authority to make and enforce antifraud rules. States also retain significant authority over registration, although as a result of preemption, states have in recent years lost some authority in this area.”); Cheryl Nichols, H.R. 2179, The Securities Fraud Deterrence and Investor Restitution Act of 2004: A Testament to Selective Federal Preemption, 31 SUFFOLK TRANSNAT’L L. REV. 533, 535 (2008) (“The Commission cannot go it alone—there must be continued cooperation and shared labor between the Commission and Blue Sky Administrators. Blue Sky Administrators have an incredibly important role to play in ensuring that individual investors and working people are treated fairly.”); Marc I. Steinberg, Enhanced “Blue Sky” Enforcement: A Path to Help Solve Our Public School Funding Dilemma, 50 WASHBURN L.J. 563, 571 (2011) (“[T]he states in their enforcement of the blue sky laws are important to market integrity and investor protection. The SEC needs help.”). 42. See Eric C. Chaffee, Contemplating the Endgame: An Evolutionary Model for the Harmonization and Centralization of International Securities Regulation, 79 U. CIN. L. REV. 587, 610 (2011) (“[Prior to the 1930s,] the United States employed a privatization approach to securities regulation under which securities exchanges determined rules governing issuers, investors, and other market participants. In addition, general provisions of tort and criminal law were used to prohibit fraud in the purchase or sale of securities.”). 43. See Chris Brummer, Disruptive Technology and Securities Regulation, 84 FORDHAM L. REV. 977, 983 n.9 (2015) (“Kansas is largely credited with enacting the first blue sky law in 1911, which required companies selling securities in the state, as well as stockbrokers, to register with the bank commissioner and disclose information about their operations.”); Ronald J. Colombo, Merit Regulation Via the Suitability Rules, 12 J. INT’L. BUS. & L. 1, 7 (2013) (“In 1911 Kansas enacted the first law in America regulating the sale of securities—and by the Great majority of other states had enacted similar statutes, which became commonly known as “blue sky laws.”44 The patchwork of regulation created by these various state statutes proved ineffective to prevent the stock market crash of 1929.45 In the wake of the crash and the ensuing Great Depression, Congress passed the Securities Act of 1933 (Securities Act)46 and the Securities Exchange Act of 1934 (Exchange Act).47 Although various other statutes regulate securities transactions within the United States, the Securities Act and Exchange Act are the primary sources of federal securities regulation.48 Depression, every state had followed suit. The Kansas law, like many, was enacted in response to widespread securities fraud in that state.”); Arthur B. Laby, Reforming the Regulation of Broker-Dealers and Investment Advisers, 65 BUS. LAW. 395, 401 (2010) (“Starting with Kansas in 1911, most states passed laws to protect investors from nefarious sales practices and other peculation in the offer and sale of securities.”). 44. See Benjamin P. Edwards, Disaggregated Classes, 9 VA. L. & BUS. REV. 305, 312 (2015); (“Kansas passed the first Blue Sky law in 1911. Other states soon joined and passed their own laws to protect their citizens from sellers of fraudulent securities.”); Thomas Lee Hazen, Crowdfunding or Fraudfunding? Social Networks and the Securities Laws—Why The Specially Tailored Exemption Must Be Conditioned on Meaningful Disclosure, 90 N.C. L. REV. 1735, 1761 n.159 (2012) (“In 1911, Kansas enacted the first state securities act and other states followed suit by enacting state securities laws that are commonly referred to as blue sky laws.”); Ruth O. Kuras, Harmonization of Securities Regulation Standards Between Canada and the United States, 81 U. DET. MERCY L. REV. 465, 466 (2004) (“The origin of modern securities regulation began in the state of Kansas in 1911 with the passage of the first state securities legislation. This Act was a prototype which other states soon followed.”). 45. See Amanda M. Rose, State Enforcement of National Policy: A Contextual Approach (with Evidence from the Securities Realm), 97 MINN. L. REV. 1343, 1376 (2013) (“[T]he New Deal Congress believed that state securities laws—known as ‘Blue Sky Laws’—had been ineffective in deterring abuses that contributed to the Stock Market Crash of 1929 and the ensuing Great Depression.”); Joel Seligman, The Changing Nature of Federal Regulation, 6 WASH. U. J.L. & POL’Y 205, 207 (2001) (“In the brutal glare that followed the 1929–1932 stock market crash, virtually all commentators and congressional witnesses on the subject agreed that the blue sky laws never really had a chance to succeed.”); Robert E. Wagner, Too Close for Comfort: The Problem with Stationary SEC Officers, 15 NEXUS: CHAP. J. L. & POL’Y 91, 93 (2009) (“Before the creation of the SEC, states had enacted so-called Blue Sky laws to control the sales of securities, beginning in 1911 with Kansas. Nonetheless, these laws came to be viewed as ineffective.”). 46. 15 U.S.C. §§ 77a–77aa (2012). 47. Id. §§ 78a–78pp. 48. See Stefan J. Padfield, Who Should Do the Math? Materiality Issues in Federal securities regulation is, at its heart, business investment regulation. To understand the significance of being subject to federal securities law, this Part contains a discussion of the breadth of the definition of a security, the registration requirements for securities, and the broad scope of the anti-fraud provisions within the Acts. This Part is designed to demonstrate how quickly and easily someone can become subject to and violate the federal securities laws. Even for attorneys, understanding these laws can be a challenge. Securities law is a leading source of malpractice claims against business lawyers.49 A. Definition of a Security The definition of a security is a key issue under any system of securities regulation because it determines the applicability and scope of that system. Under federal securities law, the term “security” is defined broadly and applies to a wide variety of investments.50 Disclosures that Require Investors to Calculate the Bottom Line, 34 PEPP. L. REV. 927, 931 (2007) (“The two main statutes making up federal securities law are the Securities Act of 1933 . . . and the Securities Exchange Act of 1934 . . . .”); Susanna Kim Ripken, Paternalism and Securities Regulation, 21 STAN. J.L. BUS. & FIN. 1, 2 n.1 (2015) (“The two main sources of federal securities laws are the Securities Act of 1933 . . . and the Securities Exchange Act of 1934 . . . .”); J. Parks Workman, The South Carolina Uniform Securities Act of 2005: A Balancing Act Under a New Blue Sky, 57 S.C. L. REV. 409, 411 (2006) (“The main sources of federal securities regulation are the Securities Act of 1933 . . . , which regulates the initial offering of securities, and the Securities Exchange Act of 1934 . . . , which regulates the trading of securities subsequent to their initial issue.”). 49. See WILLIAM A. KLEIN, J. MARK RAMSEYER & STEPHEN M. BAINBRIDGE, BUSINESS ASSOCIATIONS 396 (9th ed. 2015) (“[S]ecurities regulation issues reportedly are the single most common source of legal malpractice claims against business lawyers. Why? Put bluntly, because there are so many ways the lawyer can go awry.”); Wilburn Brewer, Jr., Expert Witness Testimony in Legal Malpractice Cases, 45 S.C. L. REV. 727, 754 (1994) (“To practice in the highly technical areas such as medical malpractice and securities regulation, practitioners must possess highly developed skills and knowledge.”); Lauren Schulz & Michael Hunter Schwartz, Lawyer, Know your Safety Net: A Malpractice Insurance Primer for New and Experienced Lawyers, J. KAN. B. ASS’N, March 2013, at 22 (“[A]reas of law that are high risk for malpractice claims include intellectual property, patent, and securities law.”). 50. See Reves v. Ernst & Young, 494 U.S. 56, 61 (1990) (“[Congress] enacted a definition of ‘security’ sufficiently broad to encompass virtually any instrument The term “security” is defined within the definition sections of both the Securities Act and the Exchange Act. Section 2(a)(1) of the Securities Act provides: The term “security” means any note, stock, treasury stock, security future, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit for a security, fractional undivided interest in oil, gas, or other mineral rights, any put, call, straddle, option, or privilege on any security, certificate of deposit, or group or index of securities (including any interest therein or based on the value thereof), or any put, call, straddle, option, or privilege entered into on a national securities exchange relating to foreign currency, or, in general, any interest or instrument commonly known as a “security”, or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing.51 Containing very similar language, Section 3(a)(10) of the Exchange Act provides: The term “security” means any note, stock, treasury stock, security future, bond, debenture, certificate of interest or participation in any profit-sharing agreement or in any oil, gas, or other mineral royalty or lease, any collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit for a security, any put, call, straddle, option, or privilege on any security, certificate of deposit, or group or index of securities (including any interest therein or based on the value thereof), or any put, call, straddle, option, or privilege entered into on a national securities exchange relating to foreign currency, or in general, any instrument commonly known as a “security”; or any certificate of interest or participation in, temporary or interim certificate for, receipt for, or warrant or right to subscribe to or purchase, any of the foregoing; but shall not include currency or any note, draft, bill of exchange, or banker’s acceptance which has a maturity at the time of issuance of not exceeding nine months, exclusive of days of that might be sold as an investment.”). 51. 15 U.S.C. § 77b(a)(1) (2012). grace, or any renewal thereof the maturity of which is likewise limited.52 Although the language of the two sections varies slightly, courts have regularly held that the definitions are equivalent.53 Any variation in language of the definitions is not significant in determining whether federal securities regulation applies to virtual space. The definitions of a security found within Section 2(a)(1) of the Securities Act and Section 3(a)(10) of the Exchange Act include some types of investments with narrow, well-settled definitions and some types of investments with broad, more flexible definitions.54 Terms such as note, bond, and stock found within the definitions of a security carried well-settled meanings when Congress promulgated the Securities Act and Exchange Act.55 Terms such as investment contract, transferrable share, and “in general any interest or instrument commonly known as a security” were included to be more descriptive and broad enough to catch a wide variety of investments within the scope of federal securities regulation.56 Although some of the other terms contained within the definitions of a “security” found in the Securities Act and Exchange Act may apply to securities existing entirely within virtual space, this Article focuses on the term “investment contract” within both 52. Id. § 78c(a)(10). 53. See SEC v. Edwards, 540 U.S. 389, 393 (2004) (noting that the Supreme Court of the United States has treated the “slightly different formulations” of the definition of a security found in Sections 2(a)(1) of the Securities Act and 3(a)(10) of the Exchange Act “as essentially identical in meaning”); Landreth Timber Co. v. Landreth, 471 U.S. 681, 686 n.1 (1985) (holding that definitions of a security found in Sections 2(a)(1) of the Securities Act and 3(a)(10) of the Exchange Act are “virtually identical and will be treated as such in [the Supreme Court’s] decisions dealing with the scope of the term”); MARC I. STEINBERG, SECURITIES REGULATION 26 (rev. 5th ed. 2009) (noting that courts have interpreted the definition of a security within Section 2(a)(1) of the Securities Act and Section 3(a)(10) of the Exchange Act “in an identical manner”). 54. See SEC v. C.M. Joiner Leasing Corp., 320 U.S. 344, 351 (1943) (discussing the definitions of a security found within Section 2(a)(1) of the Securities Act and Section 3(a)(10) of the Exchange Act). 55. See id. (“Some, such as notes, bonds, and stocks, are pretty much standardized and the name alone carries well settled meaning.”). 56. Id. virtual space, the proper place to begin is with the language of the phrase itself. The central word of this phrase is the term “context.” A basic definition of the term “context” is “the interrelated conditions in which something exists or occurs.”191 As a consequence, the “unless the context otherwise requires” language means that if the surrounding conditions of the thing that might be a security dictate that it not be covered by the federal securities law, then it should not be covered. The issue becomes whether securities existing entirely within virtual space exist in proper conditions to be considered securities. Based upon the intended scope of the federal securities law, various constitutional law principles, and the importance of allowing experimentation within virtual space, this Article argues that securities existing entirely in virtual space are not securities for purposes of federal securities law. A. The Intended Scope of Federal Securities Law Securities existing entirely within virtual space are outside the intended scope of federal securities regulation. Because the context language in the Securities Act and the Exchange Act provides insufficient guidance regarding its meaning, one should attempt to derive the intended coverage of that language by looking at the Acts themselves. Congress promulgated the Securities Act to regulate the primary markets for securities, with a focus on public offerings, registration requirements, exemptions of registration, and issues of fraud that might occur within those primary markets.192 Congress promulgated the Exchange Act to 191. Context, MERRIAM-WEBSTER, https://www.merriam-webster.com/dictionary /context (last visited Sept. 21, 2017) (on file with the Washington and Lee Law Review). 192. See Cory Alpert, Financial Services in the United States and United Kingdom, 5 B.Y.U. INT’L L. & MGMT. REV. 75, 76 (2008) (“The Securities Act regulates the primary market—direct sales from issuers—and requires issuers to register every offer or sale of a security in the United States, except for certain exempted transactions.”); Browning Jeffries, The Implications of Janus on Issuer Liability in Jurisdictions Rejecting Collective Scienter, 43 SETON HALL L. REV. 491, 498 (2013) (“[T]he Securities Act can be thought of as regulating the disclosures provided to investors in the initial distribution of securities—i.e., through the primary market . . . .”); Stephen Kim Park, Targeted Social Transparency as Global Corporate Strategy, 35 NW. J. INT’L L. & BUS. 87, 97 (2014) regulate the secondary markets for securities, with a focus on prevention of fraud within the secondary markets, periodic disclosure for public companies, shareholder voting, and various other issues.193 As previously discussed, these Acts have been found to be applicable to securities transactions involving cyberspace.194 But the Acts appear to be focused on securities transactions that have a substantial link to the real world. To put it a bit differently, when the Internet is used as a means of communication, i.e, similar to a telephone, television, or radio, the Acts apply. However, applying the Acts to securities solely within virtual space is beyond the regulatory scheme of federal securities law, which focuses on the regulation of investments in real world businesses. Even if the language and structure of the provisions of the Securities Act and Exchange Act do not provide clear guidance as to the intended scope of the Securities Act and Exchange Act, the legislative history of those Acts provides additional support that these bodies of law were not intended to cover securities existing entirely within virtual space. In attempting to determine the meaning of the “unless the context otherwise requires”195 language (“The Securities Act governs the disclosure requirements related to the issuance of securities in primary markets, primarily by requiring firms that wish to sell securities in the U.S. market to register with the SEC through the submission of a publicly available registration statement.”). 193. See Susan B. Heyman, Rethinking Regulation Fair Disclosure and Corporate Free Speech, 36 CARDOZO L. REV. 1099, 1111 (2015) (“The Exchange Act was enacted after the 1929 stock market crash to restore confidence in the nation’s securities market by governing securities transactions on secondary markets.”); Kristin Johnson, Steven A. Ramirez & Cary Martin Shelby, Diversifying to Mitigate Risk: Can Dodd–Frank Section 342 Help Stabilize the Financial Sector?, 73 WASH. & LEE L. REV. 1795, 1824 (2016) (“[T]he Exchange Act regulates the disclosure of information related to securities traded on the secondary markets. Broadly prohibiting fraud in connection with the sale of securities is . . . an integral component of this legislation.”); Tom C.W. Lin, A Behavioral Framework for Securities Risk, 34 SEATTLE U. L. REV. 325, 329 (2011) (“The Exchange Act . . . governs the subsequent trading of those securities in secondary markets. Like the Securities Act, the Exchange Act attempts to ensure that investors in those secondary markets receive accurate and meaningful information about the offered securities and their issuing firms.”). 194. See supra Part IV (discussing the application of federal securities regulation to cyberspace). 195. 15 U.S.C. §§ 77b(a), 78c(a) (2012). found in the definition sections of the Securities Act and Exchange Act, one should attempt to understand the intent of Congress when it promulgated these bodies of law. The Securities Act and Exchange Act were passed in the shadow of the stock market crash of 1929 and during the ensuing Great Depression, which suggests that the drafters of these Acts were concerned about real world securities markets, rather than what might be going on within any sort of fantasy play.196 The drafters of the Exchange Act explicitly included the “Necessity for Regulation” in Section 2 of the Act.197 Section 2, in part, provides: [T]ransactions in securities as commonly conducted upon securities exchanges and over-the-counter markets are effected with a national public interest which makes it necessary to provide for regulation and control of such transactions and of practices and matters related thereto, including transactions by officers, directors, and principal security holders, to require appropriate reports, to remove impediments to and perfect the mechanisms of a national market system for securities and a national system for the clearance and settlement of securities transactions and the safeguarding of securities and funds related thereto, and to impose requirements necessary to make such regulation and control reasonably complete and effective, in order to protect interstate commerce, the national credit, the Federal taxing power, to protect and make more effective the 196. See Shlomit Azgad-Tromer, Corporations and the 99%: Team Production Revisited, 21 FORDHAM J. CORP. & FIN. L. 163, 203 (2016) (“The federal securities laws enacted in the 1930s were a response to the 1929 stock market crash and the Great Depression.”); Eric C. Chaffee, Standing Under Section 10(b) and Rule 10b-5: The Continued Validity of the Forced Seller Exception to the Purchaser-Seller Requirement, 11 U. PA. J. BUS. L. 843, 851 (2009) (“Federal securities regulation began in the United States when Congress passed the Securities Act of 1933 . . . and Securities Exchange Act of 1934 . . . . Congress enacted these statutes in response to the stock market crash of 1929 and the Great Depression.”); Jill Gross, The Historical Basis of Securities Arbitration as an Investor Protection Mechanism, 2016 J. DISP. RESOL. 171, 180 (“After the stock market crash of 1929 led to the Great Depression, a concerned Congress enacted the federal securities laws to restore investor confidence in and facilitate the healthy functioning of capital markets.”). 197. 15 U.S.C. § 78b (2012). national banking system and Federal Reserve System, and to insure the maintenance of fair and honest markets . . . .198 The drafters of Section 2 also noted that that Congress was especially concerned by: National emergencies, which produce widespread unemployment and the dislocation of trade, transportation, and industry, and which burden interstate commerce and adversely affect the general welfare, are precipitated, intensified, and prolonged by manipulation and sudden and unreasonable fluctuations of security prices and by excessive speculation on such exchanges and markets, and to meet such emergencies the Federal Government is put to such great expense as to burden the national credit.199 As evidenced by Section 2, Congress was interested in preventing another stock market crash similar to the stock market crash that occurred in 1929, when it enacted the Exchange Act.200 In short, Congress wanted to protect the securities markets that impact the national economy.201 While a similar provision does not exist within the Securities Act of 1933, one can extrapolate that Congress was similarly motivated in promulgating that Act. In addition, Supreme Court precedent, at least implicitly, supports that securities existing entirely within virtual space reside in a context separate and apart from the intended context of federal securities law. As the Supreme Court held in SEC v. Capital Gains Research Bureau, Inc.,202 the “fundamental purpose” underlying both the Securities Act and the Exchange Act is to “substitute a philosophy of full disclosure for the philosophy of caveat emptor and thus to achieve a high standard of business ethics in the securities industry.”203 The focus of this often-quoted language is on “business,” rather than fantasy play within virtual space. Based upon the regulatory scheme of the Securities Act and Exchange Act, the provisions within those bodies of law, the 198. Id. 199. Id. 200. See supra notes 197–199 and accompanying text (stating the rationale provided by Congress in Section 2 of the Exchange Act). 201. Id. 202. 375 U.S. 180 (1963). 203. Id. at 186. historical context in which those Acts were promulgated, and the intent of Congress in promulgating the federal securities law, it is difficult to believe that Congress had any intention to extend federal securities regulation into the fantasy play of virtual space. Although the Securities Act and Exchange Act extend broadly, especially based on the expansive definition of an “investment contract,” extending their reach to cover the fantasy play within virtual space is not appropriate.204 Although some legal relief obviously should be granted if real world money or other real world value is stolen in these virtual securities transactions, federal securities law is not the correct body of law to employ when securities existing entirely in virtual space are involved. B. Constitutional Law and the Limits of Federal Securities Regulation As the previous subpart demonstrates, a divide exists between the contexts of the real-world business transactions that the Securities Act and Exchange Act were intended to regulate and the fantasy play in securities found within virtual space. Even though securities existing entirely within virtual space may meet the test for an investment contract under the definition of a security, the virtual context makes the existence of a security for purposes of the Securities Act and Exchange Act a much closer call.205 In addition to the intended scope of federal securities law, constitutional law also requires that securities existing entirely within virtual space should not be covered by federal securities law because of federalism, rule of lenity, and separation of powers concerns. The United States Constitution created a limited federal government.206 The Tenth Amendment makes clear that “[t]he 204. See supra notes 45–52 and accompanying text (discussing the broad definition of a security under the Securities Act and the Exchange Act). 205. See supra Part IV.D (discussing the reasons why securities in virtual space may satisfy the definition of an investment contract under the Securities Act and the Exchange Act). 206. See Kevin M. Clermont, The Repressible Myth of Shady Grove, 86 NOTRE DAME L. REV. 987, 995–96 (2011) powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people.”207 Congress clearly has the power to regulate the vast majority of virtual space because the Constitution affords Congress the power to regulate interstate commerce,208 and the Internet is a channel and instrumentality of interstate commerce.209 However, when doubt exists as to whether Congress has exercised its power, the executive branch should err in enforcing the law and the judicial branch should err in interpreting the law in ways that reserve regulatory power to the states. Because substantial reasons exist to question whether securities existing entirely in virtual space are covered by federal securities law, the definition of a security under the Securities Act and the Exchange Act should be interpreted to exclude these securities from coverage to preserve power to the states as guaranteed by the Constitution and the Tenth Amendment. Other Congress can use only reasonable means to effectuate its granted powers, and cannot unreasonably affect those primary decisions concerning human conduct that the Constitution did not subject to federal legislation and so reserved to the states. It is implicit in the very structure of the Constitution establishing a limited federal government. Christo Lassiter, The New Race Cases and the Politics of Public Policy, 12 J.L. & POL. 411, 445 (1996) (“The drafters framed a constitution which positioned a limited federal government to address . . . public problems of a new republic, and, being fearful of tyranny, they restrained the federal government from doing more.”). 208. See id. art. I, § 8, cl. 3 (granting Congress the power “[t]o regulate Commerce with foreign Nations, and among the several States, and with the Indian Tribes”). 209. See Michele Martinez Campbell, The Kids Are Online: The Internet, the Commerce Clause, and the Amended Federal Kidnapping Act, 14 U. PA. J. CONST. L. 215, 243 (2011) (“There can be no dispute that the Internet is a facility or instrumentality of interstate commerce as that term is used in the Court’s modern Commerce Clause jurisprudence.”); Lauren Eisenberg et al., Computer Crimes, 50 AM. CRIM. L. REV. 681, 793 (2013) (“As the Internet is both a channel and instrumentality of interstate commerce, it falls under the Commerce Clause’s broad power.”); Peter J. Karol, The Constitutional Limitation on Trademark Propertization, 17 U. PA. J. CONST. L. 1065, 1076 (2015) (“Congress can regulate the channels of interstate commerce, such as the nation’s highways, waterways, airways, and Internet.”). provisions of the federal law may cover these securities. For example, in the absence of the application of the federal securities law to virtual securities, the federal wire fraud statute may apply to fraudulent behavior relating to securities existing entirely in virtual space.210 But, expanding the federal securities law beyond its intended metes and bounds to cover securities in virtual space is not appropriate. In addition, expanding the scope of federal securities law when questions exist as to whether it was intended to apply to securities existing entirely within virtual space is especially inappropriate because violations of this law can be prosecuted criminally,211 and as a result, the rule of lenity should be applied.212 The rule of lenity provides that in interpreting an ambiguous criminal statute, the court should construe any ambiguity in favor of the defendant.213 210. See 18 U.S.C. § 1343 (2012) Whoever, having devised or intending to devise any scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises, transmits or causes to be transmitted by means of wire, radio, or television communication in interstate or foreign commerce, any writings, signs, signals, pictures, or sounds for the purpose of executing such scheme or artifice, shall be fined . . . or imprisoned not more than 20 years, or both. 211. See 15 U.S.C. § 77x (providing criminal penalties for violating the Securities Act); id. § 78ff (providing criminal penalties for violating the provisions of the Exchange Act). 212. See Patricia J. Falk, A Curious Omission from Ohio’s Rape Statute: Sexual Assault When the Victim Consents to Medical or Dental Drugging, 82 U. CIN. L. REV. 1123, 1137 (2014) (“The rule of lenity provides that if a criminal statute is ambiguous, then that ambiguity must be resolved on the side of the criminal defendant.”); Elliot Greenfield, A Lenity Exception to Chevron Deference, 58 BAYLOR L. REV. 1, 10 (2006) (“The rule of lenity complements the vagueness doctrine by providing that when a criminal statute is ambiguous, rather than vague, courts should resolve the ambiguity in the favor of the narrower scope of criminal liability.”); Benjamin B. Nelson, Regulation or Prohibition? The Troubled Legal Status of Internet Gambling Casinos in the United States in the Wake of the Unlawful Internet Gambling Enforcement Act of 2006, 9 TEX. REV. ENT. & SPORTS L. 39, 47 (2007) (“The ‘rule of lenity’ complements the vagueness doctrine by providing that when a criminal statute is ambiguous, courts should resolve the ambiguity in favor of the narrower scope of criminal liability.”). 213. See Patricia L. Bellia, A Code-Based Approach to Unauthorized Access Under the Computer Fraud and Abuse Act, 84 GEO. WASH. L. REV. 1442, 1472 (2016) (“[T]he rule of lenity instructs a court facing an ambiguous statute to choose the construction that favors the defendant.”); Phillip M. Spector, The The history of the rule of lenity extends back to English common law, as a means of preserving the rights of criminal defendants.214 The rule of lenity also has roots in the United States Constitution within the Due Process Clause, which requires that individuals have clear notice of the criminal offenses of which they might be prosecuted.215 Because uncertainty exists as to whether securities existing entirely within virtual space are covered by federal securities law, the rule of lenity dictates that coverage not be extended to these securities. When the Internet is being used strictly as a tool for communication, similar to a telephone or radio, the drafters of the federal securities law intended that body of law to apply. When Sentencing Rule of Lenity, 33 U. TOL. L. REV. 511, 511–12 (2002) The rule of lenity counsels that criminal laws should be narrowly interpreted in favor of criminal defendants. Identified as one of the oldest and most ‘venerable’ canons of statutory interpretation, the rule of lenity is employed by federal courts reluctant to participate in the expansion of an already overzealous federal criminal regime. Glen Staszewski, Constitutional Dialogue in a Republic of Statutes, 2010 MICH. ST. L. REV. 837, 857 (“The rule of lenity provides that ambiguous criminal statutes should be interpreted narrowly in favor of the accused based on constitutional principles of fair notice and a desire to limit the scope of discretionary authority that is delegated to prosecutors and judges.”). 214. See Amy Coney Barrett, Substantive Canons and Faithful Agency, 90 B.U. L. REV. 109, 128–29 (2010) (“The maxim that penal statutes should be narrowly construed is one of the oldest canons of interpretation . . . . Schooled in the English tradition, American judges applied the principle of lenity from the start.”); Patricia J. Chapman, Has the Chevron Doctrine Run Out of Gas? Senza Ripieni Use of Chevron Deference or the Rule of Lenity, 19 MISS. C. L. REV. 115, 141 (1998) (“[T]he rule of lenity developed in the seventeenth and eighteenth centuries as the result of severe English Parliament legislative mandates . . . .”); Zachary Price, The Rule of Lenity as a Rule of Structure, 72 FORDHAM L. REV. 885, 897 (2004) (“The rule of lenity has its oldest origins in the efforts of common law courts in the seventeenth and eighteenth centuries to limit the brutality of English criminal law.”). 215. See William Eskridge, Public Values in Statutory Interpretation, 137 U. PA. L. REV. 1007, 1029 (1989) (“The rule of lenity rests upon the due process value that government should not punish people who have no reasonable notice that their activities are criminally culpable . . . .”); Cass R. Sunstein, Nondelegation Canons, 67 U. CHI. L. REV. 315, 332 (2000) (“The rule of lenity is inspired by the due process constraint on conviction pursuant to open-ended or vague statutes.”); Anne R. Traum, Constitutionalizing Immigration Law on Its Own Path, 33 CARDOZO L. REV. 491, 525 (2011) (“The rule of lenity sounds in a due process-based concern about clear notice about the scope of a criminal statute.”). virtual spaces are created, however, that is a different context than the drafters of the federal securities law intended.216 Extending the application of federal securities law to that context creates both rule of lenity and due process concerns, and as a result, such extension is not permissible. Extending the application of federal securities law to securities existing entirely within virtual space also creates separation of powers concerns. Under the United States Constitution, the legislative branch enacts the law;217 the executive branch enforces the law;218 and the judicial branch interprets the law.219 Although the creation of the administrative state has created some blurring among these branches and their respective functions, this separation of power remains the law of the United States.220 Historically, the Supreme Court of the United States has shown some willingness to encroach upon the role of the legislature in regard to securities regulation, as evidenced most prominently by the creation of an implied private right of action under Section 10(b) and Rule 10b-5, when Congress did not provide for the existence of such a right.221 The current Supreme Court, 216. See Part V.A (discussing the intended scope of the federal securities law). 217. See U.S. CONST. art. I (defining the scope of the legislative branch of the United States federal government). 218. See id. art. II (defining the scope of the executive branch of the United States federal government). 219. See id. art. III (defining the scope of the judicial branch of the United States federal government). 220. See Jessica Bulman-Pozen, From Sovereignty and Process to Administration and Politics: The Afterlife of American Federalism, 123 YALE L.J. 1920, 1938 (2014) (“The rise of the administrative state has long fueled concerns about the aggrandizement of executive power and the attendant demise of the separation of powers and checks and balances within the federal government.”); John C. Roberts, The Struggle Over Executive Appointments, 2014 UTAH L. REV. 725, 751 (“[The Supreme Court] has approved the transfer to executive offices and independent agencies of the power to create binding legislative rules and to adjudicate cases involving private parties. Without this modification of the traditional three branch governmental structure, the administrative state as we know it would be impossible.”); Ilan Wurman, Constitutional Administration, 69 STAN. L. REV. 359, 377 (2017) (“[T]he administrative state exercises a combination of all three powers of government—legislative, executive, and . . . judicial.”). 221. See Eric C. Chaffee, An Oak Is an Oak Is an Oak Is an Oak: The Disappointing Entrenchment in Halliburton Co. v. Erica P. John Fund of the Implied Private Right of Action Under Section 10(b) and Rule 10b-5, 9 N.Y.U. J. i.e., the Roberts Court, however, has been conservative in interpreting the scope of the federal securities law. The Roberts Court has been unwilling either to expand or contract the scope of federal securities law beyond the metes and bounds established by Congress and the Court’s previous case law.222 Because substantial reason exists to doubt that Congress intended the federal securities law to apply to securities in virtual worlds and the virtual elements of augmented reality games, courts should respect the separation of powers established by the United States Constitution and leave that issue to Congress, rather than extending federal securities regulation into a context that it was not intended to cover. Interpreting the term “security” in the Securities Act and Exchange Act to cover securities existing entirely within virtual space will create an unauthorized expansion of federal law, which is not appropriate. C. Avoiding the Hindering of Creativity The intended scope of federal securities regulation and various constitutional law principles suggest that securities existing entirely within virtual space should be excluded from the definition of a security for purposes of application of federal securities law. However, other policy reasons exist for reaching the L. & LIBERTY 92, 94 (2015) (“[T]he continued existence and modification of the implied private right of action under section 10(b) and Rule 10b-5 is an affront to Article I, section 7 of the Constitution, which gives Congress the power to pass laws, not courts.”); Michael J. Kaufman, Mending the Weathered Jurisdictional Fences in the Supreme Court’s Securities Fraud Decisions, 49 SMU L. REV. 159, 221 (1996) (“Viewed as a whole, the Supreme Court’s securities fraud cases actually have flaunted the will of Congress. The Court initially permitted an expansion of its jurisdiction to entertain judicially-created private remedies where Congress had refused to do so.”). 222. See generally Eric C. Chaffee, The Supreme Court as Museum Curator: Securities Regulation and the Roberts Court, 67 CASE W. RES. L. REV. 847 (2017) (analogizing the Roberts Court to a museum curator in the area of federal securities regulation because of the Court’s unwillingness to expand or contract the scope of federal securities law beyond the scope of existing legislation and Supreme Court precedent). See A.C. Pritchard, Securities Law in the Roberts Court: Agenda or Indifference?, 37 J. CORP. L. 105, 107 (2011) (“The majority of the decisions of Roberts Court [relating to securities regulation] . . . if anything show a bias toward the status quo.”). same conclusion. These reasons are all rooted in the notion that subjecting these securities to federal securities regulation will hinder creativity in various unpalatable ways, such as by impeding the growth and evolution of virtual space, preventing regulatory experimentation, and interfering with the positive aspects of play. Subjecting virtual space to federal securities regulation will prevent the growth and evolution of these environments. One of the most exciting things about video games, virtual worlds, virtual reality, and augmented reality is that they allow software developers the opportunity to reimagine existence and allow users to explore new domains and engage in new social interactions. 223 Subjecting these media to federal securities law means that these environments become constrained by a complex and at times onerous body of regulation.224 Of course, one option for preventing this is severing the connection between virtual space and real world money. However, this solution limits creativity and the 223. See Miriam A. Cherry, The Global Dimensions of Virtual Work, 54 ST. LOUIS U. L.J. 471, 487 (2010) (“[O]ne of the most exciting elements of virtual worlds is the new technology allowing people to interact with each other even when separated by great distance. Expertise will no longer be bounded by geographical constraints, which will encourage cross-border collaborations and engagements to flourish.”); Albert C. Lin, Virtual Consumption: A Second Life for Earth?, 2008 BYU L. REV. 47, 111 (“[V]irtual worlds offer far more excitement, with increasingly powerful graphic capabilities, than the video games of yesteryear.”); Ryan Vacca, Viewing Virtual Property Ownership Through the Lens of Innovation, 76 TENN. L. REV. 33, 64 (2008) (“Considering the relatively new and exciting development of virtual worlds that is upon us, the creative developments occurring each day within the worlds, and the new sources of entertainment and cultural growth available from them, we should seize the opportunity to maximize this creativity and innovation.”). 224. See Donald C. Langevoort, United States Securities Regulation and Global Competition, 3 VA. L. & BUS. REV. 191, 192 (2008) (“Various well-publicized, bipartisan blue-ribbon committee reports have criticized U.S. securities regulation for being unduly cumbersome, and, in part, blamed overregulation for a loss of competitiveness in the global capital marketplace.”); Pritchard, supra note 217, at 106 (“To outsiders, securities law is not all that interesting. The body of the law consists of an interconnecting web of statutes and regulations that fit together in ways that are decidedly counter-intuitive. Securities law rivals tax law in its reputation for complexity and dreariness.”); Anne Tucker, Flawed Assumptions: A Corporate Law Analysis of Free Speech and Corporate Personhood in Citizens United, 61 CASE W. RES. L. REV. 497, 544 (2010) (“Securities regulations can be onerous, requiring registration before a corporation can take a certain action, such as offering for sale a new class or series of securities (stock) in the company.”). potential evolution of virtual space in ways that may be interesting and in some instances socially beneficial. Applying federal securities law to virtual space prevents regulatory experimentation. A number of commentators have noted the benefits of regulatory experimentation and diversity in regard to securities regulation.225 The problem is that patchwork regulation does not work in regard to regulating markets as evidenced by the failure of state securities law to prevent the stock market crash of 1929 prior to the enactment of a system of federal securities regulation.226 The patchwork of state blue sky laws needed to be replaced by a system of federal securities regulation to restore investor confidence and create strong and relatively stable securities markets.227 Securities markets are now becoming 225. See Stephen J. Choi & Andrew T. Guzman, Portable Reciprocity: Rethinking the International Reach of Securities Regulation, 71 S. CAL. L. REV. 903, 950 (1998) (“[R]egulatory competition among countries will benefit investors and capital markets.”); Kelli A. Alces, Legal Diversification, 113 COLUM. L. REV. 1977, 2010 (2013) (“[A]n investor can diversify among different kinds of securities by considering the important legal protections each kind of security offers and showing how those legal features can be profitable in different circumstances.”); Roberta Romano, Empowering Investors: A Market Approach to Securities Regulation, 107 YALE L.J. 2359, 2361 (1998) (“This Article contends that the current legislative approach to securities regulation is mistaken and that preemption is not the solution to frivolous lawsuits. It advocates instead a market-oriented approach of competitive federalism that would expand, not reduce, the role of the states in securities regulation.”). 226. See THOMAS LEE HAZEN, THE LAW OF SECURITIES REGULATION 18 (6th ed. 2009) (“Following the enactment of the early state securities laws, federal legislation was successfully resisted for a while. However, the stock market crash of 1929 is properly described as the straw that broke the camel’s back. The era that followed ushered in federal securities regulation.”); Christine Lazaro & Benjamin P. Edwards, The Fragmented Regulation of Investment Advice: A Call for Harmonization, 4 MICH. BUS. & ENTREPRENEURIAL L. Rev. 47, 52–53 (2014) (“Securities regulation within the United States began at the state level. State laws creating liability for securities fraud, known as blue sky laws, first appeared in the 1910s . . . . Even though most states soon passed their own blue sky laws, state-by-state regulation proved ineffective.”); Rose, supra note 40, at 1376 (“[T]he New Deal Congress believed that state securities laws—known as “Blue Sky Laws”—had been ineffective in deterring abuses that contributed to the Stock Market Crash of 1929 and the ensuing Great Depression.”). 227. See Robert G. DeLaMater, Recent Trends in SEC Regulation of Foreign Issuers: How the U.S. Regulatory Regime Is Affecting the United States’ Historic Position as the World’s Principal Capital Market, 39 CORNELL INT’L L.J. 109, 109 (2006) (“Since World War II, the United States has been the world’s principal capital market. This market has been uniquely broad and deep, with substantial global,228 and as a result, more harmonization and centralization is needed to limit future economic crises.229 Moreover, the SEC’s Office of International Affairs’ International Technical Assistance Program has been very good at exporting the United States’ theories of securities market regulation abroad.230 In recent years, the Program has provided training to approximately two-thousand regulators in more than one hundred countries.231 All of this means that experimentation and diversity relating to securities regulation is likely to become less and less common. retail participation by individual investors and small institutions, plentiful capital for equity financing and a willingness to hold long-term debt securities . . . .”); C. Nicholas Revelos, Transnational Securities Regulation: Can U.S. Investors Have Their Cake and Eat It Too?, 3 J. INT’L L. & PRAC. 87, 87 (1994) (“For many years, the U.S. securities markets were essentially the only game in the world.”). 228. See MARC I. STEINBERG, FRANKLIN A. GEVURTZ & ERIC C. CHAFFEE, GLOBAL ISSUES IN SECURITIES LAW, at iii (2013) (“Turn on the CNBC or Bloomberg cable channels during the middle of the night in the United States and one quickly realizes that securities markets are global and that what goes on in European or Asian markets spills over into the United States.”); Edward F. Greene, Beyond Borders: Time to Tear Down the Barriers to Global Investing, 48 HARV. INT’L L.J. 85, 85 (2007) (“There can be no argument that the securities markets are now global . . . .”); Michael D. Guttentag, An Argument for Imposing Disclosure Requirements on Public Companies, 32 FLA. ST. U. L. REV. 123, 128 (2004) (“Securities markets are increasingly global.”). 229. Elsewhere, I have written extensively on the benefits of harmonization and centralization of international securities law. See generally Chaffee, supra note 37; Chaffee, supra note 8; Eric C. Chaffee, Finishing the Race to the Bottom: An Argument for Harmonization and Centralization of International Securities Law, 40 SETON HALL L. REV. 1581 (2010); Eric C. Chaffee, The Internationalization of Securities Regulation: The United States Government’s Role in Regulating the Global Capital Markets, 5 J. BUS. & TECH. L. 187 (2010); Eric C. Chaffee, A Moment of Opportunity: Reimagining International Securities Regulation in the Shadow of Financial Crisis, 15 NEXUS 29 (2010); Eric C. Chaffee, A Panoramic View of the Financial Crisis that Began in 2008: The Need for Domestic and International Regulatory Reform, 35 U. DAYTON L. REV. 1 (2009). 230. See Securities and Exchange Commission’s International Technical Assistance Program, U.S. SEC. & EXCHANGE COMMISSION, http://www.sec.gov/ about/offices/oia/oia_emergtech.shtml (last updated Apr. 8, 2014) (last visited Sept. 21, 2017) (“Utilizing a faculty of senior SEC and industry officials, and seasoned practitioners, the technical assistance program provides training to nearly 2000 regulatory and law enforcement officials from over 100 countries.”) (on file with the Washington and Lee Law Review). 231. See id. (providing an overview of the SEC’s Office of International Affairs’ International Technical Assistance Program). Virtual space offers an opportunity for regulatory experimentation by the states and by the software developers, platform owners, and users of these realms. The negative consequences of a securities market crash in a virtual space presents none of the risks of a securities market crash in the real world.232 Useful data can be collected in video games, virtual worlds, virtual reality, and augmented reality, and it can help improve the understanding of how securities markets and regulation function and fail to function in the real world. Of course, all of this assumes that the entire body of federal securities regulation is not imposed upon all aspects of virtual space that touch the United States. Such an approach is not desirable and would be a genuine shame because of the potential lost opportunities for experimentation and data collection. Finally, applying federal securities law to securities existing entirely within virtual space would also impede the positive aspects of play. Play has numerous psychological benefits.233 Unnecessarily saddling virtual space with securities law—a difficult and at times overwhelming body of regulation—would create a harmful restriction on certain types of play. This is especially true because Congress never intended federal securities regulation to apply to this context, and various constitutional doctrines prohibit extending federal securities regulation into these virtual realms. 232. See Arthur Acevedo, How Sarbanes-Oxley Should Be Used to Expose the Secrets of Discretion, Judgment, and Materiality of the Auditor’s Report, 4 DEPAUL BUS. & COM. L.J. 1, 6 (2005) (“Although the reasons for the 2001–2002 financial crisis differ from those that caused the 1929 stock market crash, the economic and social consequences are similar—namely, unemployment, lost fortunes, mistrust, and lack of investor confidence.”); Tracey M. Roberts, Brackets: A Historical Perspective, 108 NW. U. L. REV. 925, 934 (2014) (“The 1929 stock market crash heralded the onset of the Great Depression; bank failures, price deflation, unemployment, foreclosures, and a 50% drop in industrial output reduced tax revenues significantly.”). 233. See Isabela Granic, Adam Lobel & Rutger C.M.E. Engels, The Benefits of Playing Video Games, 69 AM. PSYCHOLOGIST 66, 76 (2014) (“After pulling together the research findings on the benefits of video games, we have become particularly inspired by the potential that these games hold for interventions that promote well-being, including the prevention and treatment of mental health problems in youth.”). VI. The Arguments for Applying Federal Securities Regulation to Securities Existing Entirely in Virtual Space A strong case exists for determining that securities existing in virtual space should not be subject to federal securities law because their “context . . . requires”234 that they be excluded from the definition of a security. Still, a number of persuasive, but not prevailing, counterarguments exist for applying federal securities law. These counterarguments include that application of federal securities law is necessary for investor protection, is required to prevent an unworkable patchwork of state regulation, and is needed to ensure that these rapidly developing and evolving virtual environments are properly regulated. Although some of these counterarguments are valid, the case against applying federal securities law is stronger. A. Virtual Investor Protection In regard to the application of federal securities regulation to virtual space, although Congress’s primary reason for enacting the Securities Act and Exchange Act was to protect the securities markets, protecting investors was an important goal as well.235 The system of federal securities regulation in the United States is well-developed and provides a high level of investor protection. 236 234. 15 U.S.C. §§ 77b(a), 78c(a) (2012). 235. See Lawrence A. Cunningham, The SEC’s Global Accounting Vision: A Realistic Appraisal of a Quixotic Quest, 87 N.C. L. REV. 1, 43 (2008) (“In the United States, investor protection is among the principal purposes of securities regulation . . . .”); Susanna Kim Ripken, The Dangers and Drawbacks of the Disclosure Antidote: Toward a More Substantive Approach to Securities Regulation, 58 BAYLOR L. REV. 139, 204 (2006) (“One of the fundamental purposes of securities regulation is to promote investor confidence and provide investor protection.”); Nitzan Shilon, CEO Stock Ownership Policies—Rhetoric and Reality, 90 IND. L.J. 353, 400 (2015) (“Protecting investors by providing them with critical information about their investments is the basic purpose behind securities regulation.”). 236. See Eric C. Chaffee, The Role of the Foreign Corrupt Practices Act and Other Transnational Anti-Corruption Laws in Preventing or Lessening Future Financial Crises, 73 OHIO ST. L.J. 1283, 1314 (2012) (“Congress . . . enact[ed] a robust and comprehensive system of securities regulation with the passage of the Securities Act of 1933 and the Securities Exchange Act of 1934 to restore If this body was extended into virtual space, investors within these environments would receive the benefits of this system of regulation. Although extending the reach of federal securities regulation to virtual space might be tempting, it would not be the right choice. The intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity and regulatory experimentation provide reasons why a court should determine that the “context . . . requires” that federal securities regulation not apply.237 Securities regulation is not supposed to be all things to all people. As cases such as Santa Fe Industries, Inc. v. Green238 evidence, the Supreme Court has held that federal securities regulation should not be co-opted for uses that it was not intended.239 In that case, the Court refused to use the private right of action under Section 10(b) and Rule 10b-5 to remedy an allegedly abusive short-form merger that did not involve a misrepresentation or manipulation because the matter should have been addressed using state corporate law.240 Though it might be tempting for a court to apply the federal securities law to regulate securities existing entirely in virtual space, a court public confidence and remove the specter of fraud and corruption.”); Stephen Choi, Regulating Investors Not Issuers: A Market-Based Proposal, 88 CAL. L. REV. 279, 280 (2000) (“The present securities regulatory regime in the United States focuses on the protection of investors. Investor protection, in turn, leads to a robust capital market.”); Ciara Torres-Spelliscy, Kathy Fogel & Rwan El-Khatib, Running the D.C. Circuit Gauntlet on Cost-Benefit Analysis after Citizens United: Empirical Evidence from Sarbanes-Oxley and the JOBS Act, 9 DUKE J. CONST. L. & PUB. POL’Y 135, 138 (2014) (reporting that some commentators argue “timely, robust disclosures and other securities regulations are precisely the reason that the American securities markets are the market of choice for investors around the world”). 237. See supra Part V (providing arguments for not applying federal securities regulation to securities existing entirely within virtual space). 430 U.S. 462 (1977). 239. See id. at 477 (refusing to recognize a private right of action under Section 10(b) and Rule 10b-5 when such an action is “unnecessary to ensure the fulfilment of Congress’ purposes in adopting the [Exchange] Act” (internal quotations omitted)). 240. See id. (holding that plaintiffs could not proceed with a private right of action under Section 10(b) and Rule 10b-5 in the absence of a misrepresentation, in part because “[t]he result would be to bring within the Rule a wide variety of corporate conduct traditionally left to state regulation”). should not reach that holding because of separation of powers concerns.241 If the determination is to be made that federal securities regulation applies to these securities, that decision should be left to Congress because it is the body with the power to create law and because Congress could regulate virtual space in most instances under the Interstate Commerce Clause.242 Even though Congress has the power to regulate most, if not all, virtual space, it should not promulgate such regulation because, as discussed above, applying federal securities law to securities existing entirely within virtual space would hinder creativity by impeding the growth and evolution of such space—by preventing regulatory experimentation and by interfering with the positive aspects of play.243 In short, investor protection is not a persuasive enough reason to apply federal securities regulation to virtual space because it is not appropriate, and beyond that, it is not necessary. The regulation of these virtual realms should be left to other provisions of federal law, state law, and self-regulation. 241. See Christopher T. Cline, Perspectives of a Non-Party to the International Criminal Court Treaty, 17 TRANSNAT’L L. & CONTEMP. PROBS. 107, 110 (2008) (“[T]he U.S. system of government is founded on the principle of checks and balances, with each branch of government—legislative, executive, judicial— fulfilling a role. Congress passes the laws, the executive enforces the laws, and the courts interpret the laws.”); Jesse W. Markham, Jr., The Supreme Court’s New Implied Repeal Doctrine: Expanding Judicial Power to Rewrite Legislation Under the Ballooning Conception of “Plain Repugnancy”, 45 GONZ. L. REV. 437, 466 (2010) (“Even where a court concludes that a statute is simply a bad idea or that it works poorly in practice, the judicial role is limited and does not include remedying even the most ill-considered legislation by repealing it or rewriting it to conform to the court’s better judgment.”); Lance McMillan, The Proper Role of Courts: The Mistakes of Leegin, 2008 WIS. L. REV. 405, 459 (“By design, the legislative and judicial functions are separated along distinct lines in the Constitution. Congress passes laws; the federal courts interpret them.”). 242. See U.S. CONST. art. I, § 8, cl. 3 (granting Congress the power “to regulate Commerce with foreign Nations, and among the several States, and with the Indian Tribes”); see also supra note 204 and accompanying text (discussing that the Internet is both a channel and an instrumentality of interstate commerce). 243. See supra Part V.C (arguing that federal securities regulation should not apply to securities existing entirely within virtual space because it would hinder creativity by impeding the growth and evolution of virtual space, preventing regulatory experimentation, and interfering with the positive aspects of play). B. The Difficulties of Patchwork State Regulation One of the benefits of federalized securities law is that it creates a relatively consistent floor for regulation of securities across the United States.244 In the event that federal securities law is not applied to virtual space, a patchwork of regulation will be created because the regulation of these securities existing entirely within virtual space will fall largely to the states and to self-regulation by those owning and acting within these virtual environments. Of course, some federal provisions will still be available to punish bad behavior within virtual space, such as the wire fraud statute,245 but regulation is going to be far from uniform. This creates two concerns, market instability and hindering the development of virtual space. Both these concerns are valid but are outweighed by the detriments of applying federal securities law to these virtual realms. In regard to market instability, in the absence of a uniform system of securities regulation in virtual space, users may be unwilling to participate in these securities markets. As noted above, Congress enacted federal securities regulation in the United States to restore investor confidence in the wake of the Stock Market Crash of 1929 and the ensuing Great Depression after the failure of the patchwork of blue sky laws to provide an effective level of regulation.246 If market crashes and fraud become rampant within virtual environments, users may no longer be willing to 244. See Romano, supra note 220, at 2365 (“While the federal laws do not preempt all state regulation, states cannot lower the regulatory standards applicable to firms covered by the federal regime because its requirements are mandatory.” (footnotes omitted)). 245. See 18 U.S.C. § 1343 (2012) Whoever, having devised or intending to devise any scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises, transmits or causes to be transmitted by means of wire, radio, or television communication in interstate or foreign commerce, any writings, signs, signals, pictures, or sounds for the purpose of executing such scheme or artifice, shall be fined . . . or imprisoned not more than 20 years, or both. 246. See supra notes 37–43 and accompanying text (discussing the initial passage of blue sky laws in the United States and their subsequent inability to prevent the stock market crash of 1929). participate in virtual markets. The short answer is that this is not a problem. Real world national economies, real world businesses, and real world people depend on the existence of viable real world capital markets.247 The same is not true of virtual securities markets. Moreover, stock market crashes and fear of fraud within some virtual environments may not spill over into other virtual environments. In fact, how virtual markets interact among virtual realms would be an interesting question to answer. A second concern about creating a patchwork of regulation is that it may hinder the development of virtual space. If software developers are required to comply with a patchwork of regulation across the United States, these developers may never bring their creations to market, or they may eliminate the securities contained within them. Perhaps, this is not a bad thing because it could prevent users of virtual environments from having their money stolen from them. Still, the regulation of technology can often hinder the beneficial growth and evolution of that technology.248 Regardless, this does not justify applying federal securities regulation to virtual space. The virtual context requires that federal securities law not be applied because of the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity.249 Even if adhering to a patchwork of regulation will create compliance 247. See Bernard S. Black, The First International Merger Wave (and the Fifth and Last U.S. Wave), 54 U. MIAMI L. REV. 799, 810 (2000) (“Most of the U.S. population understands, more or less, the connection between the soaring stock market and overall prosperity . . . .”); James R. Doty, The Relevance, Role, and Reliability of Audits in the Global Economy, 90 TEX. L. REV. 1891, 1893 (2012) (“Many factors contribute to American prosperity, but a significant one is that our public securities markets provide a reliable funding mechanism for American and, increasingly, foreign businesses.”). 248. See J. Howard Beales, III & Timothy J. Muris, FTC Consumer Protection at 100: 1970s Redux or Protecting Markets to Protect Consumers?, 83 GEO. WASH. L. REV. 2157, 2223 (2015) (“Regulation based on speculative problems, however, is far more likely to chill useful innovations than it is to prevent real harms.”); Daniel F. Spulber & Christopher S. Yoo, Rethinking Broadband Internet Access, 22 HARV. J.L. & TECH. 1, 19–20 (2008) (“Blind application of a regulatory regime developed for a different technology and different market conditions can lead to regulation that lacks any theoretical justification and can impede technological innovation and consumer welfare.”). 249. See supra Part V (providing arguments for not applying federal securities regulation to securities existing entirely within virtual space). complexities and potentially hinder the development of virtual space, this does not justify the application of federal securities law. C. The Rapid Development and Evolution of Virtual Space One of the most exciting things about virtual space is that it is rapidly developing and rapidly evolving.250 One argument for the application of federal securities regulation to securities existing entirely within virtual space is that regulation is needed to ensure that a growing and expanding realm is subject to some cohesive system of law. This argument is flawed. Just because a body of law could be applied to a particular context does not mean that it should be applied to a particular context. As discussed in the previous Part, the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity all provide reason why a court should determine that the “context . . . requires” that federal securities regulation not apply.251 Because of the ubiquity and anonymity of the Internet and its relationship to virtual space, concerns definitely exist about how this space may develop. However, this does not mean that ill-suited bodies of law should be super-imposed upon it. In the event that this space evolves in ways that merit regulation under the federal securities law, Congress can make that decision then. As it stands, application of federal securities regulation is not warranted. 250. See Michael Cerrati, Video Game Music: Where It Came From, How It Is Being Used Today, and Where It Is Heading Tomorrow, 8 VAND. J. ENT. & TECH. L. 293, 394 (2006) (“The dynamic and constantly-evolving creativity contributing to the design and development of today’s games has helped establish the video game industry as a multi-billion dollar revenue force now attracting worldwide attention.”). 251. See supra Part V (providing arguments for not applying federal securities regulation to securities existing entirely within virtual space). VII. Conclusion Virtual space existing within video games, virtual worlds, virtual reality, and augmented reality has become a regular part of most peoples’ lives.252 As with any technology-related advancement, new legal issues have been created as to how to apply and adapt law to this virtual space. The question regarding the application of federal securities regulation to virtual space is an interesting one that has not received significant academic treatment.253 If securities existing entirely within virtual space are determined to be securities for purposes of federal securities law, software developers, platform owners, and users become subject to the registration requirements and anti-fraud provisions of that body of law, along with the rest of its provisions.254 Based upon a strict reading of the definition of a security found within the Securities Act and the Exchange Act, securities can exist entirely within virtual space because investment contracts, a type of security, can be created in such space.255 However, because the definition sections found in the Securities Act and Exchange Act both begin with the prefatory language, “unless the context otherwise requires,”256 one must consider whether these securities, in the context of virtual space, should be excluded from the application of federal securities law. Based upon the intended scope of federal securities regulation, various constitutional law principles, and concerns about hindering creativity and regulatory experimentation, the virtual context requires that securities existing entirely within virtual space be excluded from the 252. See supra Part II.A (providing a brief overview of virtual space in various media, including video games, virtual worlds, virtual reality, and augmented reality). 253. See supra note 13 and accompanying text (discussing that the scholarship relating to the application of federal securities regulation to virtual space is very limited). 254. See supra Part III (providing a brief overview of federal securities regulation, including the definition of a security, registration requirements, and anti-fraud provisions). 255. See supra Part IV.D (examining the application of federal securities regulation to securities existing entirely within virtual space). 256. 15 U.S.C. §§ 77b(a), 78c(a) (2012). application of federal securities law.257 Various concerns exist regarding excluding such securities from the application of federal securities law. These concerns include whether the application of federal securities regulation is necessary for investor protection, is required to prevent an unworkable patchwork of state regulation, and is needed to ensure that these rapidly developing and evolving virtual environments are properly regulated.258 Ultimately, the arguments for excluding such securities from the application of federal securities law outweigh the arguments for applying federal securities law. Virtual space is rapidly developing and evolving in exciting ways in a variety of media, including video games, virtual worlds, virtual reality, and augmented reality. As a result, a plethora of new issues have been created that need to be considered and addressed. In regard to securities regulation, considering these issues now, rather than when they arise later, is important. Software developers, platform owners, and users need to have their rights and obligations clarified to allow maximum freedom for working in virtual space. Such an approach will allow virtual space to develop in exciting and useful ways without being weighed down by systems of regulation, such as federal securities law, that should not and need not apply to such virtual environments. A. The Intended Scope of Federal Securities Law .......1435 B. Constitutional Law and the Limits of Federal Securities Regulation .................................1439 C. Avoiding the Hindering of Creativity......................1444 VI. The Arguments for Applying Federal Securities Regulation to Securities Existing Entirely in Virtual Space .................................................................1449 A. Virtual Investor Protection .....................................1449 B. A Patchwork of State Regulation ............................1452 C. The Rapid Development and Evolution of Virtual Space ........................................................................ 1454 1 . See Pokémon Go , POKÉMON CO., http://www.pokemon.com/us/pokemon- video-games/pokemon-go/ (last visited Sept . 21 , 2017 ) (providing an overview of Pokémon Go ) (on file with the Washington and Lee Law Review) . 26 . Cathode-Ray Tube Amusement Device , U.S. Patent No. 2 , 455 ,992 (filed Dec. 14 , 1948 ). 27 . See Christian Genetski & Christian Troncoso , Copyright Industry Industry , 38 COLUM. J.L. & ARTS 359 , 359 ( 2015 ) (“Although there is considerable mid-1970s as the point at which video games entered into the mainstream consciousness.”). 28 . See Andrew E. Jankowich , Property and Democracy in Virtual Worlds, 11 B.U. J. SCI. & TECH . L. 173 , 175 ( 2005 ) (“Through widespread public adoption of the Internet in the 1990s, the increasingly mainstream appeal of video games, Athletes Playing Video Games-The Next Prohibited “Other Activity?”, 15 VILL. SPORTS & ENT. L .J. 65 , 79 ( 2008 ) (“Additional technological advancements in the 1990s ushered in the modern age of video games . ”) . 29 . See Christopher J. Cifrino , Virtual Property, Virtual Rights: Why Virtual Worlds , 55 B.C. L. REV . 235 , 240 ( 2014 ) (“Virtual worlds have exploded in World, 112 W. VA . L. REV. 53 , 57 ( 2009 ) (“Despite this rapid evolution, virtual Worlds , J. INTERNET L. , Jan . 2010 , at 7 (“With the development of massively multiplayer online role-playing games (MMORPGs) employing 3D graphics in the late 1990s and three-dimensional virtual worlds such as Second Life in the early


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Eric C. Chaffee. Securities Regulation in Virtual Space, Washington and Lee Law Review, 2018,