There are two narratives being shared in court—the prosecution and the defense. And I can’t really follow either of them. I don’t mean that I don’t find them persuasive. I mean I don’t even understand what they’re saying.
I’ve written out my layman’s attempt at the two versions of events below, starting with what they appear to agree on. I’d really appreciate corrections and clarifications if anyone is so inclined!
Agreed facts
SBF was both the CEO of FTX and the owner of Alameda. Starting in 2019, FTX deposited a significant portion of its customer funds into the bank account of Alameda (SBF’s co.). FTX never took them out.
The FTX T&Cs stated that FTX wasn’t allowed to use customer funds. But they did permit customers to effectively use each other’s funds, as long as they had enough collateral.
Alameda was also an FTX customer. From 2019 to early 2022, Alameda (customer) borrowed from FTX customer funds while posting or at least having sufficient collateral.
During the crypto crash in spring 2022, Alameda faced massive loan recalls from third-party lenders.
By early fall 2022, SBF was worried about this. SBF (Alameda owner) asked Alameda (SBF’s co.) to hedge its assets and was disappointed that it had not hedged sooner. He also asked it to repay the recalled loans and to continue investing. SBF (FTX CEO) decided this was sufficient collateral for Alameda (customer) to continue borrowing from other FTX customers.
In late fall 2022, the value of Alameda (customer)’s collateral took a nosedive—the hedges hadn’t worked—and FTX faced a liquidity crisis akin to a bank run.
FTX called in Alameda (customer)’s borrows. Alameda (customer) didn’t have the liquid funds to pay all of it back and so defaulted on FTX.
FTX didn’t have the liquid funds to cover such a crisis. They would have done if the aforementioned bank account still contained all the customer funds put into it, but Alameda (customer) had spent a lot of them.
Consequently, many FTX customers could not withdraw their funds.
SBF was reluctant to file FTX for bankruptcy. He thought he may be able to quickly find the money to pay customers back (either by raising or literally finding—their accounting was chaos). Eventually he was persuaded to file.
We still don’t know if FTX customers will get all of their money back.
Prosecution’s narrative
SBF “was committing a massive fraud.” He “stole billions of dollars from thousands of people” using a company that was “built on lies.”
SBF had premeditated plans to use the customer funds parked in Alameda’s bank account and was fully aware that they were being used all along.
SBF gave Alameda (customer) special privileges because he owned it and was dating its CEO. This included no mandatory posting of collateral, permission to go negative, and having the technical ability to borrow as much as it wanted from FTX customers. Not only did SBF not disclose this to customers, he also lied about it on Twitter in 2019, saying “Alameda is a liquidity provider on FTX but their account is just like everyone else’s.”
He also lied to investors and lenders about the financial stability of both companies via FTX’s heavy marketing and Alameda’s misleading balance sheets.
In November 2022, he continued lying on Twitter, saying “FTX is fine. Assets are fine.” He then deleted the tweet in an attempt to cover up his lies.
Even if SBF had forgotten about the FTX customer funds in Alameda’s bank account, in spring 2022 FTX should have obviously called in Alameda (customer)’s borrows! No prudent businessperson would think Alameda (customer) had enough collateral to secure them at that point. As Alameda’s owner, he ordered the Alameda CEO to recklessly gamble with FTX customer deposits. As FTX’s CEO, he allowed Alameda (customer) to do so.
Many innocent customers will probably never get all of their money back.
SBF’s motive was to make as much money as possible to finance his opulent lifestyle—meeting celebrities, splurging on luxury property in the Bahamas and making absurdly large gifts to his family and friends.
Defense’s narrative
SBF “acted in good faith” where “each individual decision seemed fine and I didn’t realize how big their sum was until the end.” “It’s not a crime to run a company that ends up going through a storm.”
FTX stored customer funds in Alameda because initially FTX couldn’t get a bank account. Then SBF thought the funds were transferred to FTX but they weren’t.
As FTX’s first market maker, Alameda (customer) had special privileges that were originally intended to help other customers. And what appear to be COI’s are also reasons to put more trust in this customer not to take advantage of FTX. And SBF technically didn’t lie on Twitter about this.
He also technically never lied to investors or lenders.
In November 2022, he still technically never knowingly lied. Misleading reassurance was in the best interests of FTX customers who stood to lose from a complete loss of trust and ‘bank run.’ Still, when he no longer stood by his tweet, he removed it.
SBF didn’t notice how bad the situation was for several months because of the chaotic accounting and the awkwardness of talking to the Alameda CEO post-breakup. It was a hard call, but in spring 2022, SBF thought that with hedging, Alameda (customer) would not be taking an unreasonable amount of risk with its borrows. It was reasonable to think it highly unlikely that FTT alone would plummet and that that would be followed by an almost immediate ‘bank run’ (which seems to have been carefully orchestrated by FTX’s main competitor).
The money was all there. It was just hard to find due to the appalling accounting (as with the 2021 $8b accounting bug or the 2018 $4m lost-and-found). The bankruptcy team has found nearly all the money now and there’s a good chance customers will get all they money back (especially considering how well the Anthropic investment’s doing). And they would have done much sooner if the mercenary bankruptcy team hadn’t:
Pressured SBF into filing for bankruptcy
Halted withdrawals on the solvent FTX US and filed it for bankruptcy (everything else we’ve discussed has concerned FTX Int., which never had US customers, was not regulated in the US and was run from the Bahamas)
Refused SBF access to anything at FTX and refused to even talk to him
SBF’s motives were altruistic. His only indulgence was sometimes staying in the penthouse, but even that was primarily to incentivize his colleagues and their families to follow him to another country.
Matt Levine had an especially clear exposition recently I thought:
Edit March 2024: bookmarking a useful Ben West comment on the same question
This is not at all what happened. Alameda’s “borrows” were not made via the normal margin lending program. You can see Caroline Ellison admitting so in a contemporaneous meeting that was recorded and played in court. Nishad Singh and Gary Wang explicitly wrote code to allow Alameda specifically to take customer funds from FTX via the “allow_negative” flag, according to their own sworn testimonies. It seems like Matt Levine is confusing this collapse with the Mango Markets collapse that happened around the same time, his description fits Mango much better than FTX.
Alameda also lied to investors, as Caroline Ellison testified during the trial and pleaded guilty to doing. According to her sworn testimony, it was SBF who directed her to do so.
“In the ordinary course of business” is doing a lot of work in Levine’s account. The allow_negative flag sure doesn’t sound ordinary to me.
I also think some of the wording focuses more than I would on affirmative lies. I don’t think Levine is wrong in his wording, but I’ve seen a few people get the impression that SBF could do anything with the money as long as the TOS didn’t explicitly forbid it.
That’s kind of like saying a mechanic doesn’t convert his repair clients’ cars when he secretly rents them out to teenagers for joyrides after repairing them. The repair contract didn’t explicitly say he couldn’t...
“[T]he words ‘to defraud’ in the mail fraud statute [which is interpreted analogously] have the ‘common understanding’ of ‘”wrongdoing one in his property rights by dishonest methods or schemes,” and “usually signify the deprivation of something of value by trick, chicane, or overreaching.”‘” “The concept of ‘fraud’ includes the act of embezzlement, which is ‘”the fraudulent appropriation to one’s own use of the money or goods entrusted to one’s own care by another.”’”
https://www.justice.gov/archives/jm/criminal-resource-manual-942-scheme-and-artifice-defraud (citations omitted, cleaned up, brackets added) (citing appellate decisions).
The fact that Alameda could and did “borrow” (much) more than any other account on FTX due to the allow_negative flag is consistent with Levine’s description, but I agree a fuller accounting of events would include this piece of information and the accusations you cite.
Could you say a bit more about why the allow_negative flag, which was unique to Alameda accounts, is consistent with Levine’s references to borrowing “in the ordinary course of business . . . based on their crypto positions”? A special exception for a customer owned by FTX’s CEO, which allowed said customer to go over $10B in the red when no other customer was allowed a similar privilege, does not sound “in the ordinary course of business” to me. That doesn’t sound “based on their crypto positions” either.
Source for over $10B: this summary of recent testimony by an accounting professor in the trial. Also from the same source: “The main takeaway: from January 2021 all the way up until FTX’s (and Alameda’s) collapse on Nov. 11, 2022, all of Alameda’s “allow negative”-enabled accounts on the exchange were massively in the red. And despite this woeful state of affairs, it didn’t stop Alameda from paying out billions to meet its obligations.”
Levine claimed that the fraud was not in how the money ended up at Alameda, but in how FTX claimed to be safe. I think that’s wrong since the “allow_negative” flag looks fraudulent in itself. It just looks like something you’d use to implement embezzlement in computer code.
For what it’s worth, Levine’s account of what the prosecution is trying to claim in the trial also seems wrong. He claims that the prosecution agrees with him, but their opening statement in the trial sounds much more like the version of the story he claims is wrong than the version he claims is correct.
See, for example, the prosecution’s opening statements (summarized by @innercitypress):
The fact that Levine is wrong is made even clearer in Ellison’s testimony. Again from @innercitypress:
Note that she said “Alameda took several billions of dollars from FTX customers” is what makes her guilty, not “FTX lied to customers about how good their risk engine was.”
As others have commented, this strikes me as a misleading summary.
The passage makes it seem like FTX customers agreed to terms of service (ToS) that their money could be lent out. Most customers, for most of FTX customer money, did not.
So, the only way that Alameda can end up with a massive negative balance that’s larger than FTX’s assets and the pool of money where customers agreed that it could lend out, is through breaking of ToS. [Edit: I agree, after the discussion in the comments below, that this paragraph is false without added context. What I should have added is: “I’m operating on the assumption that FTX is bound to their previous advertizing of their advanced liquidation engine that prevents situations where a liquidation of one big customer can be detrimental to other customers who weren’t engaged in trading.”]
In theory, SBF’s defense could argue that they had poor accounting and the position ended up getting slowly bigger and bigger until at some point they overstepped the threshold where they are now clearly breaking ToS. That would still be poor management, but maybe not intentional fraud? However, the prosecution already brought up a bunch of convincing evidence that SBF authorized/decided to increase Alameda’s lending position even at a point where they were already breaking ToS, so unless all that evidence somehow turns out to be based on misrepresentations, that narrative is no longer plausible.
And illiquid venture investments. It’s not even clear to me that the crypto trades were a huge problem by themselves. From following the trial, I’m getting the impression that SBF had fear of missing out about investment opportunities (or endorsement deals/advertizing, which is similarly “investing into growth of his empire”) and seemed okay taking big risks and doing dodgy stuff to grow his portfolio faster.
(There is a similar theme in Michael Lewis’s book: SBF chooses the Hoard Dragon in the game Storybook Brawl, who has poor stats in the early game but gets benefits whenever it collects treasure, so it does well in the endgame from its earlier investments and boosts from treasure chests.)
The nickel options trading story that Matt links in that post is one example of how this could happen without breaking ToS.
Simplified version:
I sell you a naked call option to buy a ton of nickel with a strike of $100
Nickel is currently trading at $100, and I have $10 of assets, so I am fine so long as the price stays < $110
But now the price of nickel rises to $200
You execute the option, and I now owe you $100, which is >> $10, even though I didn’t do anything untowards with my $10 of assets, it was “just” bad risk management
The London Metals Exchange says “sorry Lukas, I know Ben technically owes you $100 but he’s just going to pay you $10, sucks to suck”
(I’m not sure if this is actually what happened with FTX, but it does contradict the claim that breaking ToS is “the only way”.)
This doesn’t explain why customers who weren’t using the margin lending program lost their money. According to Can Sun, the FTX lawyer who testified[1] today, FTX Digital Markets had the responsibility to ensure the segregation of those customers’ digital assets from FTX’s assets. He testified that if FTX went bankrupt, those customers were supposed to still be able to get all of their digital assets back (because it was theirs, not FTX’s). Customer digital assets were not debt; they were the private property of customers. Since those customers don’t have their money, something must have gone wrong.
Moreover, Sun testified that he only learned that something was amiss at the same time that everybody else in the world did, at which point Sam asked him for a “legal justification” for the missing funds. He had to tell SBF that “there are no justifications but there are some theoretical explanations.” According to his testimony, he listed a few theoretical explanations, including the margin lending program, but explained that this excuse didn’t work, and SBF seemed to acknowledge that. Sun quit on the following day.
Supporting sources: https://www.axios.com/2023/10/19/ftx-trial-sun-testimony, https://x.com/innercitypress/status/1714999654989860918?s=20,
https://www.axios.com/2022/11/12/ftx-terms-service-trading-customer-funds (contemporaneous), https://newsletter.mollywhite.net/p/the-ftx-trial-day-twelve, this YouTube vlog
I see what you (and Matt Levine) mean here, but then that still means that Alameda was putting up FTX customer funds as potential collateral in case their trades go poorly. So, in this scenario, they would have been putting customer funds at risk, which IMO isn’t relevantly different from misappropriating them for investments or directly trading with them.
Do you think that I am “putting up customer funds as potential collateral” in the example? If so, I’m confused how, because there was no customer funds. If not, then it seems like Alameda could do the same.
[Edit]: This comment was meant as a reply to your:
I accidentally replied to your earlier comment higher up in the thread.
[/edit]
I’m not sure I’m understanding this right, but:
In this story, if FTX/Alameda (assuming for the moment that they’re acting as the same entity, as is alleged by prosecutors) is analogous to Ben, then it seems like Ben did put customer accounts on the hook by agreeing to a trade that could result in outsized debt.
Maybe your point is based on treating FTX and Alameda as two properly segregated entities (even if just for the sake of argument). But then the “allow negative” feature is obviously problematic/in tension with that assumption, as is the fact that FTX no longer has the assets (they paid back some lenders, as opposed to saying “we would be short if you treated us as connected to Alameda, but obviously we aren’t connected to them and we’re not giving Alameda our customers’ money to pay any of their debts”).
(Relatedly, according to some testimonies for the prosecution, there was a point where lenders asked for their money back, and someone from Alameda – don’t remember who it was but probably Caroline Ellison – asked SBF whether to pay back these lenders knowing that Alameda cannot pay back what it owes FTX, and SBF said to go ahead with some of these payments (but wait with others). That couldn’t be allowed to happen if FTX was properly segregated from Alameda and if the debt was already exceeding FTX’s assets by that point.)
The point of the example is that there were never any assets, it was a naked option. No assets were lent, inappropriately or otherwise.
To be clear: failing to disclose that Alameda was exempt from risk limits is bad, and the finance is complicated enough that I understand why journalists simplify the badness to “lending customer deposits”, but it’s not actually lending customer deposits, and I would like to stick up for Matt Levine for not making that simplification.[1]
Or at least I have not heard any evidence that lending customer deposits happened, but I haven’t been following the trial closely. I would be appreciative if someone has evidence to the contrary.
I feel like that distinction isn’t what’s relevant. I mean, I don’t know what the law is here, but it would be a ridiculous law if it allowed for this sort of loophole.
Say I’m sharing my finances with my wife and I’m buying naked call options on some exchanges without telling her (and then go massively into minus). In that scenario, I’m putting her part of our finances at risk. Call it what you want but she wouldn’t (and shouldn’t!) be happy with the “excuse” that I never explicitly posted her share of the money as collateral.
[Edit: Either way, it seems like our discussion might be about a scenario that didn’t happen. Fermi–Dirac Distribution points out in the comments that, according to the Prosecution, there seem to have been borrowed assets: it looks like Alameda withdrew actual assets with the allow negative feature.]
I feel confused about your analogy because I thought the entire point was that customers did not give FTX joint ownership of their assets? So if FTX is liable for something Alameda did, and FTX doesn’t have enough money to cover that liability, then FTX declares bankruptcy. Creditors can’t go after FTX customers’ money because it’s the customers’ money, not FTX’s.
(This is different from the marital example because there your spouse is agreeing to be liable for your debts.)
Anyway, I agree that this is probably not super important to discuss, but appreciate you diving into it with me nonetheless!
I see. So, you’re making the argument I described in my earlier reply:
You replied to that, “The point of the example is that there were never any assets, it was a naked option.”
But my point was that, even if it was initially a naked option by Alameda, the FTX customer money ended up (partly) gone. Where did it go? (Edit: When I said “as is the fact that FTX no longer has the assets,” I obviously meant their customer’s assets, not “assets put up for collateral.”) It seems that prosecution has evidence that some of it was used to pay off some of Alameda’s debtors. So, the two entities aren’t properly segregated/distinct, and something about Levine’s summary therefore seems misleading. Your account would be accurate if FTX refused to pay any of Alameda’s loans to third parties and therefore still had enough assets to make customers whole.
Or maybe you’re saying that FTX is a bit like the London Metals Exchange in your initial analogy and the fact that its biggest customer made such a big trading loss also affects other customers, because all the money was “numbers on an exchange” and therefore intertwined. In that case, it seems like FTX must have lied about its liquidation engine! They kept advertizing how they have an advanced liquidation engine that prevents situations where large customers making massive trading losses due to fast market movements (and liquidation not happening fast enough) puts other people’s customer funds at risk.
So, I keep believing that the fact that the money is no longer there in a liquid state cannot be explained without FTX lying about at least some things. We know this from FTX’s ToS + their talk about their advanced liquidation engine. It’s as simple as that: you cannot explain that the customer money is no longer there if the liquidation engine is “on” for every customer (including Alameda as the largest customer) and if they didn’t use customer funds to bail out Alameda when Alameda was in the red.
(And we indeed have evidence now that they lied about the liquidation engine; Alameda was exempt from it, but this was not disclosed.)
This is extremely good thank you.
As far as the general narrative, the Matt Levine quote in@basil.halperin’s comment is good. [edit to strikethrough]As I understand it, FTX told everyone that a customer’s collateral would get liquidated when it wasn’t sufficient to justify the lending—in other words, FTX would lend only on a secured basis, and would take immediate action if the loan became undersecured to protect depositors. But Alameda was secretly exempt from that rule, despite statements that it enjoyed no special privileges.
A few other observations:
Of course, the question of what SBF did ethically wrong and what he did legally wrong are somewhat distinct.
Many of the counts on trial this month involve fraud against lenders or investors (e.g., counts 3-4 & 6 here). So they are part of a parallel, somewhat intersecting narrative than the alleged fraud against depositors (e.g., counts 1-2).
I think the following bolded words in Levine’s explanation are important: “traders like Alameda could, in the ordinary course of business, borrow money from FTX based on their crypto positions.” As far as I know, borrowing was not supposed to happen based on alleged (or even actual) value of private equity investments or the like. This would make it harder for SBF to claim that Alameda had “sufficient collateral . . . to continue borrowing from other FTX customers” (agreed facts, point 5) when its crypto position collapsed.
The accounting was horribly messy . . . and I think it is too messy for “Alameda borrowed the money from FTX” to be a clean description of what happened. Much of the money first came into Alameda bank accounts and then flowed every which way. In my view, the “agreed facts” section in the post doesn’t fully capture the extent to which FTX and Alameda acted like conjoined twins rather than at least nominally arms-length corporations. That, in turn, affects the possible narratives that can be constructed out on those facts. I think understanding them as heavily conjoined rather than quasi-arms-length makes the prosecution narrative relatively more convincing.
“Lending” to Alameda is the leading allegation, but—based on material I’ve seen out of the bankruptcy case—it seems that accounts containing customer deposits were used for other things, including FTX Foundation grants. FTX certainly didn’t have authority to use depositor assets for its own business purposes or for grantmaking.
Likewise, there were very thinly documented, massive “loans” to FTX insiders. I don’t think there was collateral backing those up. And the possibility that much of these monies will eventually be recovered wouldn’t make the “lending” any more legal.
FTX and SBF spending money in YOLO style as described by the two bullet points above significantly undercuts a narrative that FTX was making loans to Alameda using depositor assets that it believed in good faith to be adequately secured.
SBF was additionally charged with bribing Chinese officials with $40 million. Caroline Ellison testified in court that they sent a $150 million bribe.
True, true. But that charge is part of next year’s trial and is a helluva lot more straightforward than the 7 charges in this one. (And it shouldn’t have featured in this trial—”She called this a bribe earlier in her testimony, a comment stricken from the record by Judge Kaplan. The judge also instructed the jury to disregard this comment.” says Blockworks)
Thanks for the context, didn’t know that!