Odd Lots - Understanding the Collapse of Sam Bankman-Fried's Crypto Empire

Episode Date: November 17, 2022

The collapse of the Sam Bankman-Fried empire is gigantic, sprawling and fast moving. While details are still coming out, it already ranks among the most prominent corporate disasters of all time and has left the entire crypto community reeling. To better understand the role that FTX played in the industry and how the exchange started to unravel, we speak with two guests on this episode. First, we have Evgeny Gaevoy, the founder and CEO of the crypto market-making firm Wintermute, to explain how he used the FTX platform and how he understood its relationship with SBF's trading firm, Alameda Research. Then we speak with independent researcher James Block, author of the Dirty Bubble Media newsletter, and one of the first observers to blow the whistle on the FTX disaster.Stay tuned. On Friday, we'll have a special follow-up interview with Bloomberg Opinion's Matt Levine, who also appeared with Sam Bankman-Fried on the now-infamous “yield farming” episode of Odd Lots in April 2022.See omnystudio.com/listener for privacy information.

Hello, I'm Michelle Hussein, and for more than 20 years, I was at the BBC. But all the time I was delivering the headlines, I wanted to go further than the news of the day, to spend more time with the people shaping our world. And that's what I'm doing here on this podcast, speaking to people from Nigel Farage. To love you trying ever so hard, to tech journalist Karaswisha. And the tech industry is running wild. You know, they've gotten what they wanted and they've seen a huge run-up in their stock prices. This will be a place where every weekend you can count on one essential conversation to help make sense of the world.

So please join me, listen and subscribe to the Michelle Hussein show from Bloomberg weekend, wherever you get your podcast. You certainly ask interesting questions. Hello and welcome to another episode of the Odd Thoughts podcast. I'm Tracy Alloway. And I'm Joe Wisenthal. Now, Tracy, obviously, the big story which we haven't talked about yet is the collapse of the crypto exchange FTX and the broader empire, which was built by Sam Bankman-Fried, which includes his trading shop Alameda Research. That's right.

It has been really a stunning two weeks for the industry, in part because Sam Bankman-Fried, or SBF, as he's frequently referred to, had become arguably the face of crypto. He was highly influential in D.C. He was a donor to numerous nonprofits and politicians, wildly rich. And of course, we have interviewed him a number of times on this very podcast. Right. So the last time we interviewed him, it had already become something of an infamous episode. We were joined by our colleague Matt Levine.

And it was during that conversation that he described much of defy, or at least the concept of yield farming, in a matter that sounded a lot like a Ponzi scheme. And of course, he didn't describe FTCX or Alameda's own business as a Ponzi exactly, and we're still learning details about how it all collapsed. Nonetheless, in the wake of this implosion, I don't think there's any doubt that those comments are seen as just a massive red flag. Right. And as you mentioned, this is all moving very, very fast. It is a gigantic, really sprawling story that ranks up there with some of the biggest corporate disasters and potentially frauds of all time. and given its size and speed, it's a little tough to do a complete overview of the story right now. There's already been a lot that's been written about it and reported on at multiple media outlets. So we're going to try to do things a little bit differently.

We're going to try to break things up a bit. First, today, we are going to be speaking with a market participant who used FTX and was caught out in the scandal. And then we'll be speaking to a whistleblower who was among the first. to sound the alarm at something actually being wrong at FTX and Alameda. Right. And then we're going to be doing a follow-up episode tomorrow with Matt Levine where we'll try to understand more about what's happened and what is currently going on right now in the wake of the collapse. But for now, we want to start with the Evgeny Gaivoy. He is the founder and CEO of Wintermute, which is the largest crypto market-making operation.

It had been very active on FTX. And he's going to help us understand a little bit more about FTX and Alameda's role in crypto market structure. So, Evgeny, thank you so much for coming on the Odd Lots podcast. What do you tell us, what do you do and what is Wintermute? Yeah, hi, thanks for having me. Yeah, I guess very quickly about Wintermute, we are one of the largest crypto market makers. We've been active since 2017. And I think at this stage, basically, the largest crypto-native market maker after the Alameda's demise. It's an interesting way to grow the ranks with all that's going on. But basically, our businesses across centralized exchanges, decentralized exchanges, we've been active in DFI since 2019, and of course, OTC as well. So it's

a lot of different diversified activities. We are trading billions dollars per day on all kinds of venues and in general, very deeply intertwined with the crypto ecosystem. Can you explain that a little bit further? What does a market maker in crypto actually do? And what is your business relationship with the various exchanges like FTX? Yeah, on centralized exchanges, it's fairly similar to how it works in traditional finance. We basically provide bits and offers algorithmically so that people get access to liquidity. When it comes to how we work with different exchanges, there's no formal contracts as such. It's basically us creating an account, just like everyone else, institutional account, just like everyone else.

and then effectively sent orders via APIs that exchanges provide. So you mentioned that, you know, you've sort of grown in market share since the collapse of Elameda, which was a competitor. Can you talk about prior to the implosion of FTX and Alameda, which, of course, we'll discuss, what was your understanding and what was your view of the FTX-LMeta relationship? I guess, yeah. I mean, Alameda part was pretty shocking because basically pretty much everyone in the industry, including myself, assumed that Alameda has been running a pretty big and successful operation across centralized and decentralized exchanges. For example, we've seen them being very active on serum, the Solana native decks. We suspected that they have a pretty decent market share on FTX itself, despite actually not being able to confirm it or deny it, simply.

because, yeah, one of the great things that was about FTCX is that they had a leaderboard for volumes, and we were pretty public being there and saying that, yeah, Wintermute is whatever, number eight or number three or like whatever, depends on the month. But you would never see Alameda in there, which was kind of annoying, but, yeah, we kind of got that, yeah, not everyone wants to show their presence as publicly as we did. And now I'm thinking, okay, probably the market share was either very big or maybe potentially very small, but more likely very big because like one of the main, because like I guess the main question is,

given the size of the hole that FTX faces and that they lent money to Alameda, somehow they managed to lose all those billions. And one of the ideas that's traveling around crypto Twitter is basically they were just very bad market maker, I guess, because they were kind of forced to provide liquidity in FTX and they basically lost a lot of money over the years supporting that liquidity. What was your experience of last week?

Like, when did you first think, uh-oh, something is happening here? I saw you were quite early about pulling your money out of FTX.U.S. But some of it is stuck in FTX, the international exchange. Like, what exactly was your experience of the past 10 days or so? Yeah, I guess when it all started with ZZ tweets and when like the first, withdrawals started on FTX we basically withdrew roughly half of our capital simply because we basically our initial assessment was exchange is going to be fine but it might be struggling with withdrawals for some time so it's just not smart to lock

so much of our capital over there because like the way we operate we have a number of exchanges that we consider to be safe that's where like we're basically have a pool of capitals that we keep rebalancing across different exchanges and also decentralized exchanges or blockchains. And we have a number of exchanges which are considered safe, and we basically park excess capital there every now and then because it's quite easy. Like, an FTCX was one of them, like great things that was about FTCS

that was about FTCS is that you could actually like convert different stablecoins against each other. So it was a very neat exchange to park the cash on. But once we realized that, yeah, it might be that they may be close withdrawals for a bit. Maybe maybe they'll just be super swamped with withdrawal requests. So it's just not great to have our capital on it. So we kind of stopped doing that and decreased it. But the initial assessment was, yeah, we want to keep some capital on because it's going to be great, great trading results in volatility. Yeah, which turned out to be not very great.

I want to go back to something you said about maybe Alameda were just bad market makers, or maybe they were bad market makers because they were the official or the unofficial in-house liquidity provider at FTX. I believe, and correct me if I'm wrong, I believe that prior to all of this, say like prior to this month or whatever, there was a perception that Alameda had an unfair advantage in its trading by dint of its relationship with FTX. In other words, that it was very profitable, but only because it had some sort of relationship with FTX. Did you have that perception beforehand that it gave it an advantage?

And now do you sort of view this other side that essentially the relationship actually made it harder for Alameda to make money? I guess my perception was that Alameda was not really market making an FTCS to make the liquidity bigger, simply because like there is very enough market makers on FTCS. Like it was probably the second biggest exchange, derivative at some point. And And honestly, there was no need for somebody to, well, for some internal market making desk to provide this liquidity. So I was always thinking, okay, if they would be losing money on it, they would just pull off and let others do the job.

Because yeah, there's enough crypto market makers to fill in. And so my assumption was, basically the advantage they would be getting would be from basically realizing some synergies between like FTX listings, for example, like especially, I think it was especially apparent on Solana where Alamedo, FTX would invest in the protocols, and then protocol would pretty much immediately get listed on FTCS, and basically since Alameda would have, well, either inventory of tokens or basically better knowledge about how all this stuff works, they would be just better positioned to make money out of it.

And that to me sounded like a pretty good money-making machine, and that was one of the reasons I kind of expected them to print billions last year, and maybe, I don't know, just losing some of the venture positions this year and that's it. San Francisco. On April 4th, 2023, around two in the morning, a man was found stabbed multiple times on a sidewalk in downtown San Francisco. Hey, who did this to you? What happened next turned the story into a political firestorm. Reports have identified the victim as Bob Lee, the founder of Cash App.

From Bloomberg Podcasts, this is Foundering, the Killing of Bob Lee. beginning April 16. So one of the criticisms that's come out about this whole thing, and my gosh, there are a lot of things that you could say here. But one of them is that, oh, this is all about centralized finance because FTX was a centralized exchange. It wasn't actually decentralized like a lot of other ones are like uniswap being the primary example.

What do you say to that criticism? Is that fair? I think it's very fair. And basically, I really disagree that this is a failure of crypto. I think it's a, if anything, it's a vindication of basically everything crypto is standing for, which is basically being completely decentralized, being completely transparent. And basically, yeah, people having access to their own assets, self-custody, and basically not relying on anything really.

Because, like, if you look at all the failures of this year, like, even terror, even though it was a decentralized protocol. The only reason terror blew up to such a massive proportions was, well, I think in my opinion at least, the main reason was that this crazy 20% yield was repackaged by centralized institutions in a very opaque way. It was repackaged to the retail. And so retail would, I don't know, get 10% yield on their accounts.

So centralized entities would get like 10% spread over the Terra and everyone was happy unless until basically everything blew up. And then three arrows blow up. Exactly same thing. Like everyone lent to three arrows, but nobody knew what the combined value of the loans was. And then when they blew up, yeah, all the centralized lenders got hurt simply because it was just centralized and transparent. And finally, FTX, exactly same thing. They lent to Alameda.

Nobody knew about it because it was, yeah, it was not public. It was like somewhere on the internal ledger. Not even most of employees knew about it, I think. And again, it blew up in a very, very. centralized fashion. So to me, yeah, crypto kind of solves it. And it's quite unfortunate about the crypto exchange, but it's a, to me, it's a vindication of all the crypto ideas. So I want to go back to the experience of trading on FTX specifically. You mentioned that your perception prior to this was that FTX was a high quality exchange, a safe place to

park capital when it wasn't in a in a trade. What was good about FTX? It, does seem to me, like when I've talked to professional crypto traders, they like this site. And I think part of the reason maybe people are so blindsided by this collapse is the fact that by all accounts, the FTX platform seemed to be a good one, that people really like the experience, that had a lot of uptime, people like the way the liquidations worked on FTX. Can you talk about your experience, just being a trader on it, and in your view, why FTX got the prominent that it did. I think it's very much linked to SBF, to be honest.

Like, yeah, sure, it was a good platform to trade, especially because they were pretty, yeah, they were pretty quick about listing new assets. They were pretty quick about, well, basically, because their perps were great, and there were, like, a lot of different products there. One thing that wasn't great about FTX, and everyone knows about it as well,

is the throughput was pretty abysmal. Like, number of four, you can send per second, like all those limits, they kept increasing them by, I don't know, sometimes it would come and say, oh, great news, we increase it by 20%. But they needed like, I don't know, 2,000% increase. And one of the reasons I think, and yeah, I don't know, I have no idea, like I haven't looked through the code base, but I guess one of the reasons for this was basically what Sam was promoting very much, is that the matching engine was combined with a risk engine

because you could use all those assets on margin as collateral to trade all those perpetual products. Like every time you send an order and it gets matched, it would need to do both matching and the risk calculation, which I would imagine would slow it quite considerably. And I was always very curious how much you can leverage that, like how much you can expand that because honestly, like none of the centralized crypto exchanges are close to throughput to even like the worst I don't know, European stock exchange, for example. They're just all really, really bad, like even Binance. And FtX was quite worse than Binance in throughput-wise,

even though it was smaller volume-wise. So to me, it was always a question like, yeah, how is it going to grow? Like, how is it going to continue making this throughput? Especially because, like, if it's just Bitcoin and Ethereum, that's fine. But the idea was, I think, was like, expanded the stocks, expand the commodities, expanded everything. Although, I don't know, maybe it was all the facade. But to me, it was always a curious thing, like, yeah, you match an engine, clearly, and it's not great.

I actually show it it's physically possible to maintain this model. So just to be clear, your perception was that there was this tradeoff, that the throughput in terms of total volume at FTX was not, say, what you could get at Binance. but that was because it had this superior matching engine and ability to cross-margin assets. Can you just explain what that means for the listener, the matching engine, the cross-margining asset, and what is the advantage of that as a professional trader? Yeah, so basically, like, if you go on finance and trade finance futures, you need to pose BUSD or some, I think there's a cross-margin with other stable coins as well now.

And that's just one instrument. If you, if you would trade an FtX, you could use your Bitcoin, you can use an Ethereum, you can use like a dozen of other different tokens for which the price would be quite volatile, right? So let's say, I don't know, one million worth of Bitcoin and one million worth of dollars, you could use both of those positions as a margin to enter derivative contracts, which is very handy because you like, you trade spot, you trade, you trade, you trade, I don't know, perpetual, also you can do it all in one account.

And yeah, it's very convenient from the capital perspective. Because you, for example, like, what if you only have Bitcoin, then just park your Bitcoin and still get margin on FTCs. That's great. But that also means that their matching engine continuously had to keep in its mind what the price of Bitcoin is because maybe if Bitcoin falls, we'll need to liquidate this guy. Because really if his positions are, like his unrealized profit is like too low.

and so maybe we need to liquidate his Bitcoin and then, yeah, initiate like the whole liquidation process, which is basically way more complex than for Binance futures, which is just, yeah, we just take your perpetual exposure. It's generates dollars P&L and you only have dollars on your accounts. It's very easy. This actually leads into something I wanted to ask you, which is a sort of, I guess, fundamental criticism about defy, which is even if you're dealing with decentralized exchanges or, you know, you hold your own keys or whatever. Because you don't actually know who you're lending to, Defi often places a lot of emphasis on the underlying collateral, the quality of the collateral and the price of it. And so if it starts to go down, you do get these big margin calls because you don't

really know who your counterparty is. That seems like a potential vulnerability for Defi, particularly in an environment where we're seeing the collateral price, you know, be extremely volatile. Well, I think that, like, defy challenges potentially, they don't stem from the fact that you don't know who your counterparties. They're primarily stemming from two things. One is just the quality of collateral, like you mentioned, and basically the fact that in extreme market moves, it might not be possible to liquidate it, quick enough on Dexas and that basically, basically, the quality of the collateral can drop so quickly, that there will be no incentive for anyone to do liquidations. And that can create gaps in protocol like holes in protocol treasuries, for example, which happened after Luna with some protocols.

And the second issue is it's also related to just potential manipulation vectors. And that has to do with oracles. Because yeah, like what we've seen with Mongo markets a few weeks ago, for example, was that, yeah, if you manipulate the Oracle price, you can potentially create sort of run in a bank for those sounds of slending protocols as well. Honestly, I think it's all like both of those issues are solvable. Basically, most of the time, issues with decentralized protocols were caused by, yeah, just the quality of a collateral, which works both on like a float level. So if it's just some alt-coin, which has a very low float, yeah, it's just wouldn't be

able to liquidate it fast enough, but also on the Oracle level as well. Yeah, if it's like a very small token, it's very easy to manipulate the price, just like we saw with Mongo. But overall, like, the DFI protocols over the last, I don't know, nine, 12 months worked perfectly well in terms of stress. Like, you haven't seen any issues with Zava. You haven't seen any issues with compound. They worked just like they intended to be people were doing liquidations. It was all very much orderly.

So I think from that perspective, I think it's still a pretty cool system to look at. Are you going to change the way you think about. counterparty risk and keeping money on exchanges, any exchanges in the wake of this. How are you changing your business operations? We're basically playing it very safe. So there are like very small number of exchanges that we consider to be safe. And we have this drawing from a lot of like what we call T S3 exchanges at the moment and even some of the tier two exchanges.

We basically, and I cannot really name names because we actually have a pretty good relationship with most of them. And like if I say we withdrew from exchange, why, it doesn't mean that we think they're bankrupt. It just means that we are, we're just waiting for our due diligence. We're waiting for them to provide financials. We're just waiting for them to kind of prove to us that they're fine. And so the idea for us is just to get this due diligence done. And in a week or two, we just resume trading all the exchanges that remain. But yeah, my unfortunate, yeah, understanding of the situation is there might be more exchanges failing, like big and small. So yeah, it's just a very good security practice to be very safe in this environment.

I think for individual users, I would generally advise to try self-custody if you can or withdraw to like very, very high-quality exchanges if you cannot. What exactly is the path for contagion here? Like what happens if FTX goes down, like why should we worry about a tier three exchange? What's the knock-on effect? The knock-on effect can be I guess like multiple vectors. First of all, some of those exchanges, like the way they operate with market makers, some of them, they provide letters of credit. So they basically can extend, well, leverage effectively or just pure free capital to market

makers so that the market makers would have better incentive to provide markets. So if any of those TS3 exchanges gave lots of credit to Alameda and Alameda lost money, they could be facing some losses. Second way it can be happening as basically. a lot of exchanges would be keeping their, like, some of their capital on FTX, and we've seen, like, some exchanges coming forward and admitting that. Whether it can be for internal market-making operations, so it can be simply because they just sometimes basically broadcast liquidity on their exchange via FTX. Either way, they could potentially keep some of their money on FTX.

You know, one of the interesting things that makes crypto distinct from, say, TradFi, or the stock market is you do have this separation of the broker and the market. And so if I log into a Schwab account to trade stocks, Schwab is the broker, but Schwab is not the stock market itself. It seems like that's different in crypto where it's like finance or FTX. You have your account there, but it also is the market and that has the order book. Would it make sense to separate those? Yeah, it's a very good question. I guess it depends is the right answer. On one hand, like there are a few exchanges which I think is perfectly fine to do it. Basically, okay, let me give you this kind of framework. The main, like, not necessarily cost, but like a huge amount of effort for centralized exchanges

goes into KYCML of their customers. So it's a pretty big, I'm pretty sure it's a pretty big, pretty big cost. It's a pretty big number of employees who are busy with this. And that's, that's honestly where the biggest regulatory attack vector comes from as well. Because, yeah, if you do not KYC properly, like if you KYC, some North Korean people, I don't know, whatever, you can get in trouble. So that that's pretty big cost base. Effectively, if that part is taken away from exchanges, like whoever runs this needs to charge quite a bit for it because, yeah, it's a pretty big cost to run. And so you can argue that the centralized exchanges are offsetting this cost by charging trading fees from all those people at the KYC. Like if you completely separate it, it would be

yeah, it would be interesting. I mean, it's kind of a different model again, obviously, because all those I don't know, brokers effectively would be, would have to do KYC instead. But ultimately, yes, they would need to figure out the way to, I don't know, either share revenues or, yeah, basically finding a different business model around it because currently all those costs are offset by training fees and whatever as auxiliary profits those exchanges generate. So we talked a little bit about how, you know, FTCS was generally considered to be a good exchange from a technology perspective, some of the latency issues you describe notwithstanding. But like Sam Bankman-Fried overall was generally considered to be this titan of crypto. And we can argue about whether or not that reputation was

deserved given that he was running a centralized exchange versus a decentralized exchange. But this seems like a massive, massive deal for the industry as a whole, that this guy who was sort of held up as the face of it was essentially running some sort of fraud. What is the long-term impact of all of this on the crypto space? Does institutional capital just dry up at this point? How do you convince people to put money into a space that time and time again seems to either. blow up or be the victim of hacks or fraud. On the institutional side, I think it will all come down to just coming up with a better ways to custody assets.

Because, yeah, one big issue, obviously, yeah, if you store your essence and FTX, you're basically screwed. But I know that there are quite a few banks that are actively working on it, like traditional banks on the custody solutions. BingY came up with one like a month ago or something, right? I think that that will be ultimately the path to institutional adoption because they would just need to replicate the same rails effectively to operate. I think the custody has been the major piece that has been missing. And once it's done, it's because like SBF's failure was not a failure of crypto again.

It was a failure of his centralized entity. So once you remove custody from it, okay, it shouldn't really affect you that much. because, yeah, if you stored your money not on a, not an FTX, but with a custodian, for example, or just stored it yourself, it should be fine. I think, like, if you're talking about more longer term, yeah, impact of this, I think, yeah, it's safe to assume there will be a pretty big regulatory response because regulators should have field day around this. I kind of hope that, yeah, there would be, like, some, some of the, at least some of the fault will be recognized, like, on the SEC side, given just how close. close those guys were, how it least looks like. But overall, yeah, I think, I think there are laws that we will see implemented on the US side of things, and maybe globally as well, won't be as favorable as they would have been like a few months ago. For me, the events of the past week

kind of proved that we need to go back to those ideas of decentralization of, basically existing in a trustless world when it comes to individual users. And I think that to me is something that kind of like re-rebooted the whole thing for me. Like rebooted my whole approach to crypto, rebooted my face in crypto as something that can replace future financial system as well. Like I actually believe even more than before after this somehow. Hey, Evgeny, thank you so much for coming on Nodlots. Yeah, thank you for having you.

That was Evgeny Gaivoy of Winter Mute talking to us about how he had seen FTX's business. Next up, we'll be speaking to James Block. You might know him better from his Twitter handle, Mike Bergersberg. He also writes about crypto and fraud at the dirty bubble media substack. So we will be talking to him about what he saw at FTX that raised some initial red flags. I'm June Grasso, inviting you to join me for the Bloomberg Law podcast. Every weekday, we help you make sense of the legal stories that shape the nation and the world. Listen for complete analysis of the biggest court cases.

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That's the Bloomberg Law podcast with me, June Grosso. Subscribe today wherever you get your podcast. So we are back and we are about to speak with James Block. He was one of the initial researchers who sounded the alarm on FTX and Alameda and set some these events in motion. So James, thanks so much for coming on all thoughts. Hey, it's great to be here. James, tell us who you are, because it seems like you are basically a doctor by day and crypto researcher by night. Is that accurate? That's something like that. Yeah. Yeah, I'm trained as a physician scientist. Kind of got interested in this space, if you want to call it that,

about a year ago. Just kind of always had a fascination with financial crimes and kind of the oddities of how financial markets work. So crypto seemed like a really interesting place to kind of dive in and learn some stuff. What first got you interested in FTX specifically? So before I was writing about FTX, I was really looking into the Celsius network scandal, which I had been writing about extensively prior to their collapse. And it turns out that there were extensive ties between Celsius network and FTX, both financial and other. So that's kind of how I kind of got into it, looking at it from that perspective. And then I was able to find out some information about their actual financial condition.

And then that's when I wrote an article about Alameda's financial situation that had some impact on how the events turned out. So one of the things that we hear about crypto quite a lot is that, you know, it's very transparent. You can trace wallet addresses. You can sort of follow the money and figure out what's going on. And yet, yet we seem to have like repetitive frauds. in the space. What's your sense of that part of crypto? When you're looking at crypto trying to

expose potential frauds, is it easier than with traditional finance? I definitely think that it is easier in some respects. I mean, a lot of the information is public and easily legible if you understand how to read the data, which honestly is not that complicated. The part of it that people forget about is that the vast majority of the economic activity happening in this space doesn't happen on the blockchain. It happens in centralized exchanges and other platforms that don't use the blockchain for any of the transactions they perform. So, for example, FTX is an exchange, you would deposit your crypto there, and then it just sits there. Theoretically, it should sit in their wallet, and then all of the trading actually happens on an off-chain, like centralized platform.

And then eventually, let's say you want to take your crypto back out, then it goes back onto the blockchain and moves back to your wallet. But there's never, the trading that happens, any of the market connectivity that happens, that's totally opaque. So why don't we start with the details? You mentioned that you saw there were more links between FTCS, you believed, and Celsius than perhaps people appreciated. What did you first see there? Yeah.

So for people who aren't familiar, Celsius was a lending platform. Basically, what it allowed you to do was either deposit crypto and earn yield on it, kind of like a savings account, or you could borrow against your crypto. You could borrow dollars against, say, Bitcoin. And then what Celsius would do was, re-hypothecate those assets into various supposed yield-earning strategies. And it turned out that what they were doing wasn't actually profitable and they collapsed. And there's a lot of allegations about kind of what was going on in that company that are still

being kind of figured out. But what I noticed, among other things, was that in June, they froze withdrawals. So, like, all their customers could no longer withdraw their funds. And then there was a month period of time between June and July where the company was engaging in a significant number of transactions on the, blockchain. And then in July 13th, they filed for bankruptcy. And what I found was that they had sent hundreds of millions of dollars worth of assets from their wallets to the FTX exchange. And then in return, it seemed like they had received about a billion dollars in USDA from that exchange and

used it to pay off various debts. According to the bankruptcy filing, Celsius owed FTX about $108 million. And apparently that loan was also discharged in that time period. So my concern was that there were some very questionable transfers happening that were within the 90-day period prior to filing for bankruptcy that seemed to me to be preferential transfers, although I'll let the lawyers figure that one out. And additionally, just the opaqueness of what they were doing with those funds. So I started looking into that, and then there's a number of other connections to, I mean, Celsius, one of their main shareholders was the Tether Stablecoin company, and that was also very closely tied to FTX and Alamator Research. So there are multiple ties between these

companies that go back a number of years. It seems like there were a few months between Celsius experiencing problems and all the FTX issues sort of coming home to roost. Why do you think it took a while? Well, I don't think that Celsius was necessarily material to the collapse of Alameda and FTCS. They were doing business together, and FTCS actually got their money back. So for them, it probably worked out pretty well. I think Alameda was a party to the bankruptcy and is owned something like $10 or $11 million from Celsius, but relative the amount of money that they apparently got paid back, it's not very significant.

What appears what happened with Alameda, and we don't actually know. I mean, honestly, I even want to speculate at this point. I still can't imagine how they managed to lose the amount of money that they're saying that they lost. I mean, $8 to $10 billion is a lot of money. Celsius, by comparison, is maybe $3 billion to $4 billion in the whole. So this is a, it's a massive loss, and nobody, I don't think it knows entirely yet where the money went in terms of FTCX. Right. So just on this note, I mean, this was one of the things that I think was surprising for a lot of people, which is, you know, we all listen to Sam Bankman-Fried when he was on this podcast describe yield farming as the sort of magical money box. But he was describing the business of crypto. And we sort of thought, well, you know, he's operating an exchange where people are trading these things and that's how he's making his money. And that must be incredibly profitable. and it turns out it wasn't, where do we actually think the money went?

Well, I mean, we know, for a fact at this point, we know that a large portion of user assets ended up going to San Bankman Freight's trading firm, which was Alameda Research. Where it goes from there is the $8 to $10 billion question, I guess. They were doing a number of different things with the funds. We know that they were investing in a lot of different venture opportunities, as you can call them, various crypto projects that never seemed to work out. I think $500 million went to some AI research nonprofit. Obviously, they weren't spending a lot of money on advertising and on political contributions.

So, I mean, I don't think anyone's come close to accounting for the amount of money that's apparently missing here, but we know at least where some of it went. The question is, yeah, I mean, so were they profitable? I mean, you can look at Coinbase's earnings. And just as a disclosure, I am short Coinbase. So my opinions about the company are colored by that position. but, I mean, Coinbase has been losing a substantial amount of money in the last year. Were they actually profitable is a very good question.

And, you know, the thing to remember, too, is that FTCs always build themselves as sort of the exchange for institutional traders. Like, there was retail involved, but a lot of the volume was supposedly these institutional people who were playing on there. And so their actual revenue from that would have been much lower than what somebody with primarily a retail customer base would make. So it's actually very questionable if they were ever really making money. or not. That's a really interesting observation. And it's something that's come up with Coinbase specifically, obviously, as you know, if you're short it, this idea that institutional clients are way less profitable than retail clients. It's something that Jim Chanos has talked a lot about. So the fact that FTX was so institutionally focused would be a suggestion that, you know, its margins, even in the

best case scenario, were pretty slim. Let's go back to just L.T.S. Alameda for a second. I think the perception was that, you know, there's a profitable market-making firm and that maybe it had some leg up by dint of its relationship with FTX. What is it that first caught your attention and got you thinking that maybe it wasn't all sound with Alameda specifically? I'm a very skeptical person when it comes to crypto. I agree. I view most of these things as very, very, very questionable operations that many of them, most of them are probably losing money and engaging in things. that aren't very savory. But of all the people, I actually did think that maybe if anybody was making money, it was Alameda because everybody always said they were the smartest guys in the room to make a reference to my favorite documentary of all time. When I really started thinking there was something wrong was when all of these firms

started failing like BlockFi and Voyager and FTX was suddenly stepping in and Alameda was stepping in and bailing these companies out. And I knew enough about how these firms operated and how big the holes were to just think there was no reason for them to do that that would make any sense. I mean, these companies, like the names of these companies are worthless now because they've shown that they did a very poor job of handling people's money. It's not like somebody's going to want to invest again in BlockFi once they find out that they went insolvent because they were lending to what is allegedly a Ponzi scam, the three euros capital. So it wasn't like he was getting any kind of advantage by doing

that. And so my question was, was he just trying to get a hold of the user assets or was he trying to cover up debt that Alameda had to those platforms? And it seems like it's the last case that both of those platforms held large amounts of these illiquid tokens that Alameda owned and that FTX had issued and that basically they were trying to protect themselves from getting liquidated on all of that. So basically it was him protecting himself. And that's what kind of initially made me think there's something wrong here. I didn't know how bad it was until I saw their balance sheet though. Yeah. Sorry, just to be clear on that last point, because I think that's really key, this idea that some of these other firms held on their books assets that Alameda didn't

want liquidated. Was that public? Yes, that's public. That's in the Voyager. I can't remember what docket number, but it is in the Voyager bankruptcy filings. Part of the, there was an agreement for FTX to or Alameda to receive their collateral back and payback the loans that they had taken out. And it was all FTT and serum tokens, which are the tokens that I and CoinDest showed were kind of the albatrosses around their neck on their balance sheet. So the CoinDesk report sort of can all of this into high gear. And there was, you know, speculation and research before then, including some of the work that you did. But when that came out, I mean, things happened very, very quickly after that. What's been your just personal experience of the past 10 days or so?

So, CoinDesk wrote their article, I believe, on the second. I had my own information that suggested basically the same thing they had said. And I had a little bit more information about exactly how much of the other holdings they had, which was interesting to find out. And so on the fourth, I published my article, which basically just showed, took it took the Coin Desk article a step further and said, instead of just saying they have this much in these tokens, my question was how much of these tokens actually worth? And it's pretty easy to show that they were, in all practical senses, worthless because nobody else owned them except Alameda. And the market was entirely controlled by this company. And they were basically faking an entire market. So that came on in the fourth. It kind of went viral,

which was kind of cool. And then a couple of days after that was when the head of finance announced that he was going to liquidate all of their assets in this FTT token, which was some $560 million or more worth of it. And that's the point when it really kicked off the bank run on FTX. And the thing was that they were fighting a battle on two fronts, right? They had to simultaneously pay people back their money. And then they also had to keep the price of this token up because they had levered themselves

on this totally a liquid asset. So they couldn't win that. Here's a thing. Like I said, I'm a very suspicious person. by nature. When I saw their balance sheet, I knew, and based on the information I had, I knew that they were in very serious trouble. Sorry, when you say they, just to be clear, do you mean Alameda specifically? Elmata and FTX. Okay. Yeah. And the thing to remember for people listening is that for years, Sam Bankman-Fright and others have always alleged or stated that Alameda and FTCS were totally separate

entities. Despite the fact that they were owned by the same person, the argument was that their leadership is different. They don't share information. They don't share assets. They are separate companies, and clearly that was not the case because they actually filed for bankruptcy together a couple days ago. So they were one and the same. But yeah, so they were fighting a battle on two fronts. And I mean, like I was saying before, I knew that they were in trouble based on looking at their financials, but I didn't realize the extent to which they had lost customer assets and the hole that they were in. I didn't think they would go down as quickly as they did for sure, but very shortly after that, they were insolvent and froze withdrawals. And from there on, we kind of know what

happened. And I guess we're going to find out who else has a lot of exposure to this thing. Just on that note, you kind of touched on this already. But one of the big talking points now is that, well, this isn't a failure of crypto. This is a failure of a centralized exchange and, you know, real crypto is decentralized and you should own your own keys and run your own node and, you know, only trade through uniswap or whatever. Is that a valid argument to make here? Is the problem, the centralized entities who act badly, or is the problem something fundamental about crypto and its tech? So here's my answer to that question. I've had to answer that question a few times in the last week. My opinion about crypto is, I'm fairly negative. I'm fairly skeptical. But I think arguments about

whether or not the blockchain technology or Bitcoin has any intrinsic value can be set to one side, because the fact is that regardless of whether or not it's crypto's fault or centralized exchanges' fault, The fact of the matter is, most of the people involved in this ecosystem at this point are transacting through centralized exchanges. All of the prices are determined by centralized exchanges. Centralized exchanges hold most of the assets and are controlling the entire market. So regardless of whatever is good or bad about the crypto in its essence, there's a very, very, very, very big problem here that defines the industry, in my opinion. I don't think there's, you know, how many people, the number of people who own crypto on these exchanges, that don't even know how to pull the assets off into their own wallet is unbelievable.

It's unbelievable. So to say it's a specific problem, it's only Sam, it's only this one exchange, it's only this one lending platform. I think we're going to find out that it is an industry ride problem because ultimately none of these things produce anything of value. All they do is they trade money in a circle and that money has to leave the system eventually. And what we're going to find out is that there is much less money in the system now. than there was when it started. And a lot of people are not going to be able to exit the system without losing a lot of their money. I'm so glad you said that because I keep seeing these discussions

on Twitter and elsewhere. It's like, oh, the solution is decentralized exchanges or just holding your own keys or et cetera. On-chain auditing is the new one. And maybe there's some truth to that, but I'm also surprised how rarely I hear what you said is like, why don't you make a product or the point? and you would not have these same problems if there were sort of like coins and platforms that solved real problems that had revenue that wasn't tied to speculation that had real businesses. And so to my mind, it almost doesn't matter centralized, decentralized if there is no naturally pull in revenue. I want to ask another question, though, which is, why couldn't, in your view, FTCS have just let

Alameda go? Okay, it was like blowing up. Its balance sheet was wrecked. Could FTCS have just say, you know what, our trading arm blew up, but we still have an exchange? No, because they were trading with their customers' money. They took their customers' assets. You could literally watch, as they were paying out withdrawals, you could watch the funds returning through Alamator research addresses.

This is confirmed by multiple individuals. They had taken the funds. I mean, they've essentially admitted to that at this point. That's why there's a hole there. I mean, because you have to remember part of the reason that crypto is, is, you is what it is, is that people are so against the traditional banking system and fractional banking and all that stuff. And these exchanges are supposed to operate as fully capitalized. They're not supposed to be playing around with their customer's assets. And that's exactly what they were doing.

And, you know, FTCS was offering yield on their customers' assets as well, which is, I mean, obviously a red flag that they're doing something more than just holding on to the assets and keeping them there for safekeeping. Just to be clear, your perception or your view is that the transference of customer assets to Alameda was going on for a very long time. That is what everything points to. I think there's been a fair amount of reporting at that point that I mean, I saw it myself, but yeah, there's been a lot of other reporting as well that shows that the money came back through their wallets.

And if you look at where the money went, it went to their wallets. What they did with it after that, nobody's figured out yet. That's a very massive problem to figure out, probably far beyond my abilities. But, yeah, I mean, they absolutely were. There's no excuse. Again, there's no excuse. If you look at FTCS's user agreements, they weren't supposed to be doing that with the customer's assets. They were supposed to hold on to the assets and keep them safe.

And if the customers wanted to leave, and that's the thing now is there's a lot of other exchanges facing very big withdrawal pressure. The fact is all of them should be able to give back all of the money and be fine. They shouldn't have any problem with that. And if they do have a problem with that, that means they were doing something with the money that they weren't supposed to be doing. Right. So it is true. if you look at the FTX user agreement, like it says specifically we will not lend out the cryptocurrency that we custody. So, okay, two quick questions. One, overall, how damaging is this for crypto,

given that, you know, part of crypto's raison dutch, I guess, was to reform the financial system in a way that would avoid a lot of these problems. And then secondly, what are you watching out for in terms of contagion? So I'm going to disagree with. you a little bit. I think that that's the narrative for crypto is that it's there to change the financial system and offer a individual responsibility alternative to the central banking world and, you know, a inflation-free alternative that's like gold or something. In practical terms, most of the people that have gotten involved in crypto in the last a year and a half or so are not people who care about that narrative. They're people who just want to get rich. It's just like any of the gambling

that's going on in the stock market. It's the same thing. Most of people don't really care about that narrative. The number of people in this space that actually care about that narrative is relatively small. I think that this is going to have a tremendous impact, and we're just starting to see that. Because a couple of reasons. Number one, FTX, because of Sam's spending on advertising, is one of the most recognizable firms in the entire. I hate calling an industry because it's not productive, but I'll call it an industry. He had his name on the, I mean, I swear, I can't get over it.

He had his name of FTX on the umpire uniforms for the Major League Baseball. I mean, he literally had his name on the regulators, you know? He has name on one of the most famous stadiums in the country. He had one of the most popular athletes in the world advertising for him and apparently invested in him. So, yeah, everybody knows who FTX is, which is why obviously the story is getting as much press as it is. So them failing, number one, is going to have a massive psychological impact, both on the people who already own crypto, who are realizing now that maybe they can't trust any of these exchanges. It's also going to have a massive effect on anyone who hasn't invested yet because ultimately this space depends entirely on new money coming in in order to drive prices up.

So that alone is going to have a massive impact. And then secondly, Sam was very close to regulators. He was very close to a lot of politicians. He donated, I think he was the second largest donor to the Democratic Party this year, this election cycle. There's going to be a lot of politicians who are going to have to explain, why did I take money from somebody who may have been running something that was, you know, very, very, very questionable. Let's just put it that way. I think that there's going to be a lot more impetus for the

regulators and for lawmakers to act on what's happening in crypto. And I don't think they're going to act in a way that the industry is going to enjoy very much. And then in terms of contagion? Oh, yeah, everybody. There is no, no, but I mean, realistically, I mean, number one, this system, again, like we talked about a little bit earlier, this is not a productive system. Ultimately, this is a destructive system. There is no money created by, what they're doing. There is no value created by what they are doing. So it's a close system that only gets new money from people who believe in crypto and want to invest more. So once that's cut off, everybody has to fight over whatever liquidity is left. And if it turns out other exchanges

we're playing the same games as Samwas, which it appears that at least some of them were doing those playing the same games and moving money around in ways that they shouldn't have been doing and people start withdrawing, it's game over. Anybody who lent money to Alameda is in trouble. all of the VC firms that invested in Alameda and in FTX just got burned to the tune of billions of dollars. So are they going to be investing anymore in crypto firms that don't generate income and need constant infusions of capital in order to stay afloat? I don't think so. I mean, if any exchange going down could have had like a systemic effect on crypto, FTX is probably one of the biggest candidates for that. So it's going to be interesting to see what happens the next couple weeks.

Yeah, for sure. And it does seem problematic when your use cases. basically predicated on speculation if you don't get inflows anymore. James, thank you so much for joining us. Really appreciate it. Hey, no problem. It's fun talking to you guys. Tracy, I found that conversation to be helpful, both in terms of understanding how FTX had been perceived prior to the collapse, the relationship between FTX Alameda, and of course what those early signs were in terms of collapse. And it really did materialize at lightning speed once fears of its insolvency started to percolate up.

And I do think it's worth noting that within the industry, there is still this furious discussion about whether the fault was crypto itself or whether it was more traditional trad-fi structures that actually imploded. But on some level, the debate seems really philosophical and one that we will probably be talking about for a long time. Right. So in the meantime, tomorrow, we're going to be going over some of these topics further zooming out a bit with our past guest, Matt Levine. Shall we leave it there? Let's leave it there. This has been another episode of the Odd Lots podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Allaway.

And I'm Joe Wisenthal. Follow me on Twitter at the stalwart. Follow our guests. Evgeny Gaivoy. He's at Evgeny Guyvoy and James Block at Mike Bergersberg. And be sure to follow our producer, Carmen Rodriguez, at Carmen Armin. And check out all of our Bloomberg podcasts under the handle at podcasts. And for more OddLots content, go to Bloomberg.com.

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