The Journal. - The Trial of Crypto’s Golden Boy, Episode 2: Imaginary Numbers

Episode Date: October 1, 2023

In 2022, crypto markets were in turmoil, but Sam Bankman-Fried's empire seemed to weather it all. That is until one week in November, when he went from crypto's savior to its biggest villain. WSJ’s Caitlin Ostroff tracks the unprecedented collapse of Bankman Fried’s empire, and the big secret that would prove to be its downfall. Learn more about your ad choices. Visit megaphone.fm/adchoices

I often joke that crypto moves in dog years, that events that might take seven years to unfold in any other industry can happen in just one. In a few years, FTX went from a little-known startup in Hong Kong to one of the biggest crypto exchanges in the world. And Sam Bankman Freed became the face of the industry. But in a few short months, everything fell apart. It all started in the summer of 2022. Well, it may be summer in the real world,

but online, it's a crypto winter. Cryptocurrencies continue to slide, and Terra has completely imploded. Cryptocurrencies continue to slide and Terra has completely imploded. Does it make sense to buy Bitcoin now or is digital currency dead? Crypto markets were a mess. Coins were plummeting. And they were dragging crypto companies into bankruptcy. The whole industry just seemed to be coming apart. But at the time, Bankman-Fried appeared immune to the turmoil. His hedge fund, Alameda Research, seemed unaffected. And FTX was a pillar of stability,

propping up struggling crypto companies with loans and buyouts. To a lot of people, it looked like Bankman-Fried was saving crypto. A lot of people called you the savior of people, it looked like Bankman-Fried was saving crypto. A lot of people called you the savior of crypto, the patron saint of crypto. I'm wondering if you agree with any of those names. You know, in the end, I think that there weren't very many people who were really going to be positioned and willing to step in during the crisis. We felt like the most important thing that we could do was to help, you know, stop contagion from spreading and backstop customer assets.

My colleague Alex Osipovich wanted to know more about the so-called savior of crypto. So he went to FTX's headquarters to interview Bankman Freed in August 2022. He came in and we had a good conversation for about an hour. You know, I tried to push Sam a bit out of his comfort zone with my questions because I knew he talked a lot to the press and I tried to push him on various touchy topics. Looking back, Alex's one moment of their conversation stands out. I asked him about the relationship between FTX and Alameda Research, and I noticed that he took his fidget toy and began spinning.

Was that unusual for Sam to be doing something else while he was being interviewed or to use a fidget spinner or something like that? Sam was a very fidgety guy. It certainly wasn't the only time he'd used a fidget spinner. He had a habit of kind of moving his knee up and down while he was sitting at a table as though he just couldn't contain himself. The thing that struck me was it was just at that moment when I brought up Alameda that he brought out the fidget spinner. It may have been nothing,

but now we know that Alameda was struggling that summer when crypto collapsed. But unlike the companies that fell around it, Alameda had a lifeline. The code, which I told you about in episode one. It gave Alameda the ability to tap FTX's money. Money that prosecutors say came from the accounts of FTX customers. And taking that money would cost FTX and Bankman Freed everything. This is the trial of crypto's golden boy.

I'm Caitlin Ostroff. It's Sunday, October 1st. Coming up, part two, imaginary numbers. Tim's Maple Bacon is back. Futuring crispy, naturally smoked bacon with a sweet and savory maple glaze and a 100% Canadian fresh cracked egg. All on a new cheddar croissant. Try Tim's Maple Bacon Breakfast Sandwich today at participating restaurants in Canada for a limited time.

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Get almost, almost anything delivered with Uber Eats. Order now. Alcohol and select markets. See app for details. Sam Bankman-Fried's trial begins Tuesday. In their case against him, prosecutors will argue that Bankman-Fried defrauded FTX customers, that he stole billions of dollars from them, and lied to investors. Bankman-Fried has pleaded not guilty to the charges.

Before he was charged, he said that he, quote, screwed up. His spokesman declined to comment for this podcast. Now, it's up to a jury to decide if Bankman-Fried is guilty or not. But none of this would be before the court if not for one piece of reporting, which published November 2nd of last year. So it all started when Coindesk, a crypto news site, published an article about Alameda Research's balance sheet. an article about Alameda Research's balance sheet.

And what we learned from that article was that Alameda Research, the big crypto trading firm that Sam Bankman-Fried owned alongside FTX, Alameda Research was very heavily dependent on certain tokens that had been basically created by Sam Bankman-Fried, in particular one called FTT. FTT. A coin created for FTX. It's pretty common for exchanges to make their own coins. After all, it's just a few lines of code. But the article reported something strange.

It showed that the bulk of Alameda's holdings were FTT coins. And that raised concerns. Yes, there was a concern that Alameda had very fragile finances because if its balance sheet, kind of the stuff that anchored the company and made it financially sound was dependent on FTT, then that means it would be susceptible to a crash in the price of FTT. And there was a sense that, oh, maybe this is a fragile state of affairs. At the time, I didn't really see the issue. Everyone knew that Alameda and FTX were both created by Bankman Freed. And it didn't seem that weird that they would both hold a lot of the same

cryptocurrency. So I asked around. When the article came out, I was at a crypto conference in Lisbon, and no one seemed that concerned. I even asked a senior employee at FTX about the article. That employee was completely unfazed. And they invited me to crash a party with their FTX colleagues. For a few days, everything was quiet. Sort of like the calm before a hurricane. But the story did alarm one important person. Chang Peng Xiao.

They call him CZ, easier to pronounce. He is the founder and CEO of Binance. That's my colleague, Patricia Kosman. Together, we cover Binance and CZ, a crypto pioneer. He's, you know, this guy who was like, obviously very tech oriented, who was in traditional finance for a long time, and decided to create his own exchange, which is Binance. And he's the CEO and the founder of the biggest crypto exchange by far in the world.

So he's a pretty influential guy within the world of crypto. So influential that CZ helped FTX get off the ground back in 2019. He was one of the company's early investors. But as FTX grew, the relationship between the two CEOs changed. The relationship was not good. I think for one thing, these guys were rivals, right? FTX ended up like growing and becoming quite a big exchange. And by nature, they were competitors. Their rivalry changed their business relationship. In 2021, Binance decided to sell its stake in FTX back to the company. In return, it got a lot of the exchange's coin, FTT. So when the article came out, it raised concerns at Binance about the coin's stability.

And CZ wanted out. And what CZ decided to do was that he tweeted that they are going to start selling the chunk of FTTs that they held. And people thought, well, if Binance is selling all these FTTs, the price is going to collapse. Caroline Ellison, the CEO of Alameda, replied to CZ's tweet, saying that, quote, Alameda will happily buy it all. It seemed to me like Ellison wanted to stabilize the FTX coin.

But the move didn't work. Its value started crashing. In just two days, the coin sank from around $22 to $2. And that meant that Alameda was in trouble. Because it had a huge amount of FTX's coin. Basically, Alameda's money was evaporating. FTX was also in trouble. As the value of the coin fell, confidence in FTX shattered,

and customers started to pull out their deposits. It was just like a bank run. But when customers tried to take out their money, they discovered it wasn't in their accounts. FTX didn't have it. FTX needed a bailout. Fast. And Bankman Freed called the last person I expected him to. CZ, as we understand, was in his office in Dubai, kind of preparing for like a speech he was going to make in Bali like days later, when Sam sent him a message over Signal, that encrypted

messaging app. And we understand from speaking with sources that, you know, Sam kind of like said something to the effect like, congratulations, you won, you have the biggest exchange, and you know, we are in this situation, and I really need a buyer. You're the perfect buyer for us. On November 8th, Binance agreed to buy FTX, and it looked like FTX's crisis was over. FTX. And it looked like FTX's crisis was over. But before that could happen, CZ sent an army of lawyers and accountants to evaluate FTX's finances. And we heard that as soon as the figures, the financials started to be disclosed, things started to look worse and worse by the hour. things started to look worse and worse by the hour.

Worse is an understatement. What Binance's accountants discovered was that FTX was missing a huge chunk of money. So, you know, first FTX said that they had a hole actually that needed to be plugged that was about $2 billion. And then in the first hour that Binance people started looking to the books, they're like, that number inflated to $5 billion. And we heard that Binance just found books to be a complete mess. There was no records of things. And eventually the whole,

as we know, became over $8 billion. Eventually, the hole, as we know, became over $8 billion. What was your reaction as you learned that the hole was growing from like $2 to $5 to $8 billion? As this was described to me, you know, I kept asking the source, you're talking about billions, right? And then I kept confirming the number. I kept, like, putting the number over and over. I think at some point the source even said, like, Patricia, like, yes, that is the number. But it's really hard to believe that.

Eight billion dollars. It was a massive hole in FTX's finances. And if Binance wanted to buy them, they would have to fill it. It wasn't long before Patricia and I heard that Binance would likely kill the deal. And we wrote a story. But Bankman Freed himself didn't know. That same day, he sent Binance a message. And he asks like, we are super excited to work with you guys. Just, you know, obviously there's a lot of public pieces coming out, claiming things are not going well. So we just want some clarification and we're happy to make this work.

And then like three minutes later, CZ himself sends a message to Sam saying, Sam, I'm sorry, we won't be able to continue this deal. Way too many issues. And then he signs CZ. Bankman Freed was running out of options. After losing the Binance deal, he asked investors for emergency funding. But he didn't get far. Within a week, Bankman Freed had gone from crypto's so-called savior to its biggest villain.

His empire was in ruin. And in the wake of the collapse, Bankman Freed faced pressing questions from his customers, lawmakers, and from officials who believed he had broken the law. That's next. We'll be right back. Are you Dave, a claims-free hybrid driving university grad who signed up online? Well, Dave, this jingle's for you. Who saves with TD Insurance? Because he's a claims-free hybrid driving university grad who signed up online. It's Dave.

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As FTX was unraveling that November, one of Bankman Freed's allies made his way to the Bahamas. When I got down to the Bahamas, I was told by some of his executives there that there was an $8 billion shortfall. I was shocked. I was alarmed by that. That's Anthony Scaramucci. You might remember him from the week and a half when he worked in the Trump White House. He was director of communications.

Since leaving politics, Scaramucci has focused on investing in crypto through his company, Skybridge Capital, and FTX had been a big investor in his firm. How did that relationship develop between you and Sam? We developed a nice relationship. Being a generational transfer of knowledge or generational transfer of experience, my sort of contacts around the world, I thought I could avail those to Sam and his team as he was building out this business. Scaramucci says he flew to the Bahamas thinking he could help Bankman Freed fix the situation. But things were worse than he imagined. I sort of believed, wrongly, but I sort of believed that there was just a capital imbalance, that there was a panic induced by the Coindesk article

and the decision by CZ at Binance to sell his FTT tokens. And so I thought we were going to be able to come up with some rescue financing for him. What was the scene when you got to the Bahamas? Was everything quiet? Was it loud? Were people screaming? What was happening? When I got to the Bahamas, I think there was an overlay of shock and dismay as people were grappling with the notion that there was actually fraud being perpetrated. Many of these people had put their whole lives into FTX. I think there was a lot of shock in the room. Did you see Sam during this trip or was it others that you spoke with?

Yeah, no, I saw Sam. Sam was quite apologetic to me. He was making it at that time that it was an asset mix-up. He was calling it a mislabeling of assets. He was saying that he perhaps didn't have a great understanding of the balance sheet and where things were. I think there's facts that have come out that would suggest otherwise. I was trying to give him the benefit of the doubt at the time, but I was also trying to say to him, hey, this is a huge problem. It's got to be addressed immediately. hey, you know, this is a huge problem. It's got to be addressed immediately. You know, I don't know if you've ever seen the scene in Private Ryan

where the infantryman has lost his arm and he's picking it up and he's holding it in his hand. And you could see that there's this shock that this has actually happened to the infantryman, you know. So sometimes when you're going through something like this, you can't believe it's happening to you. And I think Sam was experiencing some of that. You know, it was a big shock to me. I remember leaving the Bahamas on November the 8th thinking,

OK, well, he's going to have to file for bankruptcy protection because he's got a severe issue here. Days later, on November 11th, FTX and Alameda declared bankruptcy. CEO Sam Bankman-Fried, he tweeted this morning, we finally heard from him, he said, I'm really sorry again that we ended up here. He says he was shocked to see things unravel the way they did earlier this week. CEO Sam Bankman-Fried is stepping down as well as a CEO, saying that he will stay on, however, to ensure an orderly sort of transition with regards to the company.

How exactly that happens. A new CEO took over FTX, John J. Ray III. He's a lawyer who's made a career of mopping up failed companies. He oversaw the bankruptcy of Enron, so he knows how to handle a mess. But even for Ray, FTX was on a whole new level. Here he is testifying before Congress. The FTX group's collapse appears to stem from absolute concentration of control in the hands of a small group of grossly inexperienced, non-sophisticated individuals who failed to implement virtually any of the systems or

controls that are necessary for a company entrusted with other people's money or assets. After taking over, Ray brought in a new management team. In court filings, they documented the scale of mismanagement at Alameda and FTX. And despite everything we knew up to that point, it was still wild. FTX tracked money using QuickBooks. Executives approved expenses with emojis. And sometimes, Alameda lost track of money.

In one internal message, Bankman-Fried said that, quote, "'We sometimes find $50 million of assets lying around that we lost track of, such as life. The bankruptcy froze all of FTX's assets, and that included millions of customer accounts. When did you first realize something was wrong with FTX? Well, I actually got caught off guard with the whole FTX thing. That's Leandro Cabo. You heard from him in episode one.

He's a crypto investor who had a lot of money on FTX. I logged in to the app one day and it just wouldn't load. I would just be in a constant loading cycle. And I checked online, saw that others had some issues. I waited, thinking that this was just a technical issue that would be resolved by the end of the day. And sure enough, by the next day when I log online and read into it. It's just news about how the whole thing collapsed. Did you try to reach out to FTX during that moment? Was there any communications or support that you heard from them? Yeah, nothing but an auto response. They were just completely ghosting me. I'm sure others have felt the same way. They must have gotten hundreds of thousands

of reports, and I doubt that they answered any of them. Every FTX customer was in the same situation, and they didn't have anyone to turn to. Normally, when a bank fails, the government steps in to help customers get their money back. But crypto has no safety net. Customers were desperate. I got dozens of messages asking me what to do. Some were trying to access a few hundred dollars, some hundreds of thousands. How much money was in there when FTX collapsed? It was a little over half a million dollars. when FTX collapsed? It was a little over half a million dollars.

I truly can't imagine what that must have felt like. It was horrible when you consider that I had 10 grand in my bank account. So it was all my money. It was everything that I had. I went into a very rough, depressive state. I had to cancel family trips and any effort to get as much money back in my account as possible. It got so bad that I missed work so often that eventually I got let go from my job. So I lost my job. I had to relocate. I had to sell my house.

It was horrible. Is there anything you would want to say to Sam, if you could? I would say give me my f***ing money back. FTX had declared bankruptcy. Most of its employees fled the Bahamas, and Bankman Freed was no longer CEO. But he still thought he could salvage things. I started hearing that Bankman Freed and his skeletal team were all that remained in the Bahamas.

They were cold-calling whoever they could, asking for money. But they got nothing. With no funding, and his reputation decimated, Bankman Freed went on a media tour. In late November, he spoke to the New York Times during a live event. How concerned are you about criminal liability at this point? I mean, look, I've had a bad month. This has not been a fun month for me. But that's not what matters here. What matters here is the millions of customers. What matters here is all the stakeholders in FTX who got hurt and trying to do everything I can to help them out. Bankman Freed spoke to several news outlets.

And reporter after reporter asked him where he'd gone wrong. Here he is on ABC News. You said one of your great talents in a podcast was managing risk. That's right. And it's obviously wrong. Well, I think that there is something maybe even deeper wrong there, which was I wasn't even trying. Like I wasn't spending any time or effort trying to manage risk on FTX, trying like, and that obviously, that was some mistake. That's a stunning admission.

What? That's a pretty stunning admission. Yeah, I mean, I don't know what to say. Like what happened, happened. And like, if I had been spending an hour a day thinking about risk management on FTX, I don't think that would have happened. And like, if I had been, if I had been spending an hour a day thinking about risk management on FTX, I don't think that would have happened. One of the journalists Bankman Freed spoke to

was my colleague Alex. In December, he went back to the Bahamas for another interview. And this time, everything was different. Alex met with Bankman Freed in a luxury condo where FTX employees had lived. It now sat empty. The windows were shuttered to hide Bankman Freed from the paparazzi. Hey, Sam.

Hey. So we're here to talk about what happened to FTX. It was very different this time. He was a disgraced, reviled figure, and everybody seemed pretty convinced that he was going to go to jail for fraud. We talked at some length, and he kept kind of slipping away

and going in other directions and meandering around. It was probably the weirdest interview I've ever done in my life. Sam, are you an ethical person? I think I've tried as hard as I can to be one. I don't want to claim that I had anything like the impact that I was hoping to have on the world. Obviously, that's gone in a totally different direction, and I feel like shit about it. But I try to be it.

That's what my goal is. I kept asking questions along the lines of, okay, customers put dollars in. Where did those dollars go? I asked that a few times, and essentially his answers devolved into, I didn't really know what was going on. We didn't have very good controls.

Clearly, we could have done a better job, but it was all very evasive. Bankman Freed was adamant that he didn't know FTX had sent customer money to Alameda. Towards the end of the interview, Alex pushed back on that. With Alameda, you've said a few times that you weren't really aware of what was going on there. Yep. Just with Alameda, you've said a few times that you weren't really aware of what was going on there. Yep. How is it that as a 90% owner of the firm and founder of the firm who was close with the leadership, you didn't know what was going on?

One thing is I was busy. I was, you know, FTX was a full-time job. I was more than a full-time job. And I didn't have enough brain cycles left to understand everything going on at Alameda if I wanted to. I also didn't want to because I was concerned about conflicts of interest and I felt like it would be inappropriate for me to be looped into details of what was going on there. It caused me to not dig in very much, to not try to engage very much on what Alameda was doing and I it was a huge oversight obviously but I you know the honest answer is

I mean obviously I should have been. It feels a bit to me like possibly you were trying to shift some of the blame of what happened onto people in Alameda, including Caroline Ellison. Are you throwing Caroline under the bus? It's not at all what I'm trying to do. Um, and look, I'm, I'm sure that there's plenty of blame for losses, for personal losses to go around. But at the end of the day, FTX was a customer-facing platform. And I was the CEO of FTX.

And that means that it was my responsibility to protect the customers of FTX. It was my responsibility to do right by all of our stakeholders. And I clearly did not do a good job of that. I clearly did a very bad job of that. What did you make of his answers? He was implicitly passing the buck. He wasn't naming names, but just saying it wasn't my responsibility. In December, Bankman-Fried continued to defend himself in interviews and was getting ready to testify before Congress.

But then my colleague Vicky Gehuang noticed something that stopped her in her tracks. It was a tweet saying that Sam Bankman-Fried has been arrested. And it was like one of the few times I literally got a physical reaction when I saw the tweet. I was just like, I can't believe this is happening. What was the physical reaction? I think just like goosebumps.

The next day, he was supposed to testify in Congress and a lot of people were eager to hear what he had to say. But then this arrest happened. It was just very interesting. On December 12th, the Justice Department charged Bankman-Fried with committing wire fraud and conspiring to commit money laundering, among other charges. conspiring to commit money laundering, among other charges. After 10 days of sitting in a Bahamian prison, Bankman Freed was extradited to the U.S.

He pleaded not guilty to the charges. His parents eventually helped post a $250 million bond, one of the largest in history. For most of the past year, Bankman Freed has been under house arrest in his parents' home in Palo Alto. From there, he's been getting ready for trial, and he's spent hours talking to journalists. Most defendants stay quiet before a trial, but prosecutors say Bankman-Fried had more than a thousand calls with reporters this year. In July, the New York Times published excerpts of Caroline Ellison's private writings, which Bankman-Fried had shared with them. Prosecutors made the case that Bankman-Fried's actions amounted to witness tampering, and the judge agreed, sending him to jail in August.

Sitting there in court, as Bankman-Fried was taken away in handcuffs, I started to realize that this trial could get unpredictable. But it also promises to help us piece together what happened. We expect to hear from three key witnesses, the members of Bankman Freed's inner circle. We'll hear from Gary Wong and Nishad Singh, who allegedly wrote code that let Alameda take money from FTX. And from Caroline Ellison, Alameda's CEO. All of them have pleaded guilty to fraud charges. Days away from Bankman-Fried's trial, my colleagues and I still have a lot of questions.

I think we've heard a lot from Sam and his perspective on what went wrong and what happened. I would love to hear from the CEO of Alameda Research, Carolyn Ellison, and other FTX executives what really happened. What I wonder about with FTX is did these people think that,

oh, maybe we'll cut some corners here, but it's going to be great. We're going to make so many billions of dollars. We're going to do so much good in the world. It won't matter if we, you know, do a few financial things in the meantime that are maybe not totally kosher. I hope like what we hear is Sam creating some kind of like proper justification and understanding of what the hell happened. Because at this point, we continue to not know exactly and precisely when they started tapping customer funds, what was the thinking.

when they started typing customer funds. What was the thinking? The trial is expected to last several weeks. And then, it will be in the hands of a jury. And I'll be there, in court, every day, bringing you the story. Look for updates in the journal feed starting this week. The Trial of Crypto's Golden Boy is part of The Journal, which is a co-production of Spotify and The Wall Street Journal. I'm Caitlin Ostroff.

Additional reporting in this episode from James Finelli, Corinne Ramey, and Alexander Saidi. This episode was produced by Enrique Perez de la Voza. Rachel Humphries is our senior producer. It was edited by Catherine Whalen. Special thanks to Catherine Brewer, Brent Kendall, Kate Leinbaugh, Sarah Platt, Pierce Singey, and Jenna Teleska. Show art by Zoe Van Dyke.

Back checking by Najwa Jamal and Nicole Pasolka. Sound design and mixing by Peter Leonard and Griffin Tanner Music in this episode by Peter Leonard Our theme music is by So Wiley, remixed for this series by Peter Leonard Thanks for listening. See you in court.