The Breakdown - Tether Holds More US Government Debt Than Australia

Episode Date: August 1, 2023

A look at the latest Tether reserve attestation, plus an update on the Curve hack and a new court ruling that rejects the Torres Doctrine from the Ripple vs. SEC case. Today's Episode Sponsored By: In Wolf's Clothing -- The first startup accelerator exclusively for Bitcoin and Lightning startups -- Applications for Cohort 3 open NOW -- https://wolfnyc.com/apply ** Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Tuesday, August 1st, and today we are talking about Tether and their massive holding of U.S. Treasuries. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to Bit. L.Y slash breakdown pod. Hello friends, happy August. If you are anything like me, that means that you are enjoying the last embers of summer,

while looking excitedly towards the fall, which is obviously the best season of the year. Now, today we are going to talk about a number of different topics, including Tether's recent reserve attestations, but where we start is with an update of yesterday's show. On that episode, which focused on the curve hack, we flagged that one of the biggest outstanding issues was a massive pile of loans taken by Protocol founder, Mikhail or Michael, apologies for not knowing, Egeroff. Blockchain analytics firm DeBank tallied up Egerov's loans and found that he had taken around $80 million in stable coin loans.

That was against $168 million worth of CRV tokens that were pledged as collateral. The largest loan was from defy lender Avey, with over $17 million borrowed from both fracks and Abercadabra. Egerov had been scrambling to pay down loans since Sunday's exploit, and it seemed like he began to run short of easy fundraising options almost immediately. On Monday, Egeroff liquidated batches of Lido tokens worth between 10,000 and 50,000. Investor Adam Cochran characterized this as, quote, digging in couch cushions and selling LDO tokens from other accounts via one inch to get money. He is obviously way more on the ropes than people thought. Now, from the on chain data,

it looks like Eggeroff paid down several million on Monday, but that was really only enough to buy him some time. It also appeared that part of his strategy had been to borrow more from Ave in order to pay down debt on frax, and this frax loan is particularly concerning as the service imposes an exponentially rising interest rate against loans made using collateral that exceeds a protocol limit. On Monday, the interest rate had already exceeded 100% APY and will continue to grow rapidly from there. Egeroff wouldn't need to pay back the entire loan across all protocols to avoid a painful liquidation, but he would need to clear a significant amount of the frax loan to make it through the end of the week. Degen Spartans summed up the issue like this. If Poole continues

to stay at max utilization. His frax position gets auto-liquidated within five days. We'll likely trigger cascades on chain. We'll likely liquidate his Ave position in nuke CRV to almost zero. Now, that CRV token, which again serves as collateral for the loans, continued to dive yesterday. It dropped a further 12%, bringing its price level to 54 cents overnight. Keep in mind, the danger zone for liquidation of Egeroff's loans seem to be somewhere around the 37 cent mark as of last night. And remember, one of the reasons that Eggeroff's loans were such a controversial topic in Defi is that he represented almost the entire loan book for the token. His loans had used over 30% of the total token supply as collateral, which of course, if liquidated, would massively

impact both the market and the defy lender stuck trying to process the bad debt. So far, only 3 million in liquidations of CRV tokens have taken place, despite the massive 26% drop in token price, indicating just how shallow liquidity is on the open market. So this was the state of play going into last night, but as of this morning, it appears that Egeroff has brokered an over-the-counter deal to raise the required funds using his additional CRV holdings. The FRAX loan has been paid off averting disaster, and it's unclear whether AVE will take action to deal with the massive CRV loan on their books, but for now, the position is stable if CRV doesn't continue to collapse in price. Crypto trader, I Like Block tweeted, apparently Mikhail is selling CRV for a 25% to 30%

haircut. Justin's son just bought 2.9 million for 2 million USDT. And indeed, it was a was the Tron Founder buying assets that got the most attention. Sun tweeted, excited to assist Curve. As steadfast partners, we remain committed to providing support whenever needed. Our joint efforts will introduce an STUSDT pool on curve, amplifying user benefits. Together, we aim to empower the community and forge a decentralized finance. So for now, disaster averted, however, probably not in a way that keeps the side-eye of regulators off the defy space, as we discussed yesterday.

Now, a quick note before we move into our main topic, I want to tell you quickly about our sponsor in Wolf's Clothing. Wolf NYC is the first startup accelerator dedicated entirely to Bitcoin and Lightning. It's a mentorship program, a funding program, an advising program, a peer support program, and it's just for companies focused on Bitcoin. Their second cohort is in the program right now, and applications for their third cohort coming up this fall are live. You can find out more and apply at wolf-NYC.com. I would love to see some breakers in there, so let me know if you have questions, and hopefully you apply. But with that, we move to our main topic, and that is around Tether. Tether has released their reserve attestation for quarter two and is now claiming to hold

$3.3 billion in excess reserves. The attestation was provided by accounting firm BDO, Italy, and claims the firm added $850 million in reserves over the quarter. Tether's Bitcoin position increased in value by $176 million, although this seems to be through asset appreciation for the quarter rather than additional Bitcoin purchases. Tether says they recorded in excess of $1 billion in operating profit during the last quarter, which was a 30% increase from the previous. In a Twitter thread about the attestation, CTO Apollo explained once again their philosophy around their excess reserves. He writes, what does company-owned excess reserves mean? it means that Tether on top of the 100% reserves necessary to back-issued tokens has $3.3 billion

more. This accounts almost for 4% additional value on top of the minimum 100% reserves. Okay, but why does Tether keep excess reserves in the portfolio? While these excess reserves are part of Tether-owned shareholder equity and normally a company would distribute them as dividends, Tether prefers to keep a big portion of these profits on top of the reserves to make its stablecoin products even more resilient. While many banks have failed their customers recently with poor risk management, long-term maturity products, and extensive fractional reserve, Tether believes its main role as leader in the stable coin industry is to act as a counterbalance, ensuring more protection to its global user base and avoiding those mistakes.

Still, the part of the report that really drew attention was Tether's claim to now have $72.5 billion worth of exposure to U.S. treasuries across direct T-bill holdings, repurchase agreements, and deposits in money market funds. Assuming that's true, it means that Tether now holds more U.S. government debt than most medium-sized national central banks. Crypto lawyer Collins Belton wrote, Wow, if this is true, Tether is apparently holding more U.S. Treasury bills than all of the UAE and many other countries. At this point, regardless of what you believe on their history, I think it's hard to see the USG railroading these guys easily anymore. Now, in the comment section,

lots of people were talking about Tethers accused past misdeeds, and Belton responded, the funny part is I don't disagree there's been a lot of historical smoke, implying a proverbial 5 alarm fire. But I've also said for a long time that I suspect they essentially inflated their way out of any hole between rate rises and PA on Bitcoin the past few years, and it's starting to look like that's true. Next open question is whether they pull an HSBC result and just pay massively once the U.S. government begrudgingly accepts that they've gotten too big to fail like, or if the U.S. will try to behead them. It seems like it's maybe a bit late for the latter at this point. Travis Kling sort of agreed, saying, the magnitude of the power tether is wielding these days is

nuts. Dominant market share and getting more dominant by the day, clipping a billion dollar quarter in profits, $3.3 billion of excess reserves, buying Bitcoin and big size at will with excess profits. Tether has always been really powerful, but sitting on that stack of reserves and saying they're going to opportunistically buy Bitcoin makes them incredibly powerful. Not only can they put bottoms in on Bitcoin price by buying billions, they can bail out just about anyone in the space if they so desire with the loans. It's Tether's world and we're just living in it. So a couple things to note about this. One, as always, it's important to be clear about terms. An attestation is not the same thing as an audit. And so because of that, there has to be at least some level

of skepticism. And that I think is just good mental hygiene for the space, not any sort of accusation or even suspicion that Tether's attestation is less than truthful. Now, I think that the question that Collins hits on about whether Tether is officially too big to fail is a really interesting one. As much as reply guys on Twitter are trying to shrug it off as if 72 billion in treasuries doesn't matter to the U.S. government? I don't know that that's really true. This represents around 0.26% of the total federal debt. It's also around 8.5% of the debt held by China. If Tether were a country ranked by foreign central bank holdings, it would be the 22nd biggest holder of U.S. debt. That's larger than the UAE, Australia, Mexico, Thailand, Philippines, Israel,

and more. Now, of course, the Southern District of New York recently filed updated documents in their case against Tether from 2019, and there is rampant speculative. around SBF potentially turning witness on that one and trying to cut a deal to help himself out, but for now we don't have any actual information about that. Moving on one other topic that I wanted to cover today was that on Monday, a federal judge rejected Terraform Labs motion to dismiss a lawsuit brought by the SEC. Now, in and of itself, that's not that interesting, but what was interesting was that was that Terraform's motion relied heavily on the recent ripple decision, which this judge outright

rejected. The judge in this case wrote in their order that, quote, rejects the approach recently adopted by another judge of this district in a similar case, SEC versus Ripple Labs. This judge specifically took issue with the distinction between direct sales to informed institutional investors and the general public via open markets, asserting that this logic runs contrary to the Howie test. The judge wrote, quote, Howie 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 resale transaction, has no impact on

whether a reasonable individual would objectively view the defendant's 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. Now, this judge also dealt with the so-called major questions doctrine, effectively arguing that crypto wasn't a major question. The judge wrote, quote, as the doctrine's name suggests and the Supreme Court has in case after case emphasized, the major questions doctrine is intended to apply only, in extraordinary circumstances involving industries of, quote, vast economic and political significance. They said that the crypto industry, quote, falls far short of this standard.

Now, obviously for those who were hoping that the Ripple decision would set a precedent in other related cases, this is a pretty painful first test. Remember, the judge here didn't just say that there were a different set of circumstances in Terraform Labs case. They outright dismissed the previous decision of their fellow judge as an incorrect application of the Howie test. Still some, like Bill Hughes from Consensus, effectively argued that this was inevitable and that people shouldn't be getting worked up too much yet. Bill writes, I suspect some other district judges will

agree with Judge Torres while others will disagree. None are required to accept her reasoning. Many, if not most cases will involve different legal questions and facts than the Ripple case. Not following Ripple will sometimes simply mean it isn't really applicable. Don't jump to conclusions either way. Speaking of government agencies over in IRS land, they have issued a tax ruling for staking. They've explained that token rewards are considered regular income as soon as they are received. The IRS explained, quote, The fair market value of the validation rewards received is included in the taxpayer's gross income in the taxable year, in which the taxpayer gains dominion and control over the validation rewards.

Now, staking has been an unclear tax issue for many years, with at least one lawsuit making some progress in claiming, that staking rewards should not be considered income until they are sold because they are created by the staker. This would be similar to the way that manufacturing a chair and a backshed is not considered income until the created good is sold. The issue has also been raised in draft legislation, with the Lumas-Gillibrand bill taking the view that staking rewards shouldn't be taxed until they are sold off. Delphi Labs Council Gabriel Shapiro writes, by far my most hated crypto law take is that this was an inevitable and logical position. I think it helps with decentralization as well,

much like hard costs of mining required miners to sell and increase economic decentralization on Bitcoin. Devil's advocate against myself, perhaps most whales will tax-optimized to be outside the US, and so perhaps this only impacts smaller stakers and thus deters decentralization through retail and smallholder participation by people who can't tax optimize. So friends, lots continuing to go on. We kick off this August with a sense that in many ways we're starting to get little tiny dribbles of answers, not just questions. The IRS is giving guidance. Judges are actually interacting with previous decisions. And so maybe that will be the theme heading into the fall. In either case, I can guarantee that it will be interesting and we will continue to cover it ever.

day for you here. I want to say thanks one more time to my sponsor in Wolf's Clothing. Remember, the applications for their third cohort are due on August 4th. That is Friday, my friends, so go to Wolf-Nyc.com and check it out. And of course, thanks to you guys, as always, for listening. Until next time, be safe and take care of each other. Peace.