Category: Blogging

Coinbase Q3 earnings: Regulatory clarity is all we need. And a miracle or two 

  • By Amy Castor and David Gerard
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Coinbase is the biggest crypto exchange that deals in actual dollars, and it’s the first choice for new crypto users. The company went public (NASDAQ: COIN) in April 2021 and enjoyed a few good quarters in the crypto bubble.

But the bubble burst in May 2022 — and the customers just got up and left.

Last week, Coinbase posted its third-quarter earnings. It’s been nearly two years since the company turned a profit. Things have only worsened since the previous quarter. [shareholder letter, PDF; earnings call transcript; earnings call questions; 10-Q]  

Number go down

CEO Brian Armstrong said on the earnings call: “The American people are embracing crypto as more Americans grow unhappy with the traditional financial system.” Armstrong and COO Emilie Choi also harped on how “52 million Americans own crypto.”

Unfortunately, this isn’t sufficiently good news for bitcoin. Per the company’s shareholder letter: “Trading volume has been shifting away from the U.S., where our business is concentrated.” Or, from the 10-Q: “A significant amount of the Trading Volume on our platform is derived from a relatively small number of customers.”

Trading volume is the lifeblood of a crypto exchange — and Coinbase’s is through the floor. The exchange saw $76 billion in total trading volume in Q3, down from $92 billion in Q2. (They did $547 billion in trading volume in Q4 2021, their last profitable quarter.) 

That’s not good for trading fees. Here’s how the numbers have gone starting from Q4 2021:

  • Q4 2021: $2,185.8 million from retail traders; $90.8 million institutional;
  • Q1 2022: $965.8 million from retail traders; $47.2 million institutional;
  • Q2 2022: $616.2 million from retail traders, $39.0 million institutional;
  • Q3 2022: $346.1 million from retail traders, $19.8 million institutional;
  • Q4 2022: $308.8 million from retail traders, $13.4 million institutional;
  • Q1 2023: $352.4 million from retail traders, $22.3 million institutional;
  • Q2 2023: $310.0 million from retail traders, $17.1 million institutional;
  • Q3 2023: $274.5 million from retail traders, $14.1 million institutional.

Coinbase’s net loss for the third quarter was only $2.3 million — the closest the company’s come to making a profit in seven quarters. Total revenue was $674 million, up 14% on Q2. Total operating expenses were $1.1 billion, down 38% on Q2.

The bleeding was stemmed by a $82 million debt repurchase and a $50 million gain in “strategic investments,” said CFO Alesia Haas. In Q3 2022, the company posted a loss of $545 million on total sales of $590 million — just before FTX blew up.

Coinbase ended Q3 with $5.6 billion in cash and a pile of illiquid crypto assets that it accounted for as $483 million.

In the year to date, COIN stock is up 155% and currently trading at $85 — but that’s still a long way from its high of $342 back in the bubble days.

Analysts predicted even worse numbers for Coinbase than it achieved this quarter — so it mostly beat analyst estimates, just! [NASDAQ]

Banking the unbankable

What is going up is interest income. Holders put actual dollars into the USDC stablecoin and get zero interest on it — Coinbase and its partner Circle get all the interest on the USDC reserve.

USDC interest earned Coinbase $172 million in Q3 — up from $151 million in Q2. USDC reserves are mostly in short-term US government debt, and rising interest rates mean more income.

Interest on USDC is cheap revenue for Coinbase. Circle assumes all of the infrastructure-related costs, while Coinbase simply handles marketing.

The main worry is that USDC issuance is way down. The current market cap is 24 billion, down from 55 billion in mid-2022.

Regulatory clarity

The 10-Q and earnings call harped on “regulatory clarity.” What this means is that Coinbase wants special permission to do things that are presently just plain illegal.

We don’t like their chances. What Coinbase calls “The 2022 Events” have brought the regulatory heat — big time. Stated risk factors in the 10-Q include “adverse legal proceedings or regulatory enforcement actions, judgments, or settlements impacting cryptoeconomy participants.”  

As of June, Coinbase is also getting sued by the SEC for selling unregistered securities and running an exchange, a broker-dealer, and a clearinghouse as part of the same operation — and without registering any of these.

Armstrong’s plan is to put pressure on lawmakers and make them see the light. He hopes to get those “52 million” crypto holders in the US to spam Washington D.C. about the case and get them “to come out in force in this 2024 election, make their voice heard.”

We note that those “52 million” are not trading on Coinbase — we’re pretty sure they’re the bagholders stuck with altcoins and apes they can’t sell and may not be so keen to cheer on Coinbase.

If the SEC wins, Coinbase may have to stop trading in any cryptos other than CFTC-regulated commodity coins such as bitcoin. There isn’t enough volume in those for Coinbase to live on.

This is why Coinbase is so insistent on trading blatant unregistered securities  — it’s all they have left for a business model. 

If Coinbase can’t trade unregistered securities in the US — a very real possibility — it will have to rely on custody services and interest income from its stablecoin business. Since Circle runs the infrastructure, Coinbase’s only cost from USDC is marketing. Total marketing was $78 million for the quarter, though half of that was compensation.

The other ongoing legal issue is that multiple states have issued Coinbase show-cause orders, cease-and-desist letters, and fines over their staking products. In July 2023, Coinbase settled with California, New Jersey, South Carolina, and Wisconsin, and shut down staking there. In October 2023, they did the same in Maryland. But the 10-Q states: “The Company and Coinbase, Inc. dispute the claims of the state securities regulators and intend to vigorously defend against them.” OK.

Buddy, can you spare a satoshi

Coinbase needs to figure out new income streams. The company desperately needs to show that it’s profitable at an operating level and not just a black hole.

The earnings call hammered on Coinbase’s hopes that the SEC will finally approve a spot Bitcoin ETF, so Coinbase can charge custody fees. To date, the SEC has shot down every application for a spot bitcoin ETF put before it since 2017. But you can’t prove it won’t happen!

If ETFs do happen, they may hurt Coinbase’s transaction fee income — fees are way lower on ETFs than on Coinbase. Two analysts asked about this on the earnings call and Choi said Coinbase had no plans in place at all — except that ETFs would be super positive for crypto!

Coinbase is also spinning up offshore perpetual futures trading in the Bahamas. Offshore crypto futures could be a huge market if Coinbase can tap into what Binance is doing now and what FTX used to do. In between all the sanctions violations and criming, we mean.

Innovation!

Coinbase’s new tagline is “onchain is the new online.” Coinbase says it stands at the “forefront of this technology.”

Armstrong has the same vision he’s had for the past two quarters — “digital assets, broader access to financial services.” The miracle of onchain “even changes how we think about identity, governance, artwork, and non-financial services.” That is, all the stuff that crypto failed hard at for the past decade. But maybe this quarter it’ll work?

Coinbase’s current bet is Base, an in-house Layer 2 “payments solution” for Ethereum — that is, a completely centralized Ethereum sidechain to run Ethereum applications without Ethereum fees. So far, that means NFTs and scamcoins.

Armstrong also touted plans to put Coinbase itself onto Base — “one of our next major efforts is going to be how to integrate that into all of our products.” It’s not clear how any of that would work, but it should be a hoot.

Coinbase’s risks list in its 10-Q happens to mention that Base “has been in the past, and may in the future, be a target for scam tokens or other illegal activity. For example, in August 2023, a number of fraudulent tokens were identified and traded on Base blockchain.” It’s a pity that’s the use case.

What this means

Coinbase are screwed and they know it. There’s no hope for the greater glory of crypto any time soon. They need the stock price not to completely crater. Not being sued for number going down would probably be nice. And there’s insider stock sales to schedule. This 10-Q is a prayer for a miracle.

Posted on by Amy Castor 0

Crypto collapse: Bankman-Fried trial draws to a close, SafeMoon arrested, fourth US bank failure was crypto

A new crypto collapse update is out! This one is on David’s blog. [David Gerard]

Sam’s trial is wrapping up. He took the stand, a terrible move, and predictably, prosecutors ate him alive. Now the jurors will decide on his guilt or innocence.

Elsewhere in crypto, Tether is making loans again, Celsius creditors still getting soaked, the proper regulator for crypto is the DOJ, and Twitter is going down the toilet.

Posted on by Amy Castor 0

New York vs DCG/Genesis and Gemini: Kids, kids, you’re both ugly

  • By Amy Castor and David Gerard

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The New York Attorney General is suing crypto investment fund Genesis, its parent company Digital Currency Group (DCG), and the Gemini crypto exchange for defrauding customers of Gemini’s Earn investment product. [Press release; complaint, PDF]

Earn put investors’ money into Genesis — where it evaporated.

The lawsuit also charges former Genesis CEO Soichiro (a.k.a. Michael) Moro and DCG founder and CEO Barry Silbert for trying to conceal $1.1 billion in crypto losses with an incredibly dubious promissory note.

New York is asking the court to stop all three companies’ business in “securities or commodities” in the state. That’s all but a death sentence — bitcoin is a commodity in the US.

The SEC was already suing both Gemini and Genesis over the Gemini Earn product because it looked an awful lot like a securities offering. Separately, Gemini sued DCG in July 2023 — and just last week, Gemini also sued Genesis to reclaim missing funds. [Adversary complaint, PDF]

What happened?

Three Arrows Capital (3AC) crashed on June 13, 2022, and blew a gaping hole in Genesis’ loan book. DCG scribbled an IOU to shuffle an imaginary $1.1 billion of value into Genesis reserves.

This financial styrofoam filler didn’t save Genesis, which ultimately halted all withdrawals on November 16, 2022, just days after FTX/Alameda declared bankruptcy. Genesis filed for chapter 11 bankruptcy on January 19, 2023.

The NYAG says that Genesis and Gemini defrauded more than 230,000 Earn investors of more than $1 billion total, including at least 29,000 New Yorkers. New York says that thousands more lost money because of DCG’s actions.

The NYAG claims that:

  • Genesis and Gemini lied to investors about Earn and Genesis’ credit-worthiness;
  • Genesis lied to Gemini that it was solvent;
  • DCG and Gemini lied to the public, including investors, about the promissory note;
  • Earn is an unregistered security under New York’s Martin Act.

This is a complaint we recommend you read. We all knew some of what went on between Genesis, DCG, and Gemini, but this suit goes into great detail about what happened behind the scenes.

This is a civil complaint, not a criminal indictment — but the NYAG describes several crimes being committed, particularly by DCG, Genesis, Moro, and Silbert.

How Earn worked

Gemini, owned by Tyler and Cameron Winklevoss, and Genesis Capital, a subsidiary of DCG, partnered to launch the Gemini Earn program in February 2021 — just as bitcoin’s number was going up really fast. Crypto was a hot product!

Gemini and Genesis marketed Earn to the public as a “high-yield investment program” — which is just coincidentally a common marketing term used by Ponzi schemes. 

Earn promised to pay up to 8% yield. Ordinary investors could deposit their crypto via the Gemini exchange. You could get your money back anytime!

Earn was a pass-through fund to Genesis. Retailers put their crypto in Earn. Gemini then handed the funds off to Genesis, who then lent the money to institutional investors, notably crypto hedge fund 3AC in Singapore. Genesis was substantially a 3AC feeder fund — of which there were many.

When Earn investors wanted to withdraw their funds, Genesis had five days to return the principal and the interest, minus Gemini’s agent fee.

Gemini earned more than $22 million in agent fees for running Earn, plus more than $10 million in commissions when investors bought crypto on Gemini to put into Earn.

Paper thin

3AC was Genesis’ second largest borrower. 3AC had borrowed $1 billion of crypto at 8% to 15% interest, secured by $500 million of illiquid crypto tokens.

Genesis hadn’t received audited financial statements from 3AC since July 2020. But with interest rates like that, why worry — it’ll be fine, right?

It wasn’t fine. 3AC fell over on June 13, 2022, losing Genesis $1 billion. Babel Finance, another Genesis borrower, fell over on June 17, losing Genesis another $100 million — because in June 2022, everyone was falling over.

Genesis was $1.1 billion in the red — it didn’t have the funds to pay back Earn investors. Between mid-June and July 2022, Silbert and other DCG officers met with Genesis management to work out how to fill the hole in Genesis’ balance sheets — and what to tell counterparties such as Gemini.

One problem was that some of the collateral for 3AC’s loan was GBTC shares, issued by another DCG subsidiary, Grayscale — which Genesis couldn’t sell, due to restrictions on sales of stock by “affiliates” of the issuing company.

Silbert told the board of DCG that Genesis was anticipating a run on the bank if word got out. So DCG began casting about for financing. Silbert also suggested to the DCG board on June 14, 2022, that they “jettison” Genesis.

But DCG and Genesis decided instead to act like everything was fine. On June 15, Genesis told everyone its “business is operating normally.” Two days later, Genesis CEO Michael Moro posted in a tweet reviewed and edited by DCG: “We have shed the risk and moved on.” [Twitter, archive; Twitter, archive]

Everything was not fine. The 3AC hole meant that Genesis’ loss exceeded its total equity, and Genesis couldn’t pay out Earn investors. Genesis hadn’t “shed the risk and moved on” — it still had the gaping hole in its balance sheet. It was not “operating normally” — it was floundering in a panic.

Genesis was unable to find anyone to lend them the money they needed, so they had to find a way to paper the hole before the end of the quarter.

The solution: DCG would make a loan from its right pocket to its left pocket and count the loan as an asset.

(When Tether and Bitfinex tried to pull the exact same trick a few years earlier, the NYAG fined them $18.5 million and kicked them out of the state.)

So on June 30 — the last day of Q2 2022 — DCG gave its wholly-owned subsidiary Genesis a promissory note for $1.1 billion. DCG would pay it back in ten years at 1% interest.

Both Silbert and Moro signed off on the IOU. The note was, of course, not secured by anything.

DCG never sent Genesis a penny — the note was only ever meant to be a $1.1 billion accounting entry so that Genesis and DCG could tell the world that Genesis was “well-capitalized” and that DCG had “absorbed the losses” and “assumed certain liabilities of Genesis.”

None of this was true. DCG wasn’t obligated to pay anything on the note for 10 years. And Genesis was still out $1.1 billion of actual funds.

Michael Patchen, Genesis’ newly appointed chief risk officer, said in internal documents that the promissory note “wreaks havoc on our balance sheet impacting everything we do.” 

Genesis directed staff not to disclose the promissory note to Genesis’ creditors, such as Gemini. Many Genesis staff didn’t even know about the promissory note until months later.

DCG’s piggy bank

DCG made Genesis’ problems even worse by treating Genesis like its own personal piggy bank. 

In early 2022, DCG “borrowed” more than $800 million from Genesis in four separate loans. When $100 million of this came due in July, DCG forced Genesis to extend the maturity date — and DCG still hasn’t paid a penny of it to date.

A DCG executive told a Genesis managing director on July 25, 2022, that DCG “literally [did not] have the money right now” to repay the loan. Genesis had no choice — the managing director replied: “it sounds like we don’t have much room to push back, so we will do what DCG needs us to do.” DCG also dictated the interest rate for this loan.

Around June 18, 2022, DCG borrowed 18,697 BTC (worth $355 million at the time) from Genesis. It partially paid this back on November 10, 2022 — with $250 million worth of GBTC! — but this still left Genesis with no cash to pay back its own creditors. And it still couldn’t liquidate the GBTC. 

It’s hard to consider the deals between Genesis, DCG, and Grayscale as anything like arm’s length — it was a single conglomerate’s internal paper-shuffling.

On November 2, CoinDesk reported that FTX, one of the largest crypto exchanges, was inflating its balance sheet with worthless FTT tokens. The report brought FTX tumbling down, and FTX filed for bankruptcy on November 11, 2022.

Around November 12, 2022, Genesis sought an emergency loan of $750 million to $1 billion from a third party due to a “liquidity crunch.” Its efforts were unsuccessful. On November 16, Genesis halted redemptions.

If you owe Gemini a billion dollars, then Gemini has a problem

Gemini Earn investors were supposed to be able to get their funds back at any time. This meant that those funds had to be highly liquid. Gemini told investors it was monitoring the financial situation at Genesis. 

Gemini absolutely failed to do this. They lied to investors, and they hid material information. 

Gemini got regular financial reports from Genesis. Gemini’s internal risk analyses showed that Genesis’ loan book was undercollateralized for Earn’s entire operating existence. But Gemini told Earn customers that Genesis had more than enough money to cover their loans.

Starting in 2021, Genesis’ financial situation went from bad to worse. In February 2022, after analyzing Genesis’ Q3 2021 financials, Gemini internally rated Genesis capital as CCC-grade — speculative junk — with a high chance of default.

Gemini also found out that Genesis had a massive loan to Alameda — secured by FTT tokens! The same illiquid FTX internal supermarket loyalty card points that were discovered by Ian Allison at CoinDesk to make up about one-third of Alameda’s alleged reserves.

Even after Genesis recalled $2 billion in loans from Alameda, the crypto lender was still full of loans to affiliates, including its own parent company DCG. 

In June 2022, the crypto markets crashed and burned. But Gemini continued to reassure investors that it was safe to feed money to Genesis via Earn.

This was apparently fine when it came to someone else’s money, but according to the complaint: 

During this same period, Gemini risk management personnel withdrew their own investments from Earn. A Gemini Senior Risk Associate working on Earn withdrew his entire remaining Earn investment — totaling over $4,000 — between June 26, 2022, and September 5, 2022.

Likewise, Gemini’s Chief Operations Officer [Noah Perlman], who also sat on Gemini’s Enterprise Risk Management Committee, withdrew his entire remaining Earn investment — totaling more than $100,000 — on June 16 and June 17, 2022.  

This was when DCG tried to paper over the hole in Genesis’ balance sheet with a $1.1 billion IOU.

Gemini realized things weren’t good at Genesis, but it’s not clear that they realized how bad they were — not helped by Genesis lying to Gemini about their true condition.

From June to November 2022, Genesis would send Gemini false statements on their financial condition — for instance, saying that the DCG promissory note could be converted to actual cash within a year, when in fact, it was a 10-year note. 

Gemini didn’t tell investors that Genesis was in trouble. Instead, they thought they’d “educate clients on the potential losses” and “properly set clients’ expectations.”

When the Gemini board was advised of Genesis’ financial state in July 2022, one board member compared Genesis debt-to-equity ratio to Lehman Brothers before it collapsed.

Gemini tried and failed to extricate itself from Genesis. They just could not get the funds back. But they knew that Genesis operated as a closely controlled sockpuppet of DCG, and they wanted Silbert to make good on Genesis’ debt. 

As things at Genesis got worse, Gemini worked out how to break the news to Earn creditors.

On September 2, 2022, Gemini finally decided to terminate Earn. On October 13, Genesis formally terminated the Earn agreements and demanded the return of all investor funds. 

On October 20, 2022, Silbert met with Cameron Winklevoss of Gemini. Silbert said that Gemini was Genesis’ largest and most important source of capital — meaning that Genesis could not redeem Earn investors’ funds without Genesis declaring bankruptcy.

Gemini quietly granted Genesis multiple extensions to return investor funds.

On October 28, 2022, Silbert finally let Genesis tell Gemini the true terms of the promissory note — just two weeks before Gemini cut off withdrawals.

For some reason neither we nor the NYAG can fathom, Gemini cointinued to take investors’ money and put it into Earn right up to the end!

Customer service

Gemini didn’t do anything so upsetting for Earn investors as to tell them about Genesis’ unfortunate condition — even as Gemini’s own staff closed out their positions in Earn.

One customer wrote to Gemini on June 16, 2022, three days after 3AC collapsed, asking if any of their funds were with 3AC. Gemini didn’t answer the question, but replied with vague reassurances about Genesis’ trustworthiness.

Another wrote on June 27, 2022: “with other exchanges like Celsius and Blockfi I am concerned about Gemini. Does Gemini have any similar vulnerabilities? … liquidity vulnerabilities? … risky investments/loans that would risk my assets or cause Gemini to halt withdrawals?”

Gemini responded: “Gemini is partnering with accredited third party borrowers including Genesis, who are vetted through a risk management framework which reviews our partners’ collateralization management process.”

This investor was sufficiently reassured to send in another $1,000.

A third customer wrote on July 24, 2022, asking specifically if Gemini was involved in any of the “drama” around 3AC and if it impacted Earn. Gemini said they weren’t involved in anything regarding 3AC — even as the 3AC crash had in fact blown out Earn.

The consequences

The NYAG is asking the court that all three companies be permanently banned from dealing in “securities or commodities” in New York — e.g., bitcoin.

Some of the press coverage noted this provision — but didn’t notice that it would be a near death sentence for a crypto business. DCG’s profitable Grayscale business would have to leave New York or be sold off. Gemini would be kicked out of the state.

New York is also seeking restitution for the victims and disgorgement of ill-gotten gains.

Also, they all get fined $2,000 each. It’s possible that bit of the General Business Law could do with an update.

Posted on by Amy Castor 0

The beautiful mind of Sam Bankman-Fried

Here’s our latest, just before Sam gets up to destroy his life even further. He is testifying in his own defense in his criminal trial today, something his lawyers have likely strongly advised against. But Sam just can’t shut up. What makes him so reckless? Join us, as we take a deep look inside the mind of Sam and uncover what makes him tick. This one is on David’s blog. [David Gerard]

Posted on by Amy Castor 0

Texans versus bitcoin: Jackie Sawicky and the Texas Coalition Against Cryptomining

  • By Amy Castor and David Gerard

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Jackie Sawicky recalls the day she got seriously pissed about bitcoin mining. It was April 27, 2022, when Riot Platforms announced it would be building a one-gigawatt facility in Navarro County, seven miles outside of Corsicana, and about an hour south of Dallas. 

Jackie, a lifelong Texan who lives in Navarro, had been looking into the bitcoin bubble and crypto waste. “I watched the Netflix documentary Trust No One on Quadriga, and literally that week, we found out about Riot building the largest bitcoin mine in the US.”

Corsicana’s then-mayor, Don Denbow, had invited citizens to attend a special announcement at the city’s library. [Letter, PDF]

Jackie watched a live stream of the event from her home. Her curiosity turned to horror when Denbow introduced Chad Harris, the executive vice president and chief commercial officer at Riot at the time. 

“We turn energy into opportunity,” Harris said with his best salesman smarm. (Harris is no longer with the company.) Riot would create jobs — hundreds of them — and bring tax revenue to the county. This was good news for Navarro County! [Facebook, video; press release]

Riot already had an existing bitcoin mine in Milam County. This new project was an expansion on a grander scale. 

A voice in the crowd asked but why Navarro? “You have two very valuable resources,” Harris responded. There’s the Navarro switch — meaning Riot could plug itself directly into the state’s power grid — and plenty of fresh water for cooling.

“He told us from the beginning we are coming here to exploit your resources,” Jackie said.

Riot got national attention when it got $31.7 million in energy credits in August 2023 for not mining bitcoins. That money came out of ordinary Texans’ pockets. Welcome to the future of bitcoin mining. 

Radicalized by bitcoin

A self-described environmentalist, Jackie lives “on six acres in the boonies” in Navarro County. She loves Texas for “its natural beauty and the amazing state parks.”

Jackie understood bitcoin’s use case — money laundering and fraud — and the huge threat bitcoin mining poses to the environment. She was shocked to learn a massive crypto mining facility was setting up shop in her backyard: “I lost sleep that weekend.” 

She wasn’t alone. “In the live stream, you can see people reacting in real-time,” Jackie said. She started the Concerned Citizens of Navarro, a group to oppose bitcoin mining in the county. Soon Jackie and her mom were out pounding the pavement and putting flyers on cars to gather support for the cause.

Why Texas?

After China kicked the crypto miners out in mid-2021, the miners looked for other places in the world where they could get cheap energy. China has the cheapest electricity in the world — but the US and Canada have the second cheapest.  

Texas Governor Greg Abbot rolled out the red carpet for the bitcoin miners later in 2021, making the state especially attractive to the industry — at the expense of the people who live there. [Bloomberg, archive]

Jackie thinks Texas is into bitcoin specifically because of crypto mining’s unlimited appetite for power. “They are driving up demand for fossil fuels, and Texas is a fossil fuel state.” A Bloomberg report on the Electric Reliability Council of Texas (ERCOT), the state’s grid operator, concurs: “Everything depends on Bitcoin.” [Bloomberg, PDF]

Bitcoin miners in Texas have negotiated deals with the state for power as cheap as it was in China — 2 to 4 cents per kilowatt-hour. Miners in Texas are subsidized by the taxpayer. For comparison, the going rate for electricity in New York state is 12 to 18 cents per kilowatt-hour.

“When we found out that Texas is number one in bitcoin mining, we changed our name to the Texas Coalition against Cryptomining because it is so much bigger than just Navarro County,” Jackie said. 

Off to fight: SB 1751

In May 2022, Concerned Citizens of Navarro went to Austin to support SB 1751, an unfortunately failed bill to bar tax exemptions for crypto mining facilities. [Texas Legislature]

SB 1751 would have prohibited tax abatements, capped miners’ participation in ERCOT subsidies to large companies to 10 percent, and mandated they register with the state. “This bill would have been the nail in the coffin to this industry here,” said Jackie.

The bill passed the Senate unanimously in April 2022, but the session ended with the bill stalled in the state’s House committee. Jackie hopes to get it back on the agenda for next year.

Riot and Corsicana 

Riot’s plans to expand to Navarro County didn’t come out of nowhere. “We found out through records requests that they had actually been working behind closed doors with the city for five months, so it actually started in December 2021,” Jackie said. 

Jackie and others who oppose the Riot project have tried to reach out to Corsicana city council members and John Boswell, Corsicana’s economic development director. The city says they can’t do anything about the Riot facility because it’s outside of city limits in unincorporated Navarro County. Yet Corsicana city council members are the very people promoting the project.

Riot already has one of North America’s largest bitcoin mines — a 750-megawatt plant in Rockdale (though currently running only 450 megawatts), an hour outside of Austin. The Corsicana facility would be even larger — with a maximum capacity of one gigawatt.

One gigawatt is roughly the size of two coal-fired power plants — enough energy to power 750,000 homes. The proposed plant would put an enormous strain on the state’s already fragile power grid — and the cost would be passed on to ordinary Texans.

Bitcoin mines are huge, ugly, noisy things — warehouses or container buildings full of rows and rows of mining rigs, small servers that guess numbers to win the bitcoins. Texas is hot and humid — not the best climate for a mining farm. The low-frequency sound generated by the fans cooling the rigs can travel up to a mile.

It’s hard to appreciate the immensity of this eyesore of a facility until you look at the videos. Riot broke ground at its 265-acre Corsicana site in October 2022, digging up a section of the pasture and woodland and filling it with concrete and conduit. Riot plans to take the site live with 400 megawatts next year. [YouTube; YouTube]

Riot’s Corsicana facility will displace 265 acres of nature.

Unlike Riot’s Rockdale facility, the planned Corsicana facility is in a residential neighborhood. Residents living near bitcoin mines in other parts of the US liken the sound — produced by the fans used to keep the rigs cool — to a highway, the roar of a jet engine, or an idling semi-truck. The sound is pervasive and unrelenting — because bitcoin mining never sleeps. [Washington Post, 2022]

We asked Jackie if anyone had talked to homeowners in the area.

“​​A Reuters reporter came down here last July,” she said. “He and I knocked on doors but nobody answered. People around here are scared of retaliation, rocking the boat, the local government, etc. There’s a massive chilling effect over the entire county. I’ve been ostracized for being so vocal and confrontational. When we had our first protest at the site, only about six people showed up, even though this project is overwhelmingly opposed by all residents in the county.”

Riot’s Corsicana plant has been pushed back several times. According to a June press release, they are expecting 33,280 MicroBT mining rigs to be delivered in December. Deployment of the rigs, which will provide initially 400 megawatts, is currently set to begin in the first quarter of 2024. Riot expects the rigs to be fully operational by mid-year. [press release]

Job creators

Corsicana and Navarro are poor — Navarro has a 16 percent poverty rate and 17 percent of the population are seniors, likely to be on a fixed income. Thirty-two percent of family households are single parents.

When a city gives breaks to a large business, the pitch is usually jobs. Corsicana already has a candy factory and an iron smelt, but more industry is always welcomed — if they bring jobs. 

Riot’s April 2022 press release told the public that the facility would create 270 jobs when it has 400 megawatts operational — less than half its capacity. In a Cana Girl Speaks podcast, Cody Muldner, Riot’s operations manager at its Corsicana site, said that “when it’s complete there’s going to be 900 full-time employees.” [press release; YouTube, 15:00 on] 

However, in investor presentations, Riot said that Navarro was only two hours away from its existing Rockdale mine and that the Navarro facility would use existing talent. Riot is not becoming part of the town in the same way the candy factory or the iron smelt are.

“They have their own electric company and their own construction company,” Jackie said of Riot. “They are not going to be creating jobs here. When I spoke with Colleen Cox, Chamber of Commerce, she’s like, it’s not 250 to 900 permanent jobs, it’s at some point in the project, along the way, there would have been these things.”

Anyone familiar with crypto mining knows that Bitcoin mines don’t bring a lot of jobs to an area. Once up and running, they typically employ only a handful of workers to monitor the rigs and swap out dead rigs to throw in the huge pile of e-waste out the back.

The Texas Blockchain Council told the Texas Senate that SB 1751 endangered 22,000 jobs in Texas. Council president Lee Bratcher breaks that down as “directly employs about 2,000 people across the state and another 20,000 people for indirect jobs” — which we still find implausible. Lobbyists, maybe. [Twitter; Decrypt]

“One of the most enraging things that Chad Harris [Riot] did was use very predatory language saying they hire single moms and pay single moms great,” said Jackie. “And I was like, 250 jobs is like .002 percent of the county. And every single mom is going to see higher electricity bills.” [Facebook, video, 20:00 on]

Water

Environmental concerns about bitcoin mining tend to focus on power requirements and hence the CO2 generated. But even crypto people tend not to be aware of how much water-cooling proof-of-work mining actually needs.

At an economics development meeting on June 7, 2022, Eddie Moore, a Navarro County commissioner, said he visited the Riot Rockdale plant and it was “as quiet as it is right here in this room,” because the facility uses immersion cooling — bathing the rigs in oil coolant rather than using noisy fans. “It reminded me of a turkey farm,” he said. [video]

Jackie says this isn’t what’s happening in Navarro. Riot often implied the Corsicana mine would be fully immersion-cooled — something promoters kept referencing as the reason for no noise pollution. “One of the lies they told to get their foot in the door here is that the Navarro County mine is all going to be immersion-cooled. But Riot’s own investor deck says that only 40 percent is going to be immersion-cooled,” she said.

Riot says in its investor deck that only 40% of its Corsicana rigs will be immersion cooled.

We contacted Riot in September asking about all of this — what type of immersion coolant they planned to use, if they’d done any environmental risk studies, how they planned to cool the rest of the facility — but didn’t get a reply. It’s worth noting that oils tend to be flammable. Immersion cooling also carries the risk of leakage, which can cause environmental problems.

“The other 60 percent is going to be traditional fan-cooled,” said Jackie. “So what they do is they need a ton of water — and they feed it through these porous walls and they use fans. It’s like a swamp cooler.”

The water gets quite hot — over 100 degrees Fahrenheit — and that hot water needs to go somewhere. Where will it go?

Jackie hasn’t been able to get a clear answer, but she has concerns. “The property Riot purchased here in Navarro Country feeds into Richland Creek and Richland Creek feeds into Richland-Chambers Reservoir, and that’s the tap water for Arlington-Fort Worth.”

Worse things can happen. “One of my worst-case scenarios is they actually get it up and a fire happens and all these toxic metals leach into the water table and some of the biggest cities in all of Texas have their tap water contaminated. There was never an environmental study done.”

Corsicana will sell Riot the water. Jackie only discovered how much water Riot needed via records requests. “They asked for 1.6 million gallons a day in the height of the summer, and we are all being told to conserve,” Jackie said.

“When Riot tells people they are going to be wasting 1.6 million gallons a day, more than the iron smelt, more than the candy factory, they are going to be the number one user of water,” said Jackie.

This could put a huge strain on other industries. In 2022, a record number of local cattle ranchers had to sell off their herds early — because the price of hay skyrocketed due to the drought. [Corsicana Daily Sun, archive]

But in the June 7 economic development meeting, Boswell, Corsicana’s economic development director, said: “We have enough water to supply the water needs today without any upgrades to our system. We can supply the water to them today and have room for growth. No expansion plans are needed for our treatment plant to be able to meet the needs today.”

Boswell said, in an early email to a Navarro county commissioner, that the Riot facility would end up using 1.4 million gallons of water per day when the site was fully up and running — though he later told the Dallas Observer that the number would be smaller. [Dallas Observer, 2022, archive]

However much the facility will end up needing, Boswell said, the city will be selling water to Riot. All the water that’s sold throughout Navarro County — parts of Hill County, parts of Ellis County — is produced by the city of Corsicana and sold through wholesale water utilities throughout the area. “So, if anything goes on here, it will have an impact on water sales for the city,” said Jackie. 

We are skeptical that Riot will maintain any significant oil immersion cooling for the facility. Bitcoin mining rigs are poorly manufactured disposable hardware with a productive lifetime on the order of 18 months. We expect Riot will overwhelmingly use conventional fan-cooled rigs.

Money for nothing

Riot is a publicly traded company. Its stock (NASDAQ: RIOT) has virtually flatlined, having lost 99 percent of its value from its all-time high in November 2021 during the bitcoin bubble. [Yahoo]

As we’ve discussed, bitcoin mining is not a profitable business. In 2023, Riot is a bitcoin miner that makes most of its money from not mining bitcoins.

Instead, Riot is subsidized by Texas. Bitcoin miners can enroll in demand response programs, which pay them for reducing or shutting down power when called to do so — so they literally get paid to do nothing. [ERCOT, PDF]

During the Texas heatwave in August 2023, Riot made about $9 million from selling bitcoin — but it got $7.4 million in demand response credits from ERCOT and $24.2 million from selling pre-purchased energy back to TXU, the retail electricity provider for ERCOT. [CNBC; Bloomberg, archive; press release; press release]

Riot did the same thing in July 2022 and received $9.5 million in power credits. [press release]

Ordinary citizens don’t get paid to turn up their thermostats and conserve energy — but Riot does.

How you can help

If you’re fired up about what’s going on in Texas, there are lots of ways you can get involved in the fight against bitcoin mining.

In partnership with Greenpeace, the Texas Coalition Against Crypto Mining is having a week of action, starting October 24. The week kicks off with a public town hall meeting on Tuesday, followed by an action event at the Riot site in Navarro on Wednesday, and a press conference on Thursday.

“If you live anywhere near FM 709 and the Navarro Switch, we would really love you to show up and talk to the media,” Jackie said in a tweet. “They are very interested in what you have to say and how you feel about this project.” [Twitter, archive]

If you live in Texas, join the Texas Coalition Against Cryptomining group on Facebook. As well as news updates, they have monthly Zoom meetings. [Facebook]

There is also a separate Facebook group for the National Coalition Against Cryptomining. [Facebook]

At a national level, support Senator Ed Markey’s (D-MA) bill — the Crypto Asset Environmental Transparency Act, which would require miners to disclose their emission levels. [press release; bill, PDF]

At a local level, stay vigilant. “Keep your eyes out for ‘data centers’ coming to your community,” said Jackie. If you live in a county with a bitcoin miner, reach out to one of Jackie’s Facebook groups. “We can help you form a local chapter.” 

Posted on by Amy Castor 1

Crypto collapse: Fortress custody hack, Binance stonewalls SEC, FTX to dump its crypto, Genesis sues DCG, New York restricts crypto listings

Our latest crypto collapse newsletter is out. This one is on David’s blog. [David Gerard]

In this episode:

  • Fortress is the latest crypto trust to put on the red-nose and floppy shoes. You had one job!
  • Binance is giving the SEC the runaround.
  • FTX to drain crypto of precious actual money US dollars.
  • Celsius’ Mashinsky and Goldstein are very silly.
  • Genesis sues its owner.
  • 11,196 years in jail for Turkish crypto crook.
  • New York versus Web3 securities fraud
  • and more!

Next time (probably): talking to Concerned CItizens of Navarro about what a pain in the backside it is having Riot Blockchain, er Platforms, in your backyard.

Posted on by Amy Castor 0

Pivot to AI: Pay no attention to the man behind the curtain

  • By Amy Castor and David Gerard
  • We need your support for more posts like this. Send us money! Here’s Amy’s Patreon, and here’s David’s. Sign up today!

“all this talk of AI xrisk has the stink of marketing too. Ronald McDonald telling people that he has a bunker in New Zealand because the new burger they’re developing in R&D might be so delicious society will crumble.”

— Chris Martin

Crypto’s being dull again — but thankfully, AI has been dull too. The shine is coming off. So we’re back on the AI beat.

The AI winter will be privatized

Since the buzzword “artificial intelligence” was coined in the 1950s, AI has gone through several boom and bust cycles.

A new technological approach looks interesting and gets a few results. It gets ridiculously hyped up and lands funding. The tech turns out to be not so great, so the funding gets cut. The down cycles are called AI winters.

Past AI booms were funded mainly by the US Department of Defense. But the current AI boom has been almost completely funded by venture capital.

The VCs who spent 2021 and 2022 pouring money into crypto startups are pivoting to AI startups, because people buy the idea that AI will change the world. In the first half of 2023, VCs invested more than $40 billion into AI startups, and $11 billion just in May 2023. This is even as overall VC funding for startups dropped by half in the same period from the year before. [Reuters; Washington Post]

The entire NASDAQ is being propped up by AI. It’s one of the only fields that is still hiring.

In contrast, the DOD only requested $1.8 billion for AI funding in its 2024 budget. [DefenseScoop]

So why are VCs pouring money into AI? 

Venture capital is professional gambling. VCs are looking for a liquidity event. One big winner can pay for a lot of failures.

Finding someone to buy a startup you’ve funded takes marketing and hype. The company doing anything useful, or anything that even works, is optional.

What’s the exit plan for AI VCs? Where’s the liquidity event? Do they just hope the startups they fund will do an initial public offering or just get acquired by a tech giant before the market realizes AI is running out of steam?

We’re largely talking about startups whose business model is sending queries to OpenAI.

At least with “Web3,” the VCs would just dump altcoins on retail investors via their very good friends at Coinbase. But with AI, we can’t see an obvious exit strategy beyond finding a greater fool.

Pay no attention to the man behind the curtain

The magical claim of machine learning is that if you give the computer data, the computer will work out the relations in the data all by itself. Amazing!

In practice, everything in machine learning is incredibly hand-tweaked. Before AI can find patterns in data, all that data has to be tagged, and output that might embarrass the company needs to be filtered.

Commercial AI runs on underpaid workers in English-speaking countries in Africa creating new training data and better responses to queries. It’s a painstaking and laborious process that doesn’t get talked about nearly enough. 

The workers do individual disconnected actions all day, every day — so called “tasks” — working for companies like Remotasks, a subsidiary of Scale AI, and doing a huge amount of the work behind OpenAI.

AI doesn’t remove human effort. It just makes it much more alienated.

There’s an obvious hack here. If you are an AI task worker, your goal is to get paid as much as possible without too much effort. So why not use some of the well-known tools for this sort of job? [New York]

Another Kenyan annotator said that after his account got suspended for mysterious reasons, he decided to stop playing by the rules. Now, he runs multiple accounts in multiple countries, tasking wherever the pay is best. He works fast and gets high marks for quality, he said, thanks to ChatGPT. The bot is wonderful, he said, letting him speed through $10 tasks in a matter of minutes. When we spoke, he was having it rate another chatbot’s responses according to seven different criteria, one AI training the other.

Remember, the important AI use case is getting venture capital funding. Why buy or rent expensive computing when you can just pay people in poor countries to fake it? Many “AI” systems are just a fancier version of the original Mechanical Turk.

Facebook’s M from 2017 was an imitation of Apple’s Siri virtual assistant. The trick was that hard queries would be punted to a human. Over 70% of queries ended up being answered by a human pretending to be the bot. M was shut down a year after launch.

Kaedim is a startup that claims to turn two-dimensional sketches into 3-D models using “machine learning.” The work is actually done entirely by human modelers getting paid $1-$4 per 15-minute job. But then, the founder, Konstantina Psoma, was a Forbes 30 Under 30. [404 Media; Forbes] 

The LLM is for spam

OpenAI’s AI-powered text generators fueled a lot of the hype around AI — but the real-world use case for large language models is overwhelmingly to generate content for spamming. [Vox]

The use case for AI is spam web pages filled with ads. Google considers LLM-based ad landing pages to be spam, but seems unable or unwilling to detect and penalize it. [MIT Technology Review; The Verge] 

The use case for AI is spam books on Amazon Kindle. Most are “free” Kindle Unlimited titles earning money through subscriber pageviews rather than outright purchases. [Daily Dot] 

The use case for AI is spam news sites for ad revenue. [NewsGuard]

The use case for AI is spam phone calls for automated scamming — using AI to clone people’s voices. [CBS]

The use case for AI is spam Amazon reviews and spam tweets. [Vice]

The use case for AI is spam videos that advertise malware. [DigitalTrends]

The use case for AI is spam sales sites on Etsy. [The Atlantic, archive]

The use case for AI is spam science fiction story submissions. Clarkesworld had to close submissions because of the flood of unusable generated garbage. The robot apocalypse in action. [The Register]

Supertoys last all summer long

End users don’t actually want AI-based products. Machine learning systems can generate funny text and pictures to show your friends on social media. But even that’s wearing thin — users mostly see LLM output in the form of spam.

LLM writing style and image generator drawing style are now seen as signs of low quality work. You can certainly achieve artistic quality with AI manipulation, as in this music video — but even this just works on its novelty value. [YouTube]

For commercial purposes, the only use case for AI is still to replace quality work with cheap ersatz bot output — in the hope of beating down labor costs.

Even then, the AI just isn’t up to the task.

Microsoft put $10 billion into OpenAI. The Bing search engine added AI chat — and it had almost no effect on user numbers. It turns out that search engine users don’t want weird bot responses full of errors. [ZDNet]

The ChatGPT website’s visitor numbers went down 10% in June 2023. LLM text generators don’t deliver commercial results, and novelty only goes so far. [Washington Post]

After GPT-3 came out, OpenAI took three years to make an updated version. GPT-3.5 was released as a stop-gap in October 2022. Then GPT-4 finally came out in March 2023! But GPT-4 turns out to be eight instances of GPT-3 in a trenchcoat. The technology is running out of steam. [blog post; Twitter, archive]

Working at all will be in the next version

The deeper problem is that many AI systems simply don’t work. The 2022 paper “The fallacy of AI functionality” notes that AI systems are often “constructed haphazardly, deployed indiscriminately, and promoted deceptively.”

Still, machine learning systems do some interesting things, a few of which are even genuinely useful. We asked GitHub and they told us that they encourage their own employees to use the GitHub Copilot AI-based autocomplete system for their own internal coding — with due care and attention. We know of other coders who find Copilot to be far less work than doing the boilerplate by hand.

(Though Google has forbidden its coders from using its AI chatbot, Bard, to generate internal code.) [The Register]

Policy-makers and scholars — not just the media — tend to propagate AI hype. Even if they try to be cautious, they may work in terms of ethics of deployment, and presume that the systems do what they’re claimed to do — when they often just don’t.

Ethical considerations come after you’ve checked basic functionality. Always put functionality first. Does the system work? Way too often, it just doesn’t. Test and measure. [arXiv, PDF, 2022]

AI is the new crypto mining

In 2017, the hot buzzword was “blockchain” — because the price of bitcoin was going up. Struggling businesses would add the word “blockchain” to their name or their mission statement, in the hope their stock price would go up. Long Island Iced Tea became Long Blockchain and saw its shares surge 394%. Shares in biotech company Bioptix doubled in price when it changed its name to Riot Blockchain and pivoted to bitcoin mining. [Bloomberg, 2017, archive; Bloomberg, 2017, archive]

The same is now happening with AI. Only it’s not just the venture capitalists — even the crypto miners are pivoting to AI.

Bitcoin crashed last year and crypto mining is screwed. As far as we can work out, the only business plan was to get foolish investors’ money during the bubble, then go bankrupt.

In mid-2024, the bitcoin mining reward will halve again. So the mining companies are desperate to find other sources of income. 

Ethereum moved to proof of stake in September 2022 and told its miners to just bugger off. Ethereum was mined on general-purpose video cards — so miners have a glut of slightly-charred number crunching machinery.

Hive Blockchain in Vancouver is pivoting to AI to repurpose its pile of video cards. It’s also changed its name to Hive Digital Technologies. [Bloomberg, archive; press release] 

Marathon Digital claims that “over time you’re going to see that blockchain technologies and AI have a very tight coupling.” No, us neither. Marathon is doubling and tripling down on bitcoin mining — but, buzzwords! [Decrypt]

Nvidia makes the highest-performance video cards. The GPU processors on these cards turn out to be useful for massively parallel computations in general — such as running the calculations needed to train machine learning models. Nvidia is having an excellent year and its market cap is over $1 trillion.

So AI can take over from crypto in yet another way — carbon emissions from running all those video cards.

AI’s massive compute load doesn’t just generate carbon — it uses huge amounts of fresh water for cooling. Microsoft’s water usage went up 34% between 2021 and 2022, and they blame AI computation. ChatGPT uses about 500 mL of water every time you have a conversation with it. [AP]

We don’t yet have a Digiconomist of AI carbon emissions. Go start one.

Posted on by Amy Castor 2

Crypto collapse: Tether’s new bank Britannia, Binance woes, nobody uses PayPal’s stablecoin, Avi Eisenberg is not getting his phones back

It’s David’s turn to post, so that’s where you’ll find our latest on the crypto collapse. [David Gerard]

In this installment, Tether finds itself a new banking partner, everybody still hates Binance, and the one joke about libertarians keeps coming up true. Also, bitcoin gets its chance at becoming a tire fire for real.

Posted on by Amy Castor 0

CoinDesk retracts stories about sponsors, makes implausible excuses

  • By Amy Castor and David Gerard
  • Send your sponsorship to the most incorruptible writers in crypto journalism — us. Here’s Amy’s Patreon and here’s David’s. It’s the only workable way!

On two successive days this month, CoinDesk retracted anonymous opinion pieces with weird and spurious explanations. Both stories just happened to be about companies who sponsor CoinDesk. The crypto world noticed, and it’s not happy.

Justin Sun

On August 27, CoinDesk pulled an article detailing Justin Sun’s concerning and questionable practices in the crypto space two days after it was published. The story was titled: “Justin Sun: The Next Do Kwon or Sam Bankman-Fried? The TRON founder has built a crypto empire that would cause collateral damage if it collapsed.” [CoinDesk, article archive of August 26, retraction archive of August 27]

CoinDesk editor-in-chief Kevin Reynolds claims the story was pulled because it didn’t meet CoinDesk standards. He even said that the story “never should have been published.”

This statement is simply not credible. The story was on a topic that was clearly in the public interest. It was extensively cited and backed with data.

The article was written by “awbvious awbvious,” the pseudonym of a “DeFi user and internet artist” — but it was also edited and reviewed before publication by two experienced CoinDesk editors: Ben Schiller (managing editor for features and opinion) and Daniel Kuhn (deputy managing editor for CoinDesk’s Consensus Magazine).

So how does a story that was reviewed by two competent editors suddenly not meet standards?

Reynolds says the story was a personal attack:

… we allow the use of anonymous sources and, from time to time, publish articles written under pseudonymous bylines, but with one very important caveat: we cannot grant the cloak of that identity protection to a writer who launches an outright personal attack against an individual.

The article is built around data-based claims. There are no personal attacks in the story. Reynolds is making statements about the story and its author that are clearly false if you read the actual article text — now safely available on an archive site out of CoinDesk’s control. [archive]

Reynolds claims he was invoking, and links to, CoinDesk’s little-used policy on not outing pseudonymous article subjects. We call this the Scammer Identity Protection Rule, because functionally it is. Marc Hochstein, former CoinDesk editor in chief and current Consensus executive editor, put the rule into place in 2020. [CoinDesk, 2020, revised 2023; archive, 2021]

This rule is mostly ignored in practice at CoinDesk — because it’s obviously stupid. Crypto is an area of finance that’s saturated with fraudsters. Knowing the players’ names is clearly in the public interest. Are you doing journalism or are you doing PR?

But the Scammer Identity Protection Rule doesn’t say a word about articles with anonymous bylines. Reynolds is citing and linking to a rule that doesn’t apply to what he’s just done: retracting an article.

So why did CoinDesk pull the story? The simpler explanation is that the WhiteBIT crypto exchange, controlled by Justin Sun, is one of the few remaining banner ad buyers on CoinDesk — and CoinDesk can’t afford to lose sponsors

CoinDesk may have been concerned that Sun was being compared to two people under criminal indictments. This is a reasonable objection — but the article easily could have been edited to the data-based claims, or to make it clearer that the comparison was in terms of systemic risk.

This would also have avoided a retraction that didn’t make coherent sense — a retraction that made absolutely sure that everyone in crypto read the article.

Chainalysis

The day before the Sun story was pulled, CoinDesk also retracted a pseudonymous op-ed about Chainalysis by crypto Twitter regular L0la L33tz: “Chainalysis Investigations Lead Is ‘Unaware’ of Scientific Evidence the Surveillance Software Works.” [Twitter, archive; CoinDesk, article archive of July 26, retraction, archive of August 26]

Here’s the article summary:

Elizabeth Bisbee, head of investigations at Chainalysis Government Solutions, testified she was “unaware” of scientific evidence for the accuracy of Chainalysis’ Reactor software used by law enforcement, an unreleased transcript of a June 23 hearing shared with CoinDesk shows.

… Bisbee said she was unable to provide the court with statistical error rates for Chainalysis’ Reactor software. She further denied being aware of any scientific peer-reviewed papers or “anything published anywhere” attesting to the accuracy of Chainalysis Reactor. Instead, Chainalysis reportedly judges its software’s accuracy using customer feedback, she said.

This is clearly newsworthy subject matter. It’s a story that makes factual claims about information that the news site saw concerning the administration of justice.

Bitcoin Magazine promptly reprinted the Chainalysis story when CoinDesk pulled it. Yahoo News still has the original CoinDesk version up. [Bitcoin Magazine; Yahoo] 

What’s really weird is that CoinDesk retracted the story a full month after it was published.

As with the Sun story, Kevin Reynolds’s retraction claimed that “we cannot grant the cloak of that identity protection to a writer who launches an outright personal attack against an individual.”

Reynolds also claimed: “Given that the very nature of the piece violates that standard — allowing us no way to merely correct the story and be done with it  — we are removing the story in its entirety.” [archive]

That’s curious — because when the retraction hit crypto Twitter and the article was reprinted in Bitcoin Magazine, CoinDesk suddenly found the ability to republish almost all of the article! [CoinDesk, archive of 29 August]

After his previous slander of L33tz, Reynolds realized people were watching his behavior and took care to note in his un-retraction: “It was not our intent to besmirch the reputation of the writer, who has for some time used the same pseudonym and built a reputation around it.” Wasn’t that nice of him.

Chainalysis just happens to be a portfolio company of Digital Currency Group, who (as of this moment) still own CoinDesk. Chainalysis also sponsors the 2023 Consensus conference and the CoinDesk GenC podcast. [CoinDesk, archive; CoinDesk]

“If you retract an article while you have such a huge conflict of interest, that’s just not okay,” L33tz told Gizmodo: [Gizmodo]

L0la L33tz told Gizmodo the article was received well by the editor she worked with and that she was encouraged to write more stories like it in the future.

L0la L33tz claims she only discovered the redaction after stumbling upon it online, saying that nobody at CoinDesk reached out to her to suggest corrections to alter the article or even to inform her that the story had been retracted.

There are no respectable media outlets in a crypto winter*

Leaving a story up for a month and then attempting to vanish it — without even contacting the author — is not competent behavior, individually or organizationally.

Reynolds’ retractions seem not only to slander the authors of these articles, but also to imply his fellow editors Ben Schiller and Daniel Kuhn were incompetent.

Whatever the true reasons for the retractions, they clearly weren’t anything to do with protecting pseudonymous article subjects or harsher rules on pseudonymous authors.

CoinDesk was building up a journalistic head of steam again — with amazing successes like taking down FTX, and the reputations of its best writers.

Whoever was responsible for this debacle has trashed the improvements to CoinDesk’s reputation in two days.

This all comes as CoinDesk is being sold to Peter Vessenes and Matthew Roszak’s consortium. (The sale is in the final stages, but hasn’t quite gone through as we write this.) Was this supposed to make the site more or less attractive to the buyers?

CoinDesk has always been a money-loser. The conference business is the only part of the site that makes any money. (DCG is keeping this bit and selling the rest of the site.) This is a precarious position to be in, especially in a crypto winter.

As we lamented about The Block’s troubles, you can’t make money in crypto news without becoming just another cog in the crypto PR machine.

People will always wonder who your funders are and what you’re doing for them — and they’ll be absolutely correct to do so.

We advise that you treat crypto media as ephemeral and subject to the whims of publishers who suddenly realize they’ve said too much. Always keep copies.

The first rule is still: archive everything.

——-

* except us, of course

Posted on by Amy Castor 2

Crypto collapse: Tornado Cash arrests, Federal Reserve shuts down Farmington Bank, Prime Trust played Terra-Luna

Our latest post on the crypto collapse is on David’s site. [David Gerard]

In this edition:

  • The US charges Tornado Cash co-founders with laundering over $1 billion in criminal proceeds.
  • Federal and State regulators shut down FTX-affiliated Farmington State Bank 
  • Prime Trust files its first-day motion — they had been gambling on Terra-Luna!
  • Everybody still hates Binance
  • Sam Bankman-Fried says his lawyers told him to do it.
Posted on by Amy Castor 0

Crypto collapse: Sam Bankman-Fried goes to jail, SEC appeals Ripple ruling, Prime Trust bankrupt, the tangled tale of TrueUSD and Tron

  • By Amy Castor and David Gerard
  • Enjoying our posts? Keep them coming — send us money! Here’s Amy’s Patreon and here’s David’s. 
  • Another way you can help: tell just one other person about our work. Word of mouth is the best way to get information out about any creative work. If you like this, tell someone. Thank you.

“i cant wait until we get julain assange out of jail using Crypto. itll make all the pedophile money laundering worth it”

— dril

Go directly to jail

Sam Bankman-Fried’s bail has been revoked for witness tampering — specifically, that he shared ex-girlfriend Caroline Ellison’s private diary with a New York Times reporter. This was the last straw for Judge Lewis Kaplan, who said the documents were “something that someone who has been in a relationship would be unlikely to share with anyone except to hurt and frighten the subject.”

Previously, Sam tried to get in touch via Signal with another witness, former FTX US lawyer Ryne Miller, about getting their stories straight — which nearly saw Sam’s bail revoked that time.

Our hero is currently at MDC Brooklyn — notoriously one of the worst jails in the federal system — but the government has asked that he be remanded at Putnam, where he’ll be allowed more computer access to prepare for his upcoming trial on October 2.

Inner City Press live-tweeted the entire hearing. Sam’s lawyer Mark Cohen immediately filed an appeal. [Twitter, archive; Doc 198, PDF; Notice of Appeal, PDF; Order; PDF] 

Prosecutors filed a superseding indictment against Sam on August 14. The new indictment contains seven of the thirteen original charges, removing anything that wasn’t explicitly in the Bahamas extradition agreement. Sam’s $100 million of political contributions are now listed as just another way he misspent customer money. The government also filed its motions in limine — pretrial motions on what evidence is admissible and so on. [Indictment, PDF; in limine, PDF; Doc 165, PDF]

Mathew Russell Lee of Inner City Press has been the man on the scene at the SDNY courthouse for Sam’s hearings. As well as live-tweeting hearings, he collects his writeups as Kindle books. His collection on Sam is just out, recounting the saga as he saw it happen from December 2022 to last week. [Amazon UK; Amazon US]

SEC appeals Ripple

The SEC has asked SDNY District Judge Analisa Torres to pause their case against Ripple so they can appeal her questionable decision on XRP sales to the 2nd US Circuit Court of Appeals. The SEC’s grounds for appeal is that there’s now a genuine intra-district judicial dispute over the issue. [Doc 887, PDF]

On July 13, Torres ruled that XRP is a security when it’s sold to sophisticated investors, but it’s not a security when sold to retail investors on exchanges – which is precisely backward from the past ninety years of US securities jurisprudence.

In the same courthouse, District Judge Jed Rakoff, who is overseeing the SEC lawsuit against Terraform Labs and its cofounder Do Kwon, flatly rejected Torres’ decision and ruled that Terraform’s LUNA and MIR coins may have been securities when sold to retail investors.

John Reed Stark notes: “For SEC lawyers like myself, Judge Jed Rakoff is arguably considered the most respected and experienced securities law jurist not only in the SDNY but perhaps in the entire U.S. federal court system.” [Twitter, archive]

The SEC proposes to file its opening brief on August 18. Ripple would have until September 1 to respond, and the SEC’s reply would be due a week later on September 8. This is quite soon, but Coinbase and Binance are both using the Ripple decision to support their defenses against their own SEC suits.

Prime Trust goes Chapter 11. You had one job!

Crypto custodian Prime Trust filed for bankruptcy protection in Delaware on August 14. Prime halted withdrawals in late June after Nevada regulators put the company into receivership as insolvent.

How did Prime fall insolvent? They lost the keys to a pile of the crypto they were supposed to be keeping safe. This happened in December 2021. You had one job, guys!

From December 2021 until March 2022, Nevada says that Prime used customer funds to buy additional crypto. But for a year and a half, Prime just lied and told everyone they still had their crypto.

Prime has between 25,000 and 50,000 creditors and liabilities of up to $500 million. The firm’s top fifty creditors have claims of $145 million — including the largest claim of $55 million. [Business Wire; Stretto] 

Knives out at TrueUSD

Archblock, formerly TrustLabs trading as TrustToken, created TUSD, a supposedly asset-backed $3 billion stablecoin. It then sold TrueUSD to Justin Sun’s Tron in late 2020 — but the connection to Tron has always been a bit murky, and TrustLabs has never been upfront about who the coin’s actual owner was.

TrustLabs said the new owner was Techteryx, “an Asia-based consortium” — though TrustLabs/Archblock still managed TUSD until July 2023. [Medium, 2020, archive; Twitter, archive]

Alameda Research was the largest redeemer of TUSD. FTX listed TUSD when they knew that TrustLabs was misrepresenting who owned it. 

TrueUSD’s main custodian was Prime Trust — and Prime was also its main fiat on-and-off ramp for the US banking system. Prime Trust was thus Justin Sun’s main link to US banking. At least until Signature, Prime’s main banking partner, collapsed in March.

We wrote previously about how the TUSD coin seems pretty clearly unbacked and was being used by someone in the vicinity of Binance to pump the price of bitcoin earlier this year.

Archblock is now doing a merger to move the company’s domicile from the US to Switzerland, for unclear reasons. [Blockhead]

Daniel Jaiyong (“Jai”) An, co-founder of TrustLabs/Archblock, is not happy with this merger and move. An is suing Archblock and its executives: Rafael Cosman, co-founder and board member; Alex De Lorraine, COO and former board member; and Tom Shields, former chairman of the board. 

The complaint was filed pro se on July 14 in Delaware, meaning An did not hire an attorney. He wrote the 58-page complaint himself — and it shows. [DLNews; complaint, PDF] 

An was in the midst of negotiating the sale of TrueUSD to Techteryx, whose contact was Justin Sun of Tron. In fact, An describes the sale as being to Tron.

So, yes — TrueUSD is run by Justin Sun, if you ever doubted it.

TrustLabs got $32 million from investors in a 2018 accredited investor ICO under SEC Regulation D for a token called TRU. Investors included Andreessen Horowitz, BlockTower Capital, Danhua Capital, Jump Capital,* ZhenFund, Distributed Global, Slow Ventures, GGV Capital, and Stanford-StartX.

*Update: Although An mentions Jump Capital in his complaint, Jump Crypto wrote us to say it wasn’t Jump Capital, but Jump Crypto, a division of Jump Trading Group, who made the investment. 

An says that by January 2020, it was clear that the plan in the TRU white paper would never pass SEC muster. He wanted to pay the investors back, as the SEC would surely require – but he says that his cofounder Cosman blocked this. The other shareholders voted An out in July 2020.

TrustLabs finally issued the TRU token in November 2020, repurposed as the native token of their TrueFi lending protocol. An alleges the other executives enriched themselves with TRU tokens — but not him.

An says the company threatened him with legal action if he informed investors what the company was doing. An then filed as a whistleblower with the SEC. He claims the company has retaliated against him for doing so.

Several paragraphs claim past criminal actions by Cosman.

An remains a shareholder in Archblock. He wants the merger blocked and $94.32 million in damages.

Data Finnovation notes that if An’s allegations are true, then FTX knew since 2020 that TrueUSD was owned by Tron — because Tron’s lawyer Can Sun was working on the deal and Can Sun later ended up working for FTX under Daniel Friedberg. Remember that FTX minted nearly all the tethers on Tron in the same time period. [Twitter, archive; Medium, 2022]

Worldcoin wants your eyeballs

Sam Altman is the founder and CEO of OpenAI, the company behind ChatGPT. Worldcoin is Altman’s proof-of-eyeball cryptocurrency.

Altman promotes Worldcoin as a way to end poverty — and not just a way for him to collect huge amounts of biometric data. In exchange for giving up your iris scan, you’ll get 25 free Worldcoins (WLD). [CoinDesk] 

Worldcoin operators use “orbs” to scan eyeballs. The operators get paid in tethers. [MIT Technology Review, 2022]

Since the Worldcoin project launched on July 24, throngs of people in Kenya have been queuing up to get their eyeballs scanned — lured by free Worldcoin tokens. 

The problem is converting WLD into actual spendable money. The Worldcoin app has no direct withdrawal option — so the Kenyan users have to trade their WLD for USDT on Binance or put their trust in random over-the-counter buyers. So Worldcoin has become a honeypot for scammers: [Rest of World] 

“There’s no regulation in the space, and the people receiving the free tokens don’t have enough information. What do you expect?” Evrard Otieno, a Nairobi-based crypto trader and software developer, told Rest of World. “It’s just another opportunity for traders to make some money in the market.”

Days after the Worldcoin launch, the Communications Authority of Kenya and the Office of the Data Protection Commission ordered Worldcoin to suspend operations while they reviewed the project’s privacy protections. [Twitter, archive]

Kenyan police then raided the Worldcoin Nairobi warehouse on August 5 and seized the orbs. [KahawaTungu]. 

Data watchdogs in Britain, France, and Germany are also investigating Worldcoin for similar reasons. [ICO; Reuters]

The WLD token launched at $3.58 but had crashed to a low of $1.76 by August 14. WLD trades only against USDT and mostly on Binance. [CoinDesk; CoinGecko] 

Worldcoin’s investors, who have collectively put in $125 million, include the usual suspects — Andreessen Horowitz, Coinbase Ventures, Digital Currency Group, Sam Bankman-Fried, and Reid Hoffman, the co-founder of LinkedIn. [Crunchbase]

Hex enduction hour

Hex is an ERC-20 token that doesn’t do anything. Hex was promoted widely, even internationally on billboards, by a fellow called Richard Heart (or Richard Schueler to the tax man).

Hex promised stupendous yield rates. You bought Hex with ETH, then you staked the Hex, then you got paid interest in Hex. The website called Hex the “first high-interest blockchain certificate of deposit” that “was built to be the highest appreciating asset that has ever existed in the history of man.”

To “stake” your Hex, you would send it to … the Ethereum genesis address, 0x0. That is, you would throw your Hex into a black hole from which it could never be recovered. The Hex smart contract would then pay you Hex tokens in the future, apparently.

The SEC has finally sued Heart over Hex, PulseChain (a fork of Ethereum), and PulseX (a fork of UniSwap). They allege that Heart raised over $1 billion from these three unregistered securities offerings beginning in 2019. [SEC press release; Complaint, PDF]

The SEC says that Heart misappropriated investor funds to buy luxury sports cars, Rolex watches, and a 555-carat diamond, known as “The Enigma,” which he purchased in February 2022 in a Sotheby’s auction. Sotheby’s accepted ETH for the purchase. Heart was famous for promoting Hex with photos of himself showing off his wealth.

Heart has an unfortunate past of selling email spam software in the 2000s. He even called himself the Spam King. Bennett Haselton of peacefire.org successfully sued Heart in 2002 under Washington anti-spam laws for sending junk emails with deceptive headers. [ZDNet, 2002, archive; Panama Guide, 2007, archive]

David went on Richard Heart’s livestream in early 2020. David talked about books a bit, then Richard went into his sales pitch for Hex. Richard is a very charming and likable fellow, but in that particular way that cautions you not to let a penny of your cash within a mile of him. [YouTube, 2020]

This bank failure is fine, nothing to see here

A fourth US bank fell over this year — Heartland Tri-State Bank of Elkhart in Kansas, a small bank with just $139 million in assets. David Herndon, the Kansas banking commissioner, closed Heartland on July 28 after it became insolvent because it was “apparently the victim of a huge scam.”

Herndon said he didn’t know what the scam was — but he said other banks in the state were not affected. Our psychic powers tell us he has an extremely good idea what happened. The FBI is on the case.

The FDIC had to pay $54 million out of its deposit insurance fund – more than Heartland’s entire $48 million loan portfolio. [FT, free with login]

An employee of the bank said all workers at the bank are still employed, but Shan Hanes, the president and CEO, is no longer there. The bank was handed over to Dream First Bank as a growing concern. 

Everyone has been careful to note that the bank fell due to a “huge scam” and definitely not the sort of thing that took out Silvergate Bank, Silicon Valley Bank, and Signature Bank. The “scam” was first mentioned in an August 4 story in American Banker. [Kansas Reflector; FDIC; American Banker]

Still only good news for bitcoin

The SEC is suing Binance. BAM (Binance US) wants to block further discovery and depositions, because they’ve given the SEC so much information toward the consent order they had to be beaten into. BAM demands only four depositions of BAM employees, no depositions of BAM’s CEO or CFO, and no matters outside the consent order. We suspect that Binance doesn’t have some of the perfectly reasonable stuff the SEC has asked for, such as non-existent financial accounts — so Binance is resorting to the Tether defense. John Reed Stark thinks the SEC will largely prevail. [Doc 95, PDF; Twitter, archive]

The SEC sued Bittrex in April for listing securities without registering as an exchange. Bittrex has now settled with the SEC. They will pay $14.4 million disgorgement, $4 million prejudgment interest, and a $5.6 million civil penalty. [Press release] 

CoinDesk is laying off 20 people from editorial — 45% of the editorial staff, or 16% of all staff – to prepare for its sale to the Peter Vessenes and Matt Roszak consortium. We’re pretty sure everyone at CoinDesk is furiously updating their resumes right now. [The Block; TechCrunch]

Wyoming Senator Cynthia Lummis, several lobbyists and academics, and venture capital firms a16z and Paradigm have filed amicus briefs urging the SEC to drop its lawsuit against Coinbase. These mostly repeat Coinbase’s arguments. [Doc 48, PDF; Doc 50, PDF; Doc 53, PDF; Doc 55, PDF; Doc 59, PDF; Doc 60, PDF; Doc 62, PDF]

Kai Lentit of “Programmers Are Also Human” on YouTube goes to Web3 Berlin. “Where people without jobs ask people without companies for jobs.” [YouTube]

Posted on by Amy Castor 1

Crypto collapse: Terra judge repudiates Ripple finding, Razzlekhan cops a plea, Binance’s FDUSD stablecoin, CoinDesk sold, smart contracts still stupid

  • By Amy Castor and David Gerard

“EXCLUSIVE: IT’S RUMORED THAT GARY GENSLER HAD A BLT FOR LUNCH TODAY. EXPERTS BELIVE THIS IS BULLISH FOR A POSSIBLE SPOT BITCOIN ETF APPROVAL”

— Sean Tuffy

IMPORTANT: Patreon sponsors, please check your pledges!

Patreon changed its billing for this month from California to Dublin. So a lot of banks rejected the transactions as possible fraud.

This would easily be reversible … except that Patreon’s systems automatically wiped all patron relationships where a transaction bounced! [Twitter thread, archive]

If you sponsor anyone on Patreon, not just us: please check your transactions for August, re-send them if they bounced, and rejoin as a patron if you need to. The “retry” link should be located in your billing history. Your creators will be most grateful!

We also have Ko-Fi links where you can send us casual tips — here’s Amy’s and here’s David’s.

Razzlekhan cops a plea

Bitcoin rapper Heather “Razzlekhan” Morgan and her husband Ilya Lichtenstein were arrested in February 2022 for hacking Bitfinex in 2016. They agreed to a plea deal a couple of weeks ago. [DOJ press release; Reuters]

The plea hearings were today, Thursday, August 3. Morgan pleaded guilty to money-laundering conspiracy and conspiracy to defraud the United States. The BBC says that “Morgan masqueraded as a rapper.” [BBC]

Lichtenstein pleaded guilty to money-laundering conspiracy. He also admitted to being the original perpetrator of the Bitfinex hack!

Lichtenstein stashed some of the hacked funds as buried gold coins. Arrr. [Bloomberg, archive; CNBC]

Curve: smart contracts, stupid humans

“Smart contracts” are small programs that run right there inside a blockchain. In enterprise computing, these would be called “database triggers” or “stored procedures.”

You never use triggers or stored procedures unless you absolutely have to, because they’re very easy to get wrong and a pain in the backside to debug. In the real world, you keep your financial data and the programs working on it separate.

So, of course, crypto uses programs embedded in the database for everything and touts the difficulty in working with them as a feature and not evidence of the idea’s incredible stupidity.

A smart contract full of crypto can reasonably be treated as a piñata, just waiting for you to whack it in the right spot and get the candy.

Today’s piñata is Curve Finance, a DeFi exchange used for trading stablecoins and other tokens. Curve was hacked on July 30 due to a bug in the Vyper language compiler. Smart contracts that were using Vyper versions 0.2.15, 0.2.16, and 0.3.0 were vulnerable. About $70 million in funds was drained from liquidity pools whose smart contracts used these versions. [Twitter, archive; Twitter, archive]

Vyper, which is inspired by Python, was supposed to have been an improvement over the hilariously awful Solidity — a.k.a. “JavaScript with a concussion” — that most Ethereum Virtual Machine smart contracts are written in. Unfortunately, the Vyper compiler had a bug that meant compiled code was exploitable. So you could mathematically prove your smart contract program was correct … and the compiled version could still be exploited. This could hit any Vyper smart contract using vulnerable versions. [Twitter, archive]

Some have suggested that the Vyper exploit and subsequent Curve hack were “state-sponsored” — which is quite possible, given that we already know that North Korea actively seeks to launder money using crypto.

If North Korea is caught cashing out from the Curve hack, then we suspect large DeFi protocols may get a call from OFAC soon for the same reasons that Tornado Cash did.

David wrote an entire book chapter on all the ways that smart contracts were stupid back in 2017. He foolishly thought that this would knock the idea firmly on the head.

CoinDesk on the block

The bankruptcy of Genesis left Genesis owner Digital Currency Group scrambling to sell off the silverware. DCG’s news site CoinDesk was rumored in January to be up for sale. CoinDesk is now being bought for $125 million by an investor group led by Matthew Roszak (Tally Capital) and Peter Vessenes (Capital6). [WSJ]

DCG bought the failing media outlet in 2016 for $500,000. It’s been shoveling money into CoinDesk ever since. DCG wants to keep the CoinDesk conference business, which is the only part of the site that makes any money.

Bitcoin old-timers will remember Vessenes from the Bitcoin Foundation of the early 2010s. He was the CEO of CoinLab, which was functionally a US agent for the Mt Gox exchange. CoinLab and Mt Gox sued each other repeatedly over alleged contractual breaches. After Mt Gox went bankrupt, CoinLab escalated its claims against the dead exchange from $75 million to an amazing and implausible $16 billion. [Bitcoin Magazine, 2013; Cointelegraph, 2019]

We don’t know what Vessenes wants with a media outlet that only loses money, even from a commercial propaganda perspective. We suppose he could alienate the site’s expensive hires of the past couple of years.

A Ripple in the war on Terra

Terraform Labs issued the TerraUSD and Luna coins, which triggered the crypto crash of May 2022, which popped the 2021 bubble.

We were surprised to hear that Terraform is not dead! It has a new CEO, Chris Amani, who was previously the firm’s COO and CFO. Amani’s hot plan is to revive the Terra blockchain. Amani says that Terraform won’t be launching a new stablecoin. Founder Do Kwon, who is in jail in Montenegro, is still Terraform’s majority shareholder. [WSJ]

The SEC’s case against Terraform proceeds. Terraform filed in May to dismiss the SEC’s complaint, using similar arguments as Coinbase and Ripple. Terraform recently filed that the bizarre July finding in the Ripple case supports dismissing the SEC complaint.

The SEC responded to Terraform and confirmed that it’s appealing the Ripple ruling because it’s nuts: “Ripple’s reasoning is impossible to reconcile with all of these fundamental securities laws principles … SEC staff is considering the various available avenues for further review and intends to recommend that the SEC seek such review.” So we can look forward to that appeal in Ripple. [Doc 29, PDF; Doc 47, PDF; Doc 49, PDF; case docket]

Judge Rakoff concurred with the SEC and got quite pointed about the very dumb and bad ruling in Ripple: [Doc 51, PDF]

Howey makes no such distinction between purchasers. And it makes good sense that it did not. That a purchaser bought the coins directly from the defendants or, instead, in a secondary re-sale transaction has no impact on whether a reasonable individual would objectively view the defendants’ actions and statements as evincing a promise of profits based on their efforts.

… Simply put, secondary-market purchasers had every bit as good a reason to believe that the defendants would take their capital contributions and use it to generate profits on their behalf.

We don’t expect the Ripple ruling to stand.

4

Crypto trading is illegal in China — technically, anyway. The Wall Street Journal says that Binance users coming in from China still trade $90 billion a month — it’s “Binance’s biggest market by far,” with over 900,000 users. [WSJ]

The importance of China is “openly discussed internally.” In fact, “the exchange’s investigations team works closely with Chinese law enforcement to detect potential criminal activity.”

Binance denies the reports, with the very specific wording: “The Binance.com website is blocked in China and is not accessible to China-based users.” Good thing nobody in China uses a VPN, hey. The WSJ says that Binance directs its Chinese users to “visit different websites with Chinese domain names before rerouting them to the global exchange.” [Cointelegraph]

Binance CEO Changpeng “CZ” Zhao responded “4” — meaning that it’s all FUD. [Twitter, archive]

Fore!

The US Department of Justice is considering charges against Binance, but worries about causing a run on the exchange — or so says Semafor, which says the DoJ is considering fines or a deferred prosecution agreement instead. We think that any Binance user who hasn’t already priced in yet more US government action against Binance, particularly an indictment, just doesn’t want to be told. [Semafor]

Binance is cutting employee benefits, citing a decline in its profits — which suggests its customers are running away screaming. The non-US employees laid off in June were offered severance of two months’ salary paid in BNB tokens. [WSJ]

If Binance has a drop in profits, it’s likely the large institutional traders — Binance’s “VIPs” — jumping ship while they can. Where can they be going? Is there a good casino left for the VIPs with an ample supply of suckers to milk? Or was Binance the end of the line?

CZ has filed a motion to dismiss the CFTC complaint against him. He holds that Binance just doesn’t do business in the US, so the CFTC doesn’t have jurisdiction. Also, the securities aren’t securities, apparently. [Doc 59, PDF] 

CZ wanted to just shut Binance US earlier this year because of the regulatory heat, two people told The Information. The BAM board voted, but the lone holdout was Binance US CEO Brian Shroder. CZ also considered selling Binance US to Gemini or a sovereign wealth fund. Binance told Cointelegraph that it was “not commenting” on this issue. [The Information, paywalled; Cointelegraph]

In June, the SEC Nigeria ruled that Binance Nigeria had to stop operating in the country. Binance claimed that “Binance Nigeria” had nothing to do with them. SEC Nigeria has now reiterated that they really do mean binance.com. Nigeria has also told all other crypto platforms to desist: “all platform providers, making such solicitations, are hereby directed to immediately stop soliciting Nigerian investors in any form whatsoever.” [SEC Nigeria]

Everybody gets a stablecoin!

On July 26, Binance listed a new coin, FDUSD — a “1:1 USD-backed stablecoin issued by First Digital Labs. Reserves of FDUSD are held by First Digital Trust Limited.” Its trading pairs are BNB, USDT, and BUSD — with zero fees. [Twitter, archive; Binance]

Binance has been going through the stablecoins lately. Binance’s own BUSD has shut down, Binance doesn’t seem to be on such solid terms with Tether, and it tried pumping out a few billion questionably backed TrueUSD after that coin’s main custodian, Prime Trust, had collapsed. First Digital — previously known as Legacy Trust — just happens to be the remaining custodian for TrueUSD.

FDUSD was launched on June 1. Data Finnovation wonders why millions of dollars of deposits to and minting of FDUSD started a week before its supposed launch. “If you believe these are strongly linked to real usd you deserve what you’re gonna get.” [press release; Twitter, archive]

Vincent Chok, CEO of First Digital, has a storied history in business. Before Chok’s move to Hong Kong, he was selling real estate in Canada with Platinum Equities in 2014 — a company that was sanctioned by the Alberta Securities Commission for fraud (though Chok wasn’t named). Chok’s previous company was Intreo Wealth Alliance in Calgary. [press release]

None more stable

Wyoming is trying to do a stablecoin again with their Stable Token Commission! The total budget for the initiative: $500,000. We wrote before about Caitlin Long’s crypto bank Custodia and what a disaster that was. Custodia also hoped to launch a national stablecoin backed by the Fed, but the Fed was having none of it. So good luck, guys. [Wyoming Truth]

Michel de Cryptadamus notices that Tether’s attestations show its actual cash on hand is getting quite low. On December 31, 2022, they claimed to have $5.31 billion in cash. On March 31, 2023, they claimed $481 million. On June 30, 2023, they claimed just $90 million. This is as the issuance of tethers keeps going up. But we’re sure it’s all fine. [Twitter, archive]

The New York Fed wrote about “Runs on Stablecoins” — concerning the Terra-Luna collapse of May 2022. David Rosenthal contextualizes the New York Fed paper: “Note in particular that traders don’t actually believe that USDT is safe, it is just that its size makes it convenient for traders to use USDT unless, like Wile E. Coyote, they look down at it as they did last May.” [NY Fed; blog post]

The White House has told Rep. Patrick McHenry’s stablecoin bill to go away, at least according to McHenry. [The Block] 

Coinbase: not so keen on regulatory clarity

Coinbase wants regulatory clarity. The SEC was happy to give it to them. Brian Armstrong of Coinbase told the Financial Times that prior to the SEC suing Coinbase in June, the commission told them to delist all cryptocurrencies other than bitcoin. [FT, archive]

The SEC told CoinDesk that “SEC staff does not ask companies to delist crypto assets. In the course of an investigation, the staff may share its own view as to what conduct may raise questions for the Commission under the securities laws.” [CoinDesk]

Coinbase told CoinDesk that the FT report “lacks critical context” but was somehow unable to also say what the context was.

This is pretty rich given that it was literally Armstrong who told this to the FT, presumably hoping to gin up the crypto crowd — which he certainly did.

Coinbase concurred that the SEC did not, in fact, formally tell the exchange to delist everything except bitcoin.

We strongly suspect the actual conversation was Coinbase asking “Well how can we absolutely avoid breaking any laws then, smart guy?” and then the SEC fellow suggesting the very safest possible option.

Good news for bitcoin

Kyle Davies from Three Arrows Capital (3AC) has gone sovereign citizen. Davies holds that renouncing his US citizenship in October 2020 means that he can’t be held in contempt of court for not responding to 3AC liquidators Teneo in their US action. Davies’ lawyers also claimed that he hadn’t been properly served, as if he could claim not to know about the proceeding while arguing it in court. [Doc 106, PDF; Doc 107, PDF; case docket]

The SEC suggests that crypto “attestations” that aren’t audits might be a worry … for the accountants. Subheadings in the SEC’s statement on “The Potential Pitfalls of Purported Crypto ‘Assurance’ Work” include “The Accounting Firm’s Potential Liability for Antifraud Violations.” The footnotes mention that “liability for fraud may extend to “attorneys, engineers, and other professionals or experts.” This means that the SEC will look at what the developers were doing. [SEC]

Swift is running a pilot program that lets you make instant payments across different currency zones! So what backend do you need to use for instant remittances across currency zones? It turns out the answer is: a database. [FinExtra]

Kuwait has banned cryptocurrency for payments or investments. The National Committee for Combating Money Laundering and Terrorism Financing says it’s doing this to implement FATF requirements. Crypto mining is also banned. Securities under the Central Bank of Kuwait or Capital Markets Authority regulation are exempt. [Arabian Business; Al Jarida, in Arabic] 

FedNow, the Federal Reserve’s real-time retail settlement system, has gone live, dragging US retail banking kicking and screaming into the 2000s. This puts a Fed CBDC into the trash can, as the White House had already noted. The hard part is getting thousands of banks to sign up. But the Fed has its ways of asking for things. [Federal Reserve]

Media stardom

David told the Moscow Times — who are not fans of Mr. Putin and who are currently banned in Russia — that a CBDC ruble wouldn’t do anything new to help evade sanctions that Russia can’t already do with rubles: “The problem is that nobody wants rubles.” [Moscow Times]

Posted on by Amy Castor 1

John Jay Ray sues FTX inner circle for $1 billion, prosecutors want Sam Bankman-Fried’s bail revoked

We just posted an update on the latest happenings with FTX. This one is on David’s blog. [David Gerard]

In recent months, John Jay Ray III and his team have filed a pile of more actions to claw back funds for FTX creditors.

Ray is suing the FTX inner circle for $1 billion in fraudulent transfers. Among their bizarre plans, SBF and the gang wanted to turn the Island of Nauru into a doomsday bunker for effective altruists.

In other news, FTX and Genesis are settling, several media outlets are still battling to keep the court from permanently sealing FTX’s creditor list, and it’s looking like Sam is about to have his bail revoked. The prosecution is fed up with his efforts to “taint the jury pool.” Leaking Caroline’s diary to NYT reporters was the last straw for them. 

Image: Caroline Ellison, Sam Bankman–Fried, Nishad Singh, and Gary Wang

Posted on by Amy Castor 0

Stalking a charity: Why the FBI raided Kraken founder Jesse Powell’s home

  • By Amy Castor and David Gerard
  • If you like our work, become a patron! Here’s Amy’s Patreon, and here’s David’s. Sign up today!

Jesse Powell, who launched the Kraken crypto exchange in 2013, got a surprise knock on the door in March when the FBI showed up at his $11 million Los Angeles home for an unannounced search — and left with some of his electronics.

Powell’s house was searched because of allegations that he was hacking and cyber-stalking Verge Center for the Arts, a Sacramento non-profit that he founded in 2007 and bankrolled for several years.

In the wake of the FBI search, Powell is now suing Verge for booting him off the board in 2022. [New York Times, archive]

After the crypto bubble popped in May 2022, Powell became notably more vocal in his crank political views. We’re guessing the Verge board was fed up with his antics, and it wasn’t helpful to them in dealing with more normal art supporters.

Powell feels deeply hurt by getting ousted from the board of Verge. He responded by suing Verge to return his donations to the charity and to reinstate him to the board. We’re not sure those two things go together.

How Verge happened

Powell got his start trading Magic: the Gathering game cards as a teenager in the 1990s. That’s how he met his school friend Roger Ver, who later became a huge bitcoin investor and promoter. 

Like a lot of other early bitcoiners, Powell was into video gaming. Many games have their own in-game currencies — often called “gold” — that gamers use to buy and sell digital items, like characters and weapons.  

In 2001, Powell co-founded Lewt, an online company that sold virtual items and currencies related to games like Blizzard Entertainment’s Diablo II and World of Warcraft.

How did Lewt work? When Diablo III came out in 2012, Powell wrote on his personal blog that he was “Offering $1,000,000+/yr for reliable, unlimited and exclusive Diablo 3 item and gold supply.” [Forthewin, 2012, archive]

Powell didn’t ask how or where you obtained that supply: “Please take measures to anonymize yourself when contacting me.” 

It’s difficult to overstate how much the majority of gamers hate guys like this. GameFAQs user FindKenshi wrote in May 2012: “The man made hundreds of millions of dollars off of ‘black market’ item sales, and his massive supply came from a never ending stop of exploits, hacks, insiders from Blizzard, and other sources … No wonder hundreds of accounts are getting stolen every day.” [GameFAQs, 2012, archive]

In 2007, Powell took some of the money he earned from selling virtual game items and leased a long-empty former Napa Auto Parts warehouse in Sacramento on the corner of 19th and V. Streets. He invited area artists to apply for free studio space. And so, Verge was born, initially as a commercial enterprise.

In 2010, Verge Center for the Arts was incorporated as a nonprofit. The space moved to a new location at 625 S. Street on the corner of 7th and S. Streets. Verge bought this building in 2014 when it merged with the Center for Contemporary Art Sacramento. [Baartquake, 2009; Verge]

Verge executive director Liv Moe claims responsibility for growing the arts group into a commercial gallery. Today, Verge houses three to four exhibitions per year, offers classes, labs, and workshops for artists, and has over 40 resident artists. [LinkedIn, archive]

Powell’s erratic behavior

Jesse Powell holds many bizarre opinions, which he’s been happy to express for years. A lot of these opinions are quite prevalent in the bitcoin world. 

Powell fully subscribes to the conspiracy-originated “sound money” theories of bitcoin — though at least he doesn’t believe the US is headed for hyperinflation. He is, however, a committed bitcoin moon boy: “when you measure it in terms of dollars, you have to think it’s going to infinity.” [Fortune, 2020; Bloomberg, 2021, video]

Powell also a COVID conspiracy theorist and vaccine denialist. He believes in “natural immunity,” claims there exists an “anti-science Cult of Vaxx eugenics program,” and warns of a “China COVID psyop.” He is outraged at the lack of respect for “alternative treatments,” such as ivermectin — which, to be clear, doesn’t do anything for COVID, and only cranks think so. But Powell assures us that he respects “vaxxed people, some of whom are statists with compromised immune systems.” [Twitter, archive; Twitter, archive; Twitter, archive; Twitter, archive; Twitter, archive; Twitter, archive; Twitter, archive]

So Powell is nuts — or “eccentric,” since he’s rich. That’s not a major problem as long as he’s not acting-out nuts where people outside the bitcoin world can hear him. But after the crypto market crashed in May 2022, Powell started acting out.

In June 2022, the New York Times — or “Satan,” if you’re a Silicon Valley tech CEO — wrote about workplace issues at Kraken after it got hold of a “culture document” that Powell had written up and distributed to staff. [New York Times, archive]

A later version of the guide was posted publicly — one that, among other changes, no longer explicitly listed the rights to COVID denial and bearing arms that were in the version the New York Times saw. [Kraken, archive]

Powell was doing things at Kraken that would have been disciplinary offenses in any reasonable workplace — particularly in California — if he were not the CEO. As Jesse described the issues he was having with employees: [Twitter, archive]

5/ What are they upset about?

  • * DEI (Silicon Valley’s version)
  • * pronouns, whether someone can identify as a different race and be allowed to use the N-word
  • * whether differences in human sex exist at all
  • * being respected and unoffended
  • * being “harmed” by “violent” words

In a company Slack channel labeled “and you thought 4chan was full of trolls,” the person asking if he could identify as a different race to say slurs in the workplace and who led discussions of whether women were just naturally stupider than men and whether “most American ladies have been brainwashed in modern times” was, of course, Powell himself.

After the New York Times story, Powell tweeted: “Back to dictatorship.” [Twitter, archive]

Three months later, in September 2022, Powell stepped down from his role as CEO of Kraken. Powell was still Kraken’s largest shareholder and became chairman of the board. [Kraken, archive; New York Times, archive]

Nobody had the power to fire Powell, so he would have stepped down voluntarily — likely under pressure. We suspect that someone convinced him that his HR attitude was not going to be good for a business that dealt with highly regulated financial services and was already under investigation for sanctions violations.

Guiding principles: Powell sues Verge

After the FBI raid, Powell sued Verge and Verge’s treasurer and counsel Phil Cunningham in June 2023. Powell alleged that Verge directors conspired against him while continuing to take his money, then pushed him out. His PR company kindly sent us a copy of the complaint, as written up by his attorney, Brandon Fox. [Complaint, PDF]

Powell says that he had provided Verge with years of financial and technical support — and the Verge board turned on him last summer. On June 20, 2022 — shortly after the New York Times story — the board held a secret meeting where they declared Powell’s seat vacant as of October 2019. 

Since Powell didn’t attend board meetings at all — he says he didn’t have to as a founding member — he didn’t learn that he was out until October 2022, when he discovered he had been removed from the board’s distribution list and his name had been wiped from Verge’s public-facing platforms.

Powell put $1.5 million into Verge, according to the complaint. He registered vergeart.com — the domain name Verge used up until June 2022 — and paid for the domain and its hosting fees. He also paid for Verge’s G Suite and Slack accounts.

Verge asked for the domains and accounts back so that “no one individual owns anything important to the org” — which is reasonable and normal, and Verge really should have insisted on this in 2010 when it became a non-profit.

(That said, we fully understand that it can take charities ages to get around to basic things.)

​​After Powell was kicked off the board, Verge set up a new domain, vergecontemporaryart.org, and redirected the vergeart.com domain. Powell said that the vergeart.com was his domain and he objects to Verge putting the redirect in place “without Mr. Powell’s permission or awareness.”

Powell says that Verge founding director Liv Moe, Verge president Gwenna Howard, and Cunningham wanted him gone because “they disagreed with what they believed to be his views on certain social, cultural, and political issues.” Well, yes.

Howard wrote to Powell: “The Board finds your views to be completely contrary to Verge’s Guiding Principles.” These would have been the views revealed in the June 2022 New York Times story. [Guiding principles, archive]

Verge’s guiding principles state that “Verge is committed to becoming a more open and welcoming organization” and seeks to embrace “different ethnicities, skin colors, gender identities and body types, religious beliefs, physical or cognitive challenges, or socio-economic standing.”

Powell says his views do align with Verge’s guiding principles, and that it was actually Moe who violated the principles. His evidence is two tweets from several years back mentioning white people.

Cunningham’s cease and desist to Powell

Powell’s behavior led to Cunningham writing to Powell and Kraken on November 2, 2022 — two months after Powell stepped down as CEO. Powell claims in his suit that Cunningham “defamed him with falsehoods”:

In telling Mr. Powell’s employer that, among other things, Mr. Powell effectively hacked Verge’s domain and accounts, blocked Verge’s access to its accounts and domain, and refused to relinquish control over Verge’s domain and accounts, Mr. Cunningham, individually, and Verge, acting through Mr. Cunningham as its agent, expressed false statements about Mr. Powell and implied that Mr. Powell was unprofessional and dangerous, and that he had committed a crime.

This letter wasn’t some casual personal communication — it was Cunningham writing “in my official capacity as counsel for VERGE Center for the Arts, a California not for profit corporation.” [Letter, PDF]

This was a legal demand to cease and desist hampering the operations of the charity.

Cunningham complains that Powell has blocked Verge from its usual email accounts and interfered with its technology services. He complains of the “substantial cost and delay” that Powell has incurred for Verge.

Jesse didn’t take his ouster lying down — he used the old vergeart.com domain that he still controlled to and put up a website saying that he was still on the board!

VERGE believes you have used its old domain to create an internet copy of the VERGE website and then changed that website to reflect that you are still a member of the board of directors.

Unsurprisingly, Verge considers this behavior may cause them reputational damage — whether Powell owns the registration to vergeart.com or not.

Cunningham cites California precedent that “your control of the domain names is like owning a storage locker and you refuse to give VERGE the key to the locker so it can retrieve its property.”

Cunningham’s key point is:

The business records and email communications associated with VERGE are the personal property of VERGE.

Powell fails to realize this. He paid the bills for the accounts — but the contents belong to the charity, which is its own entity.

What happens now?

Powell wants Verge to pay damages determined by trial and disgorge the money he gave them after he was covertly booted. He also demands to be put back onto the board.

Those two things aren’t going to go together. Powell put his heart and soul into Verge for years — but Verge is a separate corporation from its founder, and its founder’s views have diverged from the charity’s. Powell’s suit repeatedly fails to understand that the charity is not his personal property.

This suit is not sane and balanced behavior. It’s completely sincere, and Powell’s hurt and pain are real — he feels betrayed. But that’s not enough to make a lawsuit a good or viable idea.

At the very least, Jesse should have contacted his lawyer before he held Verge’s daily office work accounts hostage and edited its website.

We would expect the equitable outcome to end up being something like, Powell giving back the domain and email accounts and Verge returning some of his donations. But that may be too reasonable for Powell.

Verge has until August 7 to respond to Powell’s complaint. We look forward to hearing Verge’s side of the story. 

Posted on by Amy Castor 0

Crypto collapse: Alex Mashinsky of Celsius arrested, Ripple’s bizarre XRP win, Gemini sues Genesis, Gisele Bündchen knew nothing!

The latest episode of the crypto collapse is out. This edition is on David’s blog. [David Gerard]

In this episode, we cover:

  • The Mashinsky Method: mycrimes.epub
  • Good, if bizarre, news for XRP
  • Binance hates Binance
  • Coinbase, the battle continues
  • A spot of regulatory clarity
  • Gisele Bündchen: Crypto? What’s a crypto?

Image: Alex Mashinsky shows up for his arraignment after an early morning arrest.

Posted on by Amy Castor 0

Crypto collapse: Venture capital goes home, Coinbase, Tether backing, FTX sues Hollywood VCs, 3AC on the beach

  • By Amy Castor and David Gerard

“My survey of three card monte tables suggests they’ve always got at least one patron but you won’t see anyone playing at the big casinos which just shows the system is rigged.”

— crossestman

Crypto’s not dead! Look, it’s still twitching

Crypto venture capital investments have gone full crypto collapse, from $21.6 billion in 2022 to just $0.5 billion so far in 2023. This Fortune article includes the funniest graph of the week: [Fortune, archive]

Investors are leaving the crypto sector without any plans to return. [Bloomberg] 

Crypto trading is at its lowest level since October 2020. The Block puts the volume for May 2023 at $424 billion. For comparison, May 2021 was $4.25 trillion and May 2022 was $1.4 trillion. [The Block]

Volume numbers are considerably less if you take into account that unregulated crypto exchanges are known for faking their volumes. Crypto trading is all but dead. We know this because exchanges run by normal finance guys don’t see any trading. [Bloomberg]

Traditional finance groups want to start their own crypto exchanges run in a non-clown-shoes manner. A nice ambition — but that was Gemini’s pitch and even they still had to resort to risky garbage. [FT] 

The Winklevoss twins marketed Gemini as an exchange that played by the rules — one that serious money people could trust. But after the failure of FTX and the Genesis bankruptcy — in which Gemini is the largest creditor — they lost that trust. Maybe they could pivot to AI? [Bloomberg] 

Crypto.com halted services for institutional traders in the US on June 21. The exchange cited “limited demand” as the reason. [news.bitcoin.com]

The rest of crypto is also desperate. Reddit founder Alexis Ohanian is still pushing play-to-earn games and touts Axie Infinity as a huge success. Gamers hate play-to-earn and think it’s vacuous horse hockey. [Twitter, archive]

Universe.xyz is the latest NFT market to shut down, taking all the images on the site with it. As more NFT markets shut down, your apes are in danger of going blank forever. [Twitter, archive]

TechMonitor asks: “Is crypto finally dead?” We should be so lucky. With quotes from David. [TechMonitor] 

Coinbase: We didn’t do it, nobody saw us, and it wasn’t even a thing

Coinbase has responded to the SEC’s complaint with 177 pages of chaff. [Doc 22, PDF]

Paragraph 2 makes the claim that in approving Coinbase’s original S-1, the SEC approved Coinbase’s business. Let’s quote again this line from the S-1, signed off by Brian Armstrong: [SEC]

Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

Coinbase argues that Congress is looking into cryptos, therefore existing laws don’t matter. Paul Grewal, Coinbase’s general counsel, has told Bloomberg how Coinbase’s big hope is that new laws will save their backsides. This is correct — Rep McHenry’s new crypto markets bill is indeed Coinbase’s only hope. [Bloomberg]

Coinbase claims that with this complaint, the SEC is working well outside its remit and that its ideas about whether crypto tokens are securities are entirely novel. Never mind the SEC’s repeated wins in court whenever a crypto issuer is dumb enough to take the matter that far. [Doc 23, PDF; CoinDesk]

Earlier, Coinbase filed a writ of mandamus demanding that the SEC consider its proposal for new crypto regulations. The SEC says it’ll have something to report within 120 days. Judge Cheryl Ann Krause expects a decision on Coinbase’s proposal from the regulator by October 11. [Doc 30, PDF; Doc 32, PDF]  

Tether: Yes! We have no Chinese commercial paper

CoinDesk finally got access to documents from the New York Attorney General related to Tether’s reserves from March 31, 2021. [CoinDesk; CoinDesk, PDF; CoinDesk, PDF; CoinDesk, PDF; CoinDesk, PDF; Bloomberg]  

The NYAG claimed that Tether had been lying about its reserves — which it had been. Tether and Bitfinex settled with New York for $18.5 million in February 2021.

The settlement required Tether to publish a breakdown of its reserves quarterly for two years. But what the public got to see in May 2021 were two skimpy pie charts, showing where Tether had parked its alleged $41 billion in backing reserves at the time. [Tether, archive]

CoinDesk then filed a Freedom of Information request for the fully detailed version of Tether’s report to the NYAG on its reserves.

Tether fought the release of the documents for two years. In February, they lost in court and decided not to go ahead with an appeal. So the NYAG sent Coindesk the documents on June 15. New York also sent the same documents to Bloomberg and Decrypt.

In June and July 2022, Tether vigorously denied that it held money in Chinese commercial paper — loans to Chinese companies which most money market funds avoid. It also said in September 2021 that it had no debt or securities linked to Evergrande, a cash-strapped Chinese real estate company. [Tether, 2022; Tether, 2022; CoinDesk, 2021]

Bloomberg called out Tether’s wider claims of no involvement in Chinese commercial paper as nonsense. [Bloomberg, 2021]

It turns out that Tether did hold Chinese commercial paper in 2021, and quite a lot of it. It held securities issued from banks around the world — but mainly China, including debt issued by the Industrial & Commercial Bank of China, China Construction Bank, and Agricultural Bank of China. ChainArgos took a close look at the funds and put together a spreadsheet. [Google Docs]

The Tether press releases on the FOIed docs are a hoot. Lots of table pounding. [Tether, archive; Tether, archive]

We give CoinDesk a bit of stick from time to time. But we also read the site every day and follow the livewire feed. They get all the credit for doggedly pursuing this one.

FTX versus the venture capitalists to the stars

John Jay Ray’s team at FTX seems to have found some more truly fascinating documents. FTX is suing venture capital firm K5 Global, its managers, Michael Kives and Bryan Baum, and various related entities to recover the $700 million that Sam Bankman-Fried put into the firm.

Kives worked at Creative Artists Agency from 2003 to 2018 as a Hollywood talent agent. He left in 2018 to found K5.

In February 2022, SBF attended a dinner party at Kives’ house, with A-list celebrities, billionaires, and politicians. He was deeply impressed with Kives’ “infinite connections” and even contemplated that Kives could work with FTX on “electoral politics.”

Less than three weeks later, SBF signed a “term sheet” agreeing to give Kives and Baum $125 million each personally and to invest billions of dollars into K5 over three years: 

The Term Sheet was little more than a cursory list of investment ideas, and repeatedly stated that the actual “mechanics” of these very substantial investments would be later worked out “in the long form documents.” 

SBF wired $300 million to K5 the next day. No due diligence was done on any of the deals — including $214.5 million for a 38% stake in MBK Capital LP Series T, whose gross asset value was just $2.94 million as of March 2022.

K5 were very close advisors. Kives and Baum joined FTX’s internal Slack chat. SBF reserved a room for them in his Bahamas luxury apartment. In May, Alameda transferred another $200 million to K5.

Sam didn’t worry too much about the fine details. In an August 2022 internal document, he wrote that “Bryan is ~100% aligned with FTX,” that “FTX is aligned with Bryan too,” and that “if there are significant artificial up-downs between FTX and K5 as entities, I’m happy to just true it up with cash estimates.”

SBF wrote that he was:

… aligned with Bryan and K5, and treats $1 to it as $1 to FTX even though we only own 33%, because whatever, we can always true up cash if needed, but also, who cares … There are logistical, PR, regulatory, etc reasons to not just merge K5 100% into FTX but I and Bryan will both act how we would if they were merged.

… Is Bryan an FTX employee, or a random 3rd party? The answer, really, is neither. The answer is that it’s sorta complicated and liminal and unclear. Bryan lives in the uncanny valley.

FTX and Alameda employees flagged K5’s “pretty bizarre” expenses at the time, such as “over $777k in design expenses” that had been billed to Alameda.

FTX wants the $700 million back as having been avoidable transfers. It may want even more money, as Ray’s team suspects that more interesting details will come out in discovery. FTX also wants K5’s claims in the bankruptcy disallowed until this matter is resolved. [Adversary Case, PDF]

More news from Chapter 11

Cameron Winklevoss tweeted yet another open letter to Barry Silbert of Digital Currency Group on July 4, demanding back Gemini Earn customers’ money. Winklevoss accuses DCG of “fraudulent behavior” and wants them to do the “right thing” and hand over $1.465 billion of dollars, bitcoin, and ether. If Silbert doesn’t pay up, Winklevoss threatens to sue on Friday, July 7. CoinDesk, which is owned by DCG, couldn’t get a comment from their own proprietor on the story. [Twitter, archive; CoinDesk]

After the deal for Binance.US to buy Voyager Digital fell through, Voyager gave up trying to sell itself and is liquidating. Here’s the liquidation notice. [Doc 1459, PDF]  

Celsius is finally converting its altcoins to BTC and ETH as it pursues its plan to relaunch with the auction-winning consortium Fahrenheit. [CoinDesk]  

If you have vastly too much time on your hands, here’s the full Celsius Network auction transcript — all 256 pages of it. [Doc 2748, PDF]

Customers of the bankrupt US branch of the Bittrex crypto exchange — which is being sued by the SEC — can withdraw those holdings that are clearly theirs … whatever that means. [CoinDesk]  

Three Arrows Capital: What Su and Kyle did next

Crypto was taken out in 2022 by a one-two punch of Terra-Luna collapsing in May and then crypto hedge fund Three Arrows Capital collapsing in June.

Other crypto firms had invested in Terra-Luna and 3AC because they paid the highest interest rates! Now, you might think that investment firms would know that high interest means high risk.

3AC’s two founders, Su Zhu and Kyle Davies, just shut their office door in Singapore in late May 2022 and skipped the country, leaving their staff to tell investors the bad news.

What did Zhu and Davies do next? They spent the summer traveling around Asia, went surfing, and played video games. Davies is currently in Dubai and Zhu is back living in Singapore. [NYT]

Zhu and Davies insist they must have done nothing wrong because no government has filed charges yet. Uh huh.

3AC’s creditors think Zhu and Davies have done one or two things wrong. Teneo, the liquidator trying to clean up the 3AC mess, wants the pair fined $10,000 a day for contempt, saying that Davies has failed to respond to a subpoena. [CoinDesk]

The pair are suing Mike Dudas, the original founder of crypto media outlet The Block, for defamation. In the US, LOL. They allege Dudas said nasty things about their new crypto venture OPNX, though the suit doesn’t say what allegedly defamatory claims Dudas made. We expect the 3AC boys to have some trouble demonstrating they have a reputation to malign. Stephen Palley is representing Dudas. [CoinDesk]

Regulatory clarity

In the UK, the Financial Services and Markets Bill has passed. One part of this gives the Treasury greater powers to regulate crypto, likely via the Financial Conduct Authority. We should expect more detailed regulations within a year. [CoinDesk]

This comes not before time. UK losses to crypto fraud increased more than 40% to surpass £300 million (USD$373 million), according to Action Fraud, the national reporting center for fraud and cybercrime. [FT] 

Europe’s MiCA is now law from the end of June 2023. It goes into application in one year for stablecoins and in 18 months for general crypto assets and virtual asset service providers. [EUR-Lex]  

The European Central Bank keeps talking about doing a CBDC. This is good news for crypto! Or maybe it isn’t: [ECB]

Policymakers should be wary of supporting an industry that has so far produced no societal benefits and is increasingly trying to integrate into the traditional financial system, both to acquire legitimacy as part of that system and to piggyback on it.

The CFTC Division of Clearing and Risk sent out a staff advisory to registered derivatives clearing organizations on May 30, reminding them of the risks associated with expanding the scope of their activities. It specifically addressed crypto. [CFTC]

When the CFTC points out that market shenanigans are illegal in crypto just like they are in regular commodities, keep in mind that Avi Eisenberg is finally going to trial for allegedly committing those precise market shenanigans in DeFi. These are real go-to-jail crimes. [Bloomberg; Schedule, PDF; Case docket]  

The Thailand SEC has banned crypto lending that pays returns to investors. It now also requires crypto trading firms to post the following warning: “Cryptocurrencies are high risk. Please study and understand the risks of cryptocurrencies thoroughly. because you may lose the entire amount invested.” [SEC Thailand, in Thai]

New York has settled with CoinEx after suing them in February for failing to register as a securities exchange. The company has to stop operating in the US — not just New York — return $1.1 million to investors, and pay $600,000 in penalties. [NYAG; Stipulation and consent, PDF]

The ETF trick will surely work this time

Guys, guys, the Blackrock and Fidelity bitcoin ETFs will change everything! They’re going to get surveillance of trading and market data from somewhere! This will surely answer all of the SEC’s previous objections to bitcoin ETFs! The market will be delighted!

… oh. The SEC has found these applications inadequate. [WSJ]  

Blackrock and Fidelity are going to try again with Coinbase as the exchange supplying market surveillance. [CoinDesk]  

But the trouble with monitoring at Coinbase is that Coinbase isn’t where the market is — the bitcoin market is at Binance. That’s where price discovery happens.

We expect these ETF applications to go no further than all the previous bitcoin ETF applications.

The good news for bitcoin continues its monotonous patter

Binance senior staff have been jumping ship. General counsel Han Ng, chief strategy officer Patrick Hillmann, and SVP for compliance Steven Christie all resigned this week. They specifically left over CZ’s response to the ongoing Department of Justice investigation. [Fortune]

Binance.US’s market share has dropped to 1%, down from a record 27% in April. Is Binance giving up on its US exchange? The market share nose-dived after the SEC sued Binance in June. [WSJ]  

Fortune favors the internal trading desk: Crypto.com has been caught trading directly against its own customers. Dirty Bubble spotted the job ads for a proprietary trading desk at the firm in November 2022, of course. [FT, archive; Twitter, archive]  

Russia is giving up on the idea of a unified state-run crypto exchange. Instead, it’s focusing on regulation for multiple exchanges. Russia is continuing to promote crypto as a way to evade sanctions for making international payments. When you’ve devastated your economy by embarking upon a very stupid war, that’s … a strategy? [Izvestia, Russian]

In crypto collapse news from the distant past, something’s happened in Quadriga! The government of British Columbia is seeking forfeiture of $600,000 in cash, gold bars, and Rolex watches that QuadrigaCX cofounder Michael Patryn has in a safe deposit box. The RCMP alleges the items are the proceeds of unlawful activity. [Vancouver Sun]

Posted on by Amy Castor 0

Crypto collapse: TrueUSD in trouble, Prime Trust and Banq go down, Europe hates Binance, BlockFi, Terra-Luna, Twitter is just resting

We’ve been catching up on the latest crypto collapse news. It’s David’s turn to post, so you’ll find the writeup on his blog. [David Gerard]

In this episode:

  • Twitter is becoming unusable! Archive everything!
  • Prime Trust takes out TUSD.
  • Banq, Prime Trust, Jon Jiles, and NFTs.
  • Europe really hates Binance.
  • Everybody hates Binance.
  • BlockFi creditors get spicy.

Also, if you haven’t already, please support us on Patreon!

Posted on by Amy Castor 0

FTX: John Jay Ray files second interim report, sues Daniel Friedberg

  • By Amy Castor and David Gerard

Me: [turning to guy at gas station] so the polycule was mostly in the dark about the fraud. SBF had back door access
Guy: [pulling out taser from under seat] is that right

— Ed Zitron

“Attorney-1” was a bad boy

John Jay Ray III, the CEO of FTX in bankruptcy, has released a second interim report detailing how FTX skirted bank secrecy laws and commingled funds — and how an FTX lawyer, “Attorney-1,” served as Sam Bankman-Fried’s fix-it and hatchet man. [Report, PDF]

(We covered the first interim report, which came out in April, here.)  

“Attorney-1” is very obviously Daniel Friedberg, who was FTX’s compliance officer and Alameda’s general counsel. A day after Ray released the interim report, FTX filed suit against Friedberg, alleging malfeasance in the course of his duties. The complaint details many of the same incidents in the report. [WSJ; redacted complaint, PDF]

In 2008, Friedberg was a colleague of Stuart Hoegner at Ultimate Bet, where the pair helped cover up a multi-million-dollar scandal in which the site cheated its players. Hoegner now works for Tether, a dubious stablecoin issuer. 

SBF hiring Friedberg should have been the first clue that FTX.com was a massive fraud. 

Friedberg resigned around the time the FTX Group filed for bankruptcy. Weeks later, he met with the FBI, the DOJ, and the SEC and told them he wanted to cooperate with any investigations.

There’s an interesting line in the interim report:

The Debtors have identified on Attorney-1’s hard drive a final copy of the false written testimony that Bankman-Fried provided to Congress.

FTX has access to the hard drive from Friedberg’s computer. Did Friedberg just leave the evidence behind when he quit FTX? Or did he willingly hand over his laptop to FBI agents? This hard drive seems to have had all sorts of interesting documents on it.

Friedberg hasn’t been charged with any crimes as yet — but based on Ray’s report and the ensuing lawsuit, we wouldn’t be surprised if there’s a sealed indictment out there waiting for him.

Following the money

FTX owes $8.7 billion in customer funds — over $6.4 billion of which is cash and stablecoins. According to Ray, Friedberg lent a helping hand when FTX executives “used commingled customer and corporate funds for speculative trading, venture investments, and the purchase of luxury properties, as well as for political and other donations designed to enhance their own power and influence.”

Ray details what he found about various FTX accounts and the flows of cash in and out of them. Tracking money flows was “extraordinarily challenging”:

… from the inception of the FTX.com exchange, the FTX Group commingled customer deposits and corporate funds, and misused them with abandon … Commingling and misuse occurred at their direction, and by their design.

Ray and his team have recovered $7 billion in “liquid assets” so far, which is astounding — though we’re not sure how liquid the crypto component of that will be in practice, or how much is unsaleable FTT tokens.

The report does not include FTX in Japan, Cyprus, or Singapore — areas where funds were properly segregated by law. It also does not address FTX.US, which Ray says is still under investigation. 

No, no, it’s research 

FTX lied to banks — a lot. Alameda Research had “research” in its name so that it could get bank accounts without immediately being flagged for enhanced due diligence as a money services business. FTX couldn’t get banking, so they used Alameda bank accounts to receive customer cash, right from the start. 

But banks started asking inconvenient questions. When “Bank-1” — likely either Signature or Silvergate — asked why FTX was sending money to Alameda, an Alameda employee told them that “customers occasionally confuse FTX and Alameda” but that all wires through the account were to settle trades with Alameda.

This was false. In just 2020, one of Alameda’s accounts received more than $250 million in deposits from FTX customers and more than $4 billion from other Alameda accounts that were funded in part by customer deposits, says the report.

When banks started rejecting wires to Alameda accounts, FTX set up North Dimension so it could continue to funnel money to FTX. Friedberg and SBF told “Bank-1” that North Dimension was a crypto trading firm with substantial operations. In fact, it was an empty shell with no employees or operations.

Friedberg also engaged his old law firm to create a fake corporate register for North Dimension for the bank: “Specifically, after Bank-1 asked for a copy of the register, Attorney-1 directed a law firm to create a register.”

Time travel by document

In 2021, FTX Trading Ltd was planning to go public. As part of the paperwork for that, it needed an audited financial statement.

The problem was that from April 2019 when FTX.com first launched until the end of August 2020, FTX.com customers had been sending cash deposits to Alameda bank accounts. FTX needed to cover up the fact that they were just using Alameda to move customer and company funds around without any agreement to do so.

So in January 2021, Friedberg had his old law firm draft a “cash management agreement” to explain why Alameda held FTX cash. Friedberg created from this a fake “Payment Agent Agreement.”

FTX usually signed documents with DocuSign to provide an electronic record. In this case, to avoid a DocuSign timestamp, SBF wet-signed the document on behalf of Alameda and FTX on April 16, 2021 — backdated to 2019 “for the sole purpose of providing it to an external auditor.”

How did Ray’s team know the document was backdated? They found the original document file on Friedberg’s hard drive:

While metadata reflects that Attorney-1 created the Payment Agent Agreement on April 12, 2021, and that the executed version was last modified on April 16, 2021, the agreement purports to have an “Effective Date” of June 1, 2019 —nearly two years earlier.

The IPO never happened — but the fake document did help the FTX companies get more funding from “potential investors in connection with its $400 million Series C financing that closed in January 2022.”

Sam the philanthropist

SBF was famous for his Effective Altruism. He used FTX funds by preference:

The Debtors have been able to identify certain transactions that appear clearly to have been funded in part with commingled customer deposits. These include political and “charitable” donations, venture investments and acquisitions, and the purchase of luxury real estate for senior FTX Group employees in the Bahamas.

Sam’s charitable donations got a bit esoteric. The FTX Foundation gave one guy $300,000 to “Write a book about how to figure out what humans’ utility function is” — a question that LessWrong rationalist philosophy needs to answer so as to construct the perfect superintelligence to rule over us all. And that hopefully won’t turn out to be Roko’s basilisk. [LessWrong, PDF, 2004]

The Foundation gave someone else $400,000 to make YouTube videos to promote LessWrong rationalism and Effective Altruism.

Closer to home, the Foundation gave $20 million to the Guarding Against Pandemics PAC, which was run by Sam’s younger brother Gabe Bankman-Fried.

FTX sues Friedberg

Friedberg’s malfeasance was egregious enough that FTX  is suing him for “damages caused by breaches of fiduciary duties, legal malpractice, and other wrongdoing, and to recover fraudulent transfers.” 

The suit also alleges Friedberg paid off whistleblowers rather than deal with the compliance issues they raised.

Friedberg worked at FTX from 2017 until its collapse in 2022, the last 22 months of that as general counsel at Alameda and chief compliance officer at FTX. Joe Bankman, SBF’s father, pushed Sam to hire Friedberg and keep him “in the loop … so we have one person on top of everything.”

FTX paid Friedberg millions of dollars in salary and bonuses, and tens of millions in crypto — a $300,000 salary at FTX.US, a $1.4 million signing bonus, an 8% equity stake in FTX.US, and a $3 million payment from Alameda. 

Plaintiffs want compensatory damages to be determined at trial, disgorgement of all of Friedberg’s compensation including the cryptos, punitive damages, and attorney’s fees.

Chief noncompliance officer

Friedberg’s putative job as chief compliance officer was to make sure the proper checks and balances were in place to prevent fraud, commingling of funds, and other wrongdoings. Per the complaint, he didn’t do any of that. Instead, “Friedberg actively participated in and facilitated such misconduct.”

Money was funneled to FTX insiders and booked as “personal loans” — which were never repaid, and which there was never any serious discussion of paying — “despite Friedberg’s false statement to the outside accountants that interest was paid quarterly on the loans.”  Friedberg was involved in more than $2 billion in such “loans.”

Friedberg also encouraged the use of Signal for corporate messaging, preferably set to make messages disappear.

Ray is still appalled at how bad FTX’s accounting was:

Those entities that did produce financial statements used QuickBooks, Google documents, Slack communications, Excel spreadsheets, and other inadequate means for measuring the level of assets and liabilities held by the FTX Group. Entries in QuickBooks were often made months after transactions occurred, rendering real-time financial reporting and risk management impossible.

Hush money

Friedberg served as SBF’s fixer. He paid off whistleblowers and “retained” whistleblowers’ attorneys — that is, he paid them off too. 

In November 2019, FTX and Alameda were hit with a class action lawsuit that accused the companies and their executives of racketeering and market manipulation. [Docket; Decrypt, 2019]

The lawsuit doesn’t name “Plaintiff’s Attorney-1” — but this is clearly Pavel Pogodin, who set up Bitcoin Manipulation Abatement for the sole purpose of filing crypto class actions.

Alameda said at the time: “The troll has no evidence of any wrongdoing, and will not further discover any — because there was no wrongdoing to discover evidence of.” [Medium, 2019]

Nevertheless, Friedberg took the suit seriously enough that he paid Pogodin off. (The details are redacted.) The suit was dismissed in December 2019.

As a California Bar member of flawless repute, Pogodin is happy to be paid not to do anything. He sent a letter in January 2022 threatening further possible action against FTX. Friedberg offered him “$1.6 million and $50,000 paid on a monthly basis.”

In sum, Friedberg arranged for the FTX Group to pay Plaintiffs’ Attorney-1 $3,320,000 through July 2022. Upon information and belief, Plaintiffs’ Attorney-1 provided no actual legal services to the FTX Group after signing the engagement letter.

An FTX.US employee on a $200,000 salary was fired after less than two months. She sent a demand letter in December 2021 claiming that “Alameda [was] nothing more than an extension of FTX, used to bolster investor confidence in FTX projects, and in turn drive up the prices of projects FTX had developed or invested in itself” and let employees insider-trade.

Friedberg gave this employee an “extraordinary settlement” (redacted in the filing) — and made a $12 million deal to retain Whistleblower-1’s attorney. Their only work for FTX was a three-page memo.

In early 2022, an attorney working at FTX for less than three months discovered that Alameda owned North Dimension. He flagged to Friedberg that North Dimension accounts were being used to fund FTX customer withdrawals and that Alameda didn’t have the proper money transmitter licenses.

Friedberg promptly fired him. The complaint details how the attorney was paid a large (redacted) severance package.

Other FTX news

John Ray’s team has so far racked up $200 million in fees — and the fee examiner thinks this is quite reasonable. Gotta pay the undertaker: [Bloomberg; summary report, PDF] 

Without question, the fees incurred to date are remarkable, but so is the professionals’ performance. The Fee Examiner has been struck by the creativity, professionalism, and personal sacrifice of the Retained Professionals who sprung into action in November to begin transforming a smoldering heap of wreckage into a functioning Chapter 11 debtor-in-possession.

Over in the criminal case, SBF moved to dismiss 10 of the 13 charges against him. Judge Lewis Kaplan has told SBF to get knotted: “The Court has considered all of the arguments of the parties. To the extent not addressed herein, the arguments are either moot or without merit.” [Doc 136, PDF; Doc 148, PDF; Doc 149, PDF; NYT; Doc 167, PDF] 

Sam wants to blame his troubles on Fenwick & West, the law firm used by FTX and Alameda, who apparently told him that all the hamfistedly obvious crimes he did were all totally legal. The DoJ and FTX objected, and Judge Kaplan has again told Sam to get knotted: “Neither Fenwick nor the FTX Debtors are part of the ‘prosecution team,’ and the government has no obligation to produce materials that are not within its possession, custody, or control.” [Bloomberg; Doc 150, PDF; Doc 151, PDF; Doc 151-1, PDF; Doc 156, PDF; Doc 159, PDF; Doc 166, PDF]

Over at Lightcone, who build and run LessWrong and the Effective Altruism Forum: “Funding is quite tight since the collapse of FTX.” They’re asking the users for $3 million to $6 million over the next year. [LessWrong]

Posted on by Amy Castor 5

SEC sues Binance, part 2: asset freeze, securities, Coley and Brooks, Gensler’s alleged COI

Part 2 of SEC sues Binance is over on David’s blog.

In this episode:

  • Binance responds to the SEC’s proposed Temporary Restraining Order
  • Catherine Coley and Brian Brooks: What we did on our holidays
  • A review of the alleged securities listed on Binance.US
  • BNB, BUSD, BNB Vault, and Simple Earn — securities promoted by Binance
  • Gensler and the alleged conflict of interest.

Posted on by Amy Castor 0

SEC sues Binance, part 1: the complaint, Binance US asset freeze, Tai Chi plan, sock puppet CEOs, weird cash flows

  • By Amy Castor and David Gerard

“Every single one of these news updates from the slow motion implosion of the great fake tech money pyramid scheme is like reading headlines that say: ‘Man confused as to why his clothing caught fire after dousing self with kerosene.’ Every one.”

— A Shiny Blue Thing

CZ: “4”
SEC: “Fore!”

A day before the SEC sued Coinbase, the agency also filed a suit against Binance, the world’s largest offshore crypto casino, and its affiliate Binance.US. Binance founder Changpeng Zhao, better known as “CZ,” was also named in the suit. 

CZ tweeted “4,” which means he is dismissing the complaint as “FUD, fake news, attacks, etc.” If you have a single-digit shorthand for this sort of thing, you may already be in trouble. [Twitter, archive; Twitter, archive]

The 136-page complaint, filed in the District of Columbia on June 5, outlines 13 charges. Unlike the Coinbase suit, this one alleges fraud. The complaint comes with nearly 100 exhibits, some of which are incendiary. [Press release, Complaint, PDF; Docket]

CZ has his hands full these days. The US Department of Justice is currently investigating Binance over money laundering. In March, the CFTC filed its own enforcement action against Binance and CZ — which Binance has until July 27 to respond to. [CFTC docket]

The SEC complaint covers some of what’s in the CFTC complaint. But there’s a pile of new stuff. This is a huge amount to cover, so we’ll be doing it over a few posts.

The SEC complaint

The lawsuit is against Binance Holdings Limited, BAM Trading Services Inc., BAM Management US Holdings Inc., and Changpeng Zhao. (BAM Trading runs Binance.US; BAM Management is a holding company that owns BAM Trading.) Summons were served to listed company addresses and to an address for CZ in Malta. [defendant list, PDF]

The SEC comes out of the gate loud:

This case arises from Defendants’ blatant disregard of the federal securities laws and the investor and market protections these laws provide.

Among the accusations:

  • Binance and BAM Trading both operated as unregistered securities exchanges, broker-dealers, and clearing agencies, while raking in $11.6 billion in revenue. 
  • Binance’s own BNB and BUSD tokens are securities, as are 10 other tokens listed for trading on Binance.US.
  • Binance lending products (Simple Earn and BNB Vault) and Binance.US staking products are also securities.
  • CZ claimed BAM operated separately from its offshore parent and had its own leadership. In practice, he firmly controlled BAM and the US platform’s customer assets.
  • Binance secretly enabled US-based high-value “VIP” customers to trade on its non-US platform. 
  • BAM defrauded company investors of $200 million by lying to them about non-existent controls against abusive trading on the platform.
  • CZ funneled customer funds to Sigma Chain, a trading entity that he owned.
  • Sigma Chain inflated the trading volume on the US site through wash trading — because the Binance trading engine let anyone trade with themselves.
  • Binance and CZ commingled billions in customer funds on Binance.US and sent them to market maker Merit Peak, also owned by CZ.

The SEC wants Binance and BAM permanently enjoined from doing any of this ever again, disgorgement of ill-gotten gains with interest, civil money penalties, and equitable relief.

The SEC has also sought to freeze customer assets on Binance.US — specifically to protect US customers from CZ and Binance.com. 

Tai Chi: A plan to evade regulation

CZ launched Binance in July 2017 to rapid popularity. He evaded accountability from the start, moving his headquarters from China to Japan to Malta.

Per the complaint, CZ denies that Binance has an office at all: “Wherever I sit is the Binance office. Wherever I meet somebody is going to be the Binance office.”

A month after launching in China, Binance revealed that the US and China together made up nearly half of its customer base. [Binance, archive]

But how to keep the ball rolling? Crypto trading was banned in China in 2019. It continued online through foreign exchanges until September 2021, when China declared all cryptocurrency transactions illegal.

CZ needed US customers — especially “VIP” ones — but not US regulation. So, starting in 2018, he worked on how to surreptitiously evade US securities laws. As his chief compliance officer Samuel Lim admitted: “we do not want [Binance].com to be regulated ever.” [Doc 17-5, PDF]

The trouble was, as Lim put it to fellow Binance employee Alvin Bro: “we are operating as a fking unlicensed securities exchange in the USA bro.”

Lim was keenly aware of the hazards of US law enforcement:

there is no fking way in hell i am signing off as the cco for the ofac shit

theres a certain point where money is totally useless, and that is making a declaration to the USA that you are clean

when shanghai is totally cowboy

there is no fking way we are clean

i have zero visibility on our VIP clients

ZERO

the strategy of bnb is to survive for 2 years and f off

and in this 2 yrs try ur bestest to not land in jail

An unnamed “consultant” who ran “a crypto asset trading firm in the United States” suggested options to CZ and his team. One option was low-risk: settle the regulators’ concerns in an orderly manner. But if they went that route, they might be shut out of the US market entirely for months or years. The second option was risker, but more profitable: create a separate US entity that would head off the regulators.

The consultant suggested engaging with the SEC on how to comply but “with no expectation of success and solely to pause potential enforcement actions.” The new entity would “become the target of all built-up enforcement tensions” and “reveal, retard, and resolve built-up enforcement tensions.”

The new entity would also give Binance better access to US dollars without Binance.com needing its own banking relationships.

Binance would still need to insulate the new entity from US enforcement: “Key Binance personnel continue to operate from non-US locations to avoid enforcement risk” and “Cryptocurrency wallets and key servers continue to be hosted at non-US locations to avoid asset forfeiture.”

This was the “Tai Chi plan,” first reported in Forbes in October 2020. Binance filed a defamation suit against Forbes for this report, though they withdrew it a few months later. Binance then tried to buy equity in Forbes in a SPAC deal that later fell through — though this didn’t hold Forbes back from going in hard against Binance. The SEC complaint includes the original Tai Chi documents. [Forbes, 2020; Doc 17-2, PDF; Doc 17-3, PDF]

CZ opted to go ahead with the Tai Chi plan. Binance.US launched in July 2019, run by a separate entity, BAM Trading. Binance announced it would begin restricting US customers from transacting on Binance.com and they should use the US site instead.

CZ’s sockpuppets

Binance.US was a supposedly independent US affiliate of Binance.com, run by BAM Trading, incorporated in Delaware. In practice, CZ reportedly ran BAM himself with an iron hand.

Catherine Coley and Brian Books — “BAM CEO A” and “BAM CEO B” in the complaint — sang like birds to the SEC. Brooks detailed to the SEC how CZ was not merely the chairman of BAM, but exercised CEO-level close control.

Even BAM’s accountants cautioned their client that the lack of information around money movements “makes it very difficult to ensure the Company is fully collateralized at specific points in time.”

Only two people — CZ and another person, Guangying Chen, who nobody seems to admit much about — controlled all of the flows of cash and cryptos.

Coley and her team were extremely unhappy after reading the Forbes article on the Tai Chi plan:

As BAM CEO A [Coley] explained to the Binance CFO shortly after the article was released, BAM Trading employees “lost a lot of trust with the article” and “the entire team feels like they’ve been duped into being a puppet.”

The SEC wants to freeze Binance.US funds

The SEC was very concerned about the status of Binance.US customer funds all through early 2023 and couldn’t get straight answers out of BAM or Binance.com as to where the funds were held and who controlled the purse strings.

On June 6, the SEC filed a motion seeking an emergency temporary restraining order and preliminary injunction against Binance and BAM. Customer assets at Binance.US are largely controlled by non-US entities, and Binance has allegedly siphoned a pile of cash out of BAM. Motions like this are what the SEC does when it suspects huge fraud.

The SEC specifically wants to let Binance.US customers withdraw their funds, but not allow Binance to transfer money outside the US. [SEC press release; Doc 4, PDF; Memorandum of law, PDF]

A hearing on the matter is set for Tuesday, June 13 at 2:00pm. It’s expected that Judge Amy Berman will rule on the day as to whether to put the TRO into place.

Where’s the US money?

The SEC’s investigation into Binance and Binance.US started on August 17, 2020 — before Forbes told the world about the Tai Chi plan. [Doc 12, PDF]

The first SEC contact with BAM was a December 17, 2020, subpoena for documentation of BAM’s control of Binance.US crypto assets.

The SEC requested more information in September 2022. BAM finally answered in February 2023, but “its answers were not reassuring.”

BAM had a “wallet custody agreement” such that Binance would custody Binance.US crypto — the part of the Tai Chi plan where the crypto would be held outside the US. BAM told the SEC that the wallet custody agreement “was never operationalized.”

The SEC sent Binance Holdings Limited (Binance.com) a Wells notice, indicating that an enforcement action was imminent, on February 21. BHL responded on March 15 that “BHL does not, and has not, served as the custodian of the digital assets on Binance.US.” [Doc 19-13, PDF]

But the SEC already knew this was not true — based on information it had gotten from Signature Bank, conversations with former BHL and BAM employees, and reports to BAM from BAM’s auditor Armanino. 

In the two weeks leading up to filing the June 5 complaint, the SEC was still trying to resolve the custody issue — with “numerous written and oral exchanges concerning custody of Binance.US Platform customers’ assets and, more importantly, who is in ultimate control of those assets.” [Doc 19-15, PDF; Doc 19-16, PDF]

BAM now “disputes its own auditor’s conclusion of past Binance custody over customer assets” (emphasis SEC’s) and “admits that Zhao and Binance continue to possess substantial control over at least some of BAM Trading’s crypto assets.”

BHL and CZ have not been helpful:

Zhao’s attorneys have continued to maintain that Zhao is not subject to the jurisdiction of the United States — despite setting up a crypto trading platform in the United States that has made hundreds of millions from trading with U.S. customers, and despite his beneficial ownership of accounts held at banks in the United States through which billions of dollars flowed to some of his foreign domiciled companies like Merit Peak and Sigma Chain.

As recently as June 4, BHL was begging the SEC not to freeze BAM assets. [Doc 19-14, PDF]

The Binance money funnel

Binance is a network of shell companies. These entities hypothetically have different roles, but in practice, money flows between them in vast amounts — mostly via transfers between the entities’ accounts at Silvergate Bank, and some at Signature. We know this because Silvergate, Signature, and FedWire told the SEC all about it. [Doc 21, PDF]

How much money are we talking about? Sachin Verma, an SEC forensic accountant, says:

At times the amounts being credited and debited during a single month amounts to movement of more than a billion dollars.

… On January 1, 2023, eight Binance/Zhao-owned companies had $58.7 million on deposit. During that same time frame, $840 million was deposited into, and $899 million was withdrawn, from those accounts

Binance could and did transfer funds without BAM’s knowledge. At one point, while she was CEO, Coley had to ask where $1.5 billion in daily transfers was coming from — neither she nor her team had the access needed to verify them. 

Coley also had to ask why on earth $17 million in BUSD was moving from Merit Peak (Binance) to Sigma Chain (Binance) via BAM, and where Merit Peak got the money from. [Doc 19-2, PDF]

The billions of dollars flowed in from Binance.US customers, through the various Binance companies’ checking accounts, into a Merit Peak account, to Paxos Singapore (for $21.6 billion of BUSD between 2019 and 2021), and out to … somewhere:

Binance Holdings Limited and Binance Capital Management show large deposits and withdrawals from and to Signature accounts for some Zhao-owned companies, and hundreds of millions of dollars have been transferred.

Per the SEC’s request to freeze Binance.US assets:

During 2022, a U.S. bank account for Swipewallet (beneficially owned by Zhao) sent $1.5 billion offshore in foreign exchange, or “FX,” wires … Between January and March 2023, multiple Binance accounts wired more than $162 million offshore for further credit of a foreign account belonging to the company beneficially owned by the Binance Back Office Manager.

That manager was Guangying Chen.

CZ ran billions of dollars through Silvergate every month. None of it ever stayed in one place for long — all the accounts were just checking accounts where money sat for a moment before being shuffled under another shell.

Unlike Sam Bankman-Fried, CZ seems from all this to have had the good sense to stash away billions of dollars in actual money. He also purchased a home in Dubai in 2021 — a coincidentally non-extradition jurisdiction. 

Where did the money end up? Where’s CZ keeping the dollars? Following the money trail is confusing — which appears to be the point.

It’s not clear whether Silvergate filed suspicious activity reports on all these dubious transfers. They certainly should have.

__________________

Also read:

SEC sues Binance, part 2

SEC sues Binance, part 3

Posted on by Amy Castor 0

The SEC sues Coinbase. It’s on.

Coinbase’s entire business model has been built around avoiding regulation and lobbying Congress for special rules. Well, those days are over. After a year of warning them repeatedly, the SEC has finally taken action against the largest crypto exchange in the US.

It’s David’s turn, so this one is over on his blog.

Image: Brian Armstrong and Paul Grewal on YouTube awkwardly responding to the SEC’s warning in late March that an enforcement action was in the works.

Posted on by Amy Castor 0

Reggie Fowler, Bitfinex/Tether money mule, sentenced to 6 years in prison 

  • By Amy Castor and David Gerard
  • If you like our work, become a patron! Here’s Amy’s Patreon, and here’s David’s. Sign up today! 

Arizona businessman and sports investor Reggie Fowler spent decades talking himself out of sticky situations. But in a Manhattan courtroom on June 5, reality finally caught up to him.

US District Judge Andrew Carter sentenced Fowler, who is 64 years old, to 6 years and 3 months in prison for his role in hiding cryptocurrency transactions on behalf of shadow banking operation Crypto Capital and the disappearance of hundreds of millions of dollars. Fowler will surrender in Phoenix at 10 a.m. on June 30, giving him three weeks to get his affairs in order and rehome his dog.

Inner City Press attended the sentencing. [Twitter; Inner City Press; SDNY press release]

Fowler has agreed to pay $53 million in restitution to the defunct Alliance of American Football (AAF), an alternative football league that he defrauded as one of its investors. Inner City Press tells us that the judge also ordered Fowler to forfeit the full $740 million prosecutors had asked for, dismissing Fowler’s argument that this was so high as to violate the 8th Amendment. [Order of restitution, PDF; Order of forfeiture of property, PDF]

Fowler’s crypto frauds were the beginning of the more recent frauds in the crypto space, and the failures of the Silvergate and Signature banks, prosecutors said in court.

“I have harmed the people of the AAF and my family,” sobbed Fowler. “I am embarrassed and ashamed.” Poor fellow.

Just a little off the top

Crypto Capital was a Panama-incorporated money transmitter that served as a shadow bank for many US and Canadian crypto exchanges, including Bitfinex and the failed QuadrigaCX — because they had enormous trouble getting proper banks to talk to them.

Throughout 2018, Fowler was Crypto Capital’s US contact. He set up a network of bank accounts in the US and abroad so that Crypto Capital could process payments for its customers without worrying about all those tedious anti-money-laundering laws. 

Fowler lied to the banks, telling them that the accounts were for his real estate business. His scheme ran internationally and received over $740 million just in 2018. Most of this was Bitfinex customer money. A “Master US Workbook” listed more than 60 bank accounts around the world, which totaled over $345 million by January 2019. [Decrypt]

Fowler didn’t worry too much about separating Crypto Capital or Bitfinex money from his own funds. He and his co-conspirators set up a “10% Fund,” skimming from client deposits for themselves.

In the original indictment, and again at today’s sentencing, prosecutors detailed “additional criminal conduct” Fowler seemed to be involved in — though he wasn’t charged on these.

Fowler allegedly tried many times to get bank loans using fraudulent bond certificates, valued in the billions, as collateral. He tried to use funds from the Crypto Capital scheme as collateral for loans. He was caught with $14,000 in sheets of counterfeit $100 notes right there in his office.

Fowler was arrested in Chandler, Arizona, on April 19, 2019.

Prosecutors piled on more charges in a superseding indictment in February 2020 after they discovered Fowler had been using Crypto Capital money to fund the AAF. That funding fell through after the Department of Justice seized $68 million from Fowler’s bank accounts at HSBC in late 2018.

Fowler, who had fumbled an opportunity for a plea deal in January 2020, pleaded guilty to all five counts against him in April 2022, throwing himself at the mercy of the court. He has remained out of jail since his initial arrest on $5 million bail. 

A respectable businessman of flawless repute

Fowler’s lawyer Ed Sapone wrote a letter to the judge on April 10 asking for clemency for his client — that is, no jail time at all.

Sapone argued that Fowler had lived a hard life, growing up in the South without parental support, and had never broken the law before. At least not in any way that landed him behind bars. [Doc 124, PDF]

Never mind that Fowler was a fully-grown 59-year-old man at the time of his crimes with a long career as a (cough) sharp businessman behind him.

Sapone also neglected to mention that Fowler had been sued 36 times in the past, mainly for just not paying people — and had even stiffed his previous lawyers in this very case for $600,000. [ESPN, 2005] 

In a sentencing submission, prosecutors said that they didn’t appreciate that Fowler had blown $200,000 gambling in casinos since his guilty plea, rather than using those funds to pay back his victims. [Doc 125, PDF]

Prosecutors also noted that in December 2016, Fowler was stopped at the Canadian border with items associated with a “black money scam” — a scheme where a con artist claims to have stacks of US bills dyed black to avoid detection. The bills will come clean if you just purchase this expensive “special chemical.”

Hard work and perseverance

Fowler’s story reads like an episode of American Greed — where money seduces and power corrupts.

Before his path crossed that of Crypto Capital, Fowler’s main business was Spiral Inc. — a holding company for about a hundred different businesses, including ice rinks, car washes, and a foam food tray manufacturer company. Most of the businesses were located between Arizona and Colorado.   

Fowler was also a pilot and owned two jets — a Cessna Citation CJ2 and a CJ3, which he flew for business and loaned out.

He touched many lives including friends in the sports world and those who depended on him for their livelihood. Because Amy wrote about Fowler regularly, people who knew him contacted her. Sources described Fowler as well-read, charming, and a “fantastic salesperson, overbearing and confident.” He was not a gambler, at least not before his indictment, said a source. He never drank and worked out at the gym religiously.

What Fowler was not good at, however, was shedding businesses that were dogs — like his “Shammy Man” carwashes in Arizona, which he co-owned with a partner who served time in federal prison — or putting money into the ones that were doing well.

His firm Styro-Tech in Denver was making money hand over fist, but Fowler couldn’t seem to invest in better equipment and he was always hiring illegal immigrants cheap. “He could never pay anybody what they were worth,” said one source. “I don’t know how many times he got caught hiring illegals.”

Football obsessed

Fowler was a football player in his youth and remained an obsessive fan. His obsession with the game played no small part in his downfall.

He kept a Cincinnati Bengals helmet in his office and gave people the impression that he had played professionally for the Bengals — though he had only attended training camp.

In 2005, Fowler tried to purchase the Minnesota Vikings from Red McCombs in a $600 million deal. “He was 100 percent committed to getting it done,” McCombs said. “He was very straightforward. He said, ‘I am going to buy your football team.’” Fowler would have been the NFL’s first Black owner. [LA Times, 2005]

But the deal led to financial scrutiny, and the Star Tribune uncovered several outright lies in Fowler’s resume, so Fowler pursued a limited partnership instead. The cash he put up for the 3% ownership in the Vikings got him into financial trouble. [Minnesota Public Radio, 2005]

Things went from bad to worse, and Fowler went deeper into debt. He refinanced Spiral in 2006, landing him $65 million in debt. The credit crisis followed in 2008, and Spiral never recovered. By 2013, the company was in receivership, and Fowler lost control of all his businesses. By October 2014, Fowler no longer had a stake in the Vikings. [Resolute, 2022; Star Tribune, 2014]

At some point over the following years, a debt-saddled Fowler crossed paths with the people at Crypto Capital — Oz Yosef and his sister Ravid. The Yosefs were both later indicted for their part in Fowler’s fraud, but remain at large.

Crypto had an interesting year in 2017. Bitfinex, the largest crypto exchange at the time, lost its ties to the traditional banking system when its Taiwanese banks were cut off from correspondent banking by Wells Fargo. Short of real dollars, and trying to recover from a $72 million hack in 2016, Bitfinex and its sister company, stablecoin issuer Tether, began pumping out tethers at a pace unlike anything before — frequently with no dollars backing them at all. (Just like the salty nocoiners told you at the time.)

Fueled by these unbacked fake dollars pouring into the crypto markets, the price of bitcoin climbed to new highs. A year later, Fowler found himself in control of bank accounts with hundreds of millions of dollars flowing through them. And then football called to him again. 

AAF: the Fyre Festival of football

Alternative football leagues have a long history of dismal failure. In 2017, TV producer Charles Ebersol came up with an idea for a springtime football league that would be a feeder for the National Football League.

Somehow “millions” of fans would have an interest in watching football after the Super Bowl. The Alliance of American Football would even come with a killer app that promised to change sports gambling as we know it.

Ebersol and AAF co-founder Bill Polian, an NFL executive, attracted some seed capital. In June 2018, Willie Lanier, a former Super Bowl champion, introduced Ebersol to Fowler. Fowler offered to be a lead investor, committing $170 million — a $50 million line of equity and a $120 million line of credit. Prosecutors wrote in their letter to the court:

During a June 2018 meeting with AAF executives, including AAF co-founder Charlie Ebersol, Fowler showed the AAF corporate team printouts of bank account information purporting to show that Fowler had hundreds of millions of dollars in foreign bank accounts. Fowler would not let anyone take the printouts after the meeting. Fowler told Ebersol that Fowler’s wealth, which he said was largely in cash, came from real estate holdings and an aviation business that built drones in Germany for U.S. Government contracts. During an October 2018 meeting, one of Ebersol’s associates took a picture of a bank account printout that Fowler presented. That printout showed roughly $60 million in an HSBC account. 

That HSBC account would be one of the accounts that was frozen by the Department of Justice in that very month.

Ebersol claims in an affidavit that he did his due diligence on Fowler — though clearly he did not. All Eberson would have had to do was look up all the multiple lawsuits against Fowler. Peter Thiel also invested in AAF through his Founders Fund.

The league kicked off in February 2019 — with eight teams and more than 400 players — but after eight weeks of play, the dream unraveled when Fowler missed a $28 million payment  because all his money had been frozen. [Affidavit, PDF; CNBC, 2018]

The AAF disintegrated into the football version of the Fyre Festival. They missed payroll in the first week one, blaming it on a computer glitch. Players had been booted out of their hotels and had to pay cash for their flights back home.

Another investor, Tom Dundon, took over the league, but he soon gave up throwing money into the pit as well. The AAF declared bankruptcy on April 17, 2019 — and multiple lawsuits against its founders ensued. [Twitter, archive; Twitter, archive; Sports Illustrated]

End of the linebacker

What can we learn from Reggie Fowler? Mostly that pigs get fat, but hogs get slaughtered.

Fowler spent decades doing sharp business that didn’t quite get him in trouble with the law. Then he got in a bind and let his hubris do the thinking for him. Like so many in crypto, he found out that this works until it doesn’t.

By the time he gets out of jail, Fowler will be 70. In the four years between his arrest and today’s sentencing, he spent his time just going to work every day. We predict he’ll get out of jail and just get back into running businesses until the day he drops. Hopefully less flagrantly illegal ones.

Posted on by Amy Castor 1

Crypto collapse? Get in loser, we’re pivoting to AI

Let’s do a quick pivot to AI for an LOL, one of us said. Should be easy, not much work. Here we are — three thousand words later. Turns out AI grifters are remarkably similar to crypto grifters, and they are often the same guys.

If this is a huge hit — and particularly if the patrons like it — we may touch on AI again if there’s something worth saying. We do have a pile of crypto here for next time as well!

Posted on by Amy Castor 0