Speaking at his criminal trial, looking visibly uncomfortable in an ill-fitting gray suit, Sam Bankman-Fried recounted a “screw-up” in which he was outwitted by a trader who had gotten around $800 million out of his company FTX. Mr. Bankman-Fried had Alameda Research, his ostensibly separate trading arm, take over the hugely negative account, thus — according to at least one witness — hiding the loss from FTX’s investors.
Prosecutors charged that the cover-up was just one example of the widespread fraud at the two companies, and a jury later agreed, finding Mr. Bankman-Fried guilty of seven wire fraud, conspiracy and money laundering charges. What prosecutors never focused on in the trial is the practice that had helped generate that enormous loss, which is similar to the practice that propped up FTX and Alameda.
What I’m referring to is the practice of pumping up the price of a token with no real value behind it and using that inflated valuation to lay the foundation of a business’s balance sheet or to borrow dollars. As a longtime industry watcher, I believe that same practice is still propping up vast swaths of the cryptocurrency industry today. Not only are crypto firms operating with massive undisclosed credit risk, they’ve also often managed to sidestep the kind of outside scrutiny that might have been invited by more traditional funding models. And when a business funded in this way collapses — or, as in FTX’s case, explodes because of fraud — it is the people who’ve given up their money for a whole bunch of nothing who suffer.
In the case of that $800 million exploit, the trader had accumulated illiquid cryptocurrency tokens with names like MobileCoin and BTMX, manipulated markets to jack up those tokens’ prices, and then used them as collateral to borrow hundreds of millions of dollars worth of other assets — far more than the tokens could ever actually fetch if sold on the market. The trader then cashed out the borrowed funds, leaving FTX and, later, Alameda with a pile of nearly worthless tokens for which there were few interested buyers. A similar scheme forms the basis of at least one other criminal case currently making its way through the Southern District of New York.
In early 2019, FTX’s token, FTT, was conjured out of thin air as Mr. Bankman-Fried launched FTX from the same Hong Kong office where he ran Alameda Research. Situated offshore and not serving U.S.-based customers at the time, FTX advertised the tokens to everyday investors as akin to stock in the company — a sales pitch that would be forbidden in the United States, owing to securities laws aimed at preventing unregistered companies from selling anything that looks like a share in the company to unaccredited investors.
The FTT token initially sold to the public for around $1, but as cryptocurrency boomed into 2021, the token skyrocketed to $10, doubled again to $20 within a month of that and eventually peaked above $75. Only a portion of the 350 million tokens created by FTX regularly traded on the open market. The bulk of them remained with FTX or Alameda Research. These were then used to collateralize loans of cash, Bitcoin and other more usable assets from many third parties who either didn’t know or didn’t care that FTX and Alameda Research were critically dependent on the price of the token remaining steady or continuing to go up.
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