The Michael Knowles Show - Lies, Theft, & Orgies In The Bahamas: FTX Crypto Explained | Erik Voorhees

Episode Date: November 27, 2022

Erik Voorhees joins the show to discuss the strange story of Sam Bankman-Fried and the FTX crypto crash. Learn more about your ad choices. Visit podcastchoices.com/adchoices Learn more about your ad choices. Visit podcastchoices.com/adchoices

It all seemed so wonderful. FTX, the world's second largest crypto exchange, was changing everything. It was revolutionizing, not just crypto and finance, but the whole world through effective altruism, through the funding of the most wonderful, idealistic, largely Democrat politicians, all over the United States. It was all just so beautiful until it all came. tumbling down, and it turned out that FDX was actually just a bunch of kids living in a Bahamas penthouse, doing a ton of drugs and sleeping with one another and spending gazillions of dollars

that didn't actually really exist. Now, I know absolutely nothing about crypto or finance, or the Bahamas, for that matter. But fortunately, we have one of the OG leaders in crypto, Eric Voorhees, who has debated the man in question here. That would be Sam Bankman-F-F, and who has really approached crypto not just from a money-making perspective, but from a philosophical perspective as well, and can, I think, shed some light on what the hell happened. Eric, thank you so much for coming on the show. Hey, Michael. Thanks for having me. I truly know nothing about crypto. I have been reading the reports

of what happened here at FTX. I still, I don't quite get it. The best I can deduce is that the whole thing was kind of a Ponzi scheme. What happened? Yeah, let's start it with the basics. So yeah, FTX was this massive exchange, fairly new on the scene,

like it didn't even really exist three or four years ago. But suddenly it was the second largest exchange, It had its name on the Miami Heat Stadium. It was doing Super Bowl ads with Tom Brady and Giselle. And everyone thought it was like one of the most successful companies in the entire industry. It had a related company called Alameda, started by the same guy prior to FTX. Alameda was a prop trading firm.

They would trade their own money, make speculative bets on various things within the crypto world and without. And FTX was a exchange for customers. So people that want to buy and sell cryptocurrencies would go to FTX to do that. What seems to have happened is that Alameda made a bunch of losing bets, very large losing bets, billions of dollars, perhaps earlier this year. And it borrowed the missing amount from FTX. FTX lent customer money. over to Alameda.

So FTX had billions of dollars of customer deposits who were trying to trade their own cryptocurrencies. It lent that money, unbeknownst to those customers, to this other company. And that seems to be what has happened generally. The details are still all coming out. But there's something around $10 billion missing, which is an absurd amount. And the behavior of SBF, since the collapse last. week has been also very strange and extraordinary. So I'll stop there and we can dig into whatever you want. Fools and their money are quickly separated. But you're talking about some pretty

serious people with some pretty serious money and then a ton of other kind of regular run-of-the-mill retail investors who are using this exchange. How did nobody figure out that the whole thing was kind of a scam? Well, Twitter figured it out. Crypto Twitter figured it out. Just people using blockchain forensics figured it out, and that's kind of what started this all unwinding. It certainly wasn't the government that figured it out. It certainly wasn't regulators that figured it out. It certainly wasn't the police anywhere that figured it out. It was just private people doing some investigation. And so it was discovered because basically they had to stop having customer withdrawals. They had to pause them. And that's always like a huge red flag. There should be no point

where a custodian is ever pausing withdrawals, that's a problem. And they're pausing it because they didn't have enough money to fund it. Right. I mean, this is the sort of thing we read about in the 1930s or, you know, after the stock market crash, that this Twitter threat emerges and they say, actually, FTX is completely screwed. And then people come in and they say, okay, I want to get my money out of here. and it's basically like a run on the bank and the bank or the exchange, the FTCS in this case,

doesn't have the funds. And so they say, okay, we're going to put a pause on it. And then no one has any faith whatsoever in the institution anymore. And then the whole thing just collapses instantly. Yeah, the comparison to a bank is the right one. So just like with banks, FTX operated on what's called a custodial model where it's holding customer money. So a lot of things in crypto are called self-custody, where you're holding your own keys,

you're holding your own crypto and you don't have to worry about, whether people are trustworthy, but still people deposit funds with third parties. And in this case, the third party was FTX. And just like a bank that doesn't actually have all the money in it that people think it does, FTX did not either. But unlike a bank, FTX does not have a backstop of taxpayers in the form of FDIC insurance. So when the run started, it all fell apart. You have to feel sorry for the people who lost their money, even Tom Brady or whoever, But there is something really satisfying here, which is that SBF, the guy who was running this thing, was so flamboyantly liberal. I don't know.

He was so effusive about effective altruism and how he was going to transform the world. And he wasn't really in it for the money. He was just in it for all the good that he could do for everybody else. And then it turned out it was just complete BS, the guy's a common question. basically. Yeah, well, he was the second largest donor to the Democratic Party in this last cycle, something like $40 million. I'm awaiting those politicians to return all that money so that can go into the relief fund for the victims. That would be nice. Well, I hope you're not holding your breath on that, Eric, because I don't think that would be conducive to your health. So the

basic scheme here was the guy takes the money out of the exchange and and sends it over to this hedge fund. The hedge fund is being run, it turns out, by this 20-something Stanford graduate girl who may or may not have been SBF's girlfriend and who publicly now it is coming out. I mean, I guess it was public before, but no one was paying attention to it, was not implementing even basic protections against some of her crazy bets that obviously weren't paying off very well as investments. And then they would all brag about how they were hopped up on amphetamines.

I guess what I still struggle with is how did they get away with it for this long? They got away with it for this long because they had the mirage of protection under government regulation happening. FTX's marketing campaign was the safe regulated way to buy Bitcoin and digital assets. And it wasn't just a campaign. Again, Sam was in Washington, D.C., lobbying and talking with all these regulators. He was buddies with many of them. There are all sorts of photos of him with Maxine Waters, and he had meetings with the chairman of the SEC, Gary Gensler, who seems to have taken a very light touch approach with him. People trusted it because it flew under the banner of regulation.

And unfortunately, people trust the government. They should stop doing that. Thankfully, in crypto, you can trust code. you can trust math. You don't need to trust politicians. But people still do. And so that's part of what allowed us to get so large and to collapse so horribly. You know, I'm not a huge Ein Rand guy, but I have to admit, this whole episode just seems like something out of Atlas shrugged. You know, the really crooked businessman whose entire wealth rests on favors that he's calling in in Washington, D.C. I mean, this guy, Sam Bankman Fried was just doing all of that. And it's not just the regular

in DC, it was the media, too. I just pulled at sort of at random one of the glowing profiles of this man. Here's what they said about his Bahamian business operation. Sam Bankman-Fried lives there with nine roommates, fellow travelers in effective altruism's movement, an intimate crew. We learned it was actually a very intimate crew, but that's beside the point. It's just SBF, his family, his mother, father, and brother are all in town, and close friends, a team dedicated to fixing the world via the magic of quantitative easing and the overwhelming force of goodwill. All of them are united by the mission. Goes on and on and on. Yes, the government regulators failed here. Didn't the media fail as well? How come it's just random guys on Twitter who were able to expose this fraud? Where were the

journalists? Where are the financial journalists who should have been poking around the business operation? Yeah, well, they like often abdicate their responsibility. In the crypto world, we get lots of articles from the press that are very damaging and very cynical about what we're doing. But when it comes to someone like SPF, they write these glowing reviews. Why that discrepancy? Like the good leaders that have been in the space for up to a decade at this point just get totally trashed by the New York Times, by the Wall Street Journal, myself included. And then the biggest fraudster that has ever appeared in crypto comes along, and they write these glowing reviews about him. Even what came out in the New York Times a day or two ago post the collapse, if you read it, it's shocking, like how unwilling they are to acknowledge that Sam committed like an absurd degree of fraud and theft here.

They don't even use those words. They talk about how there was a collapse and like, you know, this thing went off the rails. And it just got this vibe of, you know, poor kid got ahead of himself instead of this guy stole customer deposits and gave them to a sister company. And that is simply just fraud and theft. It's not complicated. It's not like some complicated new scheme was created using crypto technology. They just had a bunch of customer money and they gave it to someone else. and it's just theft.

You know, I did watch a debate between you and this guy, Sam Bankman, Freed, and knowing absolutely nothing about crypto, I had the sense that you had the right side of the debate because you gave your answers in really plain, concise language. And he would just spin a yarn forever using all this kind of jargon and all of these kind of mealy-mouthed words. And I thought, you know, see, seems like the guy is trying to hide something here. And clearly that's the case. But as you point out with the New York Times, the narrative that is emerging from the collapse of FTX is that this was a failure of too little regulation. The failure here was that, you know, crypto itself is sort of poisoned or, you know, we just need the government to come in there more and add some more safeguards. You say it's exactly the opposite.

Yeah, the problem here is that someone committed theft and stole a bunch of money. Theft doesn't require regulation. It's already illegal. Crypto doesn't need more rules. It already has a bunch. Centralized custodians like this are already heavily regulated under the Bank Secrecy Act and many other laws in the United States and elsewhere. Those of us in crypto have seen how much regulation we have and it doesn't help people. And here comes the biggest fraudster ever and none of the regulators stopped it.

None of the regulators caught it. The industry caught it. The industry stopped it. And for those of us who have been building this stuff, what we're trying to advocate here is that people realize that decentralized finance, basically using financial tools built on blockchains where you don't have to trust anyone, is the future. You can have honesty through transparency and through code. You don't need to trust Tom Brady's endorsement. You don't need to trust Maxine Waters and her 50th committee on financial oversight. You can just trust open source code, and that is incredibly powerful.

And that's actually the right lesson to learn from all this. By the way, I remember what Tom Brady did to those footballs. Okay, I remember deflategata. So I would never trust a crypto exchange that he was endorsing. But maybe that's from my prejudices as a New Yorker. You know, never was a big Patriots fan. Moving forward, you've got this defy movement. We're saying, okay, the regulation is a big problem here.

And obviously there was a failure of people being too cozy with these regulators. can crypto broadly survive this? I mean, because you can say, well, the narrative that's being spun up by the media is total BS, but narratives have power. What does the collapse of FTX mean for the broader crypto space? Yeah. So from a superficial level, it's a huge black eye for crypto, right? Like irrefutably.

The fundamental question, what's valuable to understand is, did anything actually change with the technology that would lead someone who had a thesis about this to change their thesis. Nothing about crypto technology changed. There's no horrible bug revealed in the consensus mechanism of Bitcoin, for example. Crypto-blockchains keep working just as they always have, and they operate according to code. The failure here is a failure of centralized financial intermediaries, and that's been happening for hundreds of years. There's nothing new to that.

but certainly people who don't look under the surface or who read the New York Times are going to end up, you know, misled. And that's a shame. I think you repeated yourself there, by the way, Eric, people who don't look under the surface and people who read the New York Times. So I hope they can look elsewhere to figure out the reality of what is going on. But if you've got all this money that basically disappears and who knows if SBF, you know, flies off into the sunset, you know, and leaves on a a yacht from the Bahamas, you know, with some crypto wallets in his pocket. But how are the other exchanges reacting to this? And what do you think, even if it's ill-advised, the regulatory action from Washington is going to be? I wrote a little song to remind you, choice hotels,

get you more of the experiences you value. The Canberia hotels got it all. A rooftop ball, Have a ball Cocktails up here Feel just right Yeah, so the other Amazing All right Bring a date,

your team Or even your mom Book direct at choiceotails.com See you on the roof Yeah, so the other exchanges are You know, all reacting First in Telling people, you know,

They don't act the same way. You can trust them And some of them are correct You can trust them But that's also still missing the point again. The best way to use crypto is in a way that you don't have to trust humans. That's the magic of the technology that has come out. So decentralized exchanges haven't been saying anything, of course, because there's no people there.

It's just these financial robots that work according to code. And that's like a much better way to actually have a foundation for economic interaction between people. One good thing that should happen from this is more of the centralized exchanges may be encouraged to do It's called proof of reserves. So you can actually do like a mathematical proof of what you hold. It's slightly technical, but it can be done in a way for the user where it's clear and obvious. And that would provide some degree of verifiability. So I'm hoping that that will happen.

I think the regulators are going to use this as an opportunity to regulate more. They're not going to use it as an opportunity to self-reflect and recognize that they completely and utterly failed at their job. I can guarantee you that. they're just going to use this to write more laws and impose them down on a bunch of innocent people. So we've talked about what the effect for crypto will be. Will there be any effect? Will there be any black eye for the effective altruism movement? Will there be any black eye for the Democrat Party?

Will there be any black eye for the regulators? Or no? Do you think that just gets brushed under the rug because this is kind of a technical topic to discuss and most people are just going to glaze over? Well, it's actually not a technical topic. It's just someone who had a bunch of customer money stealing it and giving it to someone else, right? I mean, the industry broadly requires a little bit of kind of technical know-how. Yeah, that's fair. I don't really think this is actually a story about effective altruism. I mean, that's the idea that if you're going to try to be generous, you should try to be effective in your generosity. And there's nothing wrong with that in principle. The reason that gets pulled into this story is because it looks so bad when, you know, one of the world's foremost billionaire effect.

objective altruism advocates comes out as like the greatest Ponzi scheme operator of all time. This isn't actually even a Ponzi scheme. It's just theft. So like we don't need to come. Do you think there's a comparison? You know, people are asking, is this Bernie Madoff? Is this Enron? Is this, I don't know, any other number of huge financial scandals? Is there is there any analogy that you would draw? I think it's closer to Enron than Bernie. Bernie was running a Ponzi scheme over many years over the long term that failed as Ponzi schemes must fail. This wasn't really a Ponzi scheme. This was just taking a bunch of customer money and giving it to someone else. I'm sure that Sam thought that he'd get that debt paid back and it would never be a problem. But it was a problem. So, yeah,

there's, I don't know a good historical example like this. Certainly within crypto, a lot of centralized exchanges have gone bust or had hacks, you know, that kind of thing. So it's not new within centralized custodians. You've talked about your enemies in Washington. Do you have any allies? I mean, are there politicians that you would point to who you think these guys get it? They get what crypto is and what crypto could be, and they're moving in the right direction on it? Yeah, there are a few, and there's more and more.

You know, 10 years ago, no one in Washington cared about Bitcoin or crypto. Five years ago, no one in Washington was an ally. now there are some allies. I don't actually want to name any names because I'm kind of a persona non grata in Washington and I don't want to get them in trouble with their peers. But it has been good to see actual allies that understand it and who speak eloquently when they're discussing cryptocurrency. Can I at least ask you, are you talking about regulator or bureaucrat types?

Are you talking about U.S. senators, say, or are you talking about all of the above? Senators and congressmen. I don't know that I've seen any regulators who are doing a good job. I will make one exception, which is Hester Pierce at the SEC. She's been the most thoughtful, perhaps the only thoughtful regulator at the SEC. She has stood against many of the decisions that they've made that have been really bad. So, yeah, props to her for both understanding what she's talking about and for coming to the right conclusions on it. Well, that's terrific.

I'm glad to hear that you've got a little bit of support in Washington, even if you wisely don't want to go about flaunting it. You saw what happened to the last guy who was flaunting all of his political contacts in Washington, did not turn out very well for him or for his exchange. But thank you for shedding a little light on something that I really, you know, I just mired in all of the gobbledygook jargon. I couldn't make any sense of it, but you've distilled it pretty well. A guy stole a bunch of money and spent it in ways that he shouldn't have. A tale is old as time, but in this case on a very large scale. Eric, where can people find you if they want to read more, follow your thoughts, and all the rest of it? Twitter's great at Eric Vorhees, Eric with a K, and you can find me there.

That's great. That's wonderful. I look forward to that. Speaking of freedom and, you know, getting rid of regulations, Twitter, another great place right now where a billionaire is coming in and hopefully making things a little bit more free. So I'll look forward to seeing you over there. the rest of you out there, I look forward to seeing you tomorrow. I'm Michael Knowles. This is the Michael Nulls show.