To clarify, I wasn’t referring to leverage (which I think most would say counts as fraud because of FTX claims to the contrary) in the comment above, just the fragility and illiquidity of the token itself.
My understanding is that some EA leadership knew much of the committed wealth was in FTT (at least, I knew, and I know some others who knew), and I worry that a few knew enough about cryptocurrency to know how fragile and illiquid that situation was (I did not, but I should have looked into it more) but allowed that to go unmentioned or undershared.
The point is just that these are all serious concerns that I think have been belied by the public EA outrage statements, and I think if there is such an independent investigation into knowledge of fraud, these concerns should be investigated too.
Hmm, I do think in the absence of the leverage, having wealth in FTT was kind of reasonable, and the leverage was the primary thing that enabled the whole thing to implode this quickly.
I was still surprised by Alameda not having a more diversified portfolio, but I think it’s basically accurate to model FTT as stock, and it’s not that crazy to have a lot of your wealth in your own stock (and for it to be hard for you to exit that position, since it looks really suspicious if you sell a lot of your own stock).
But I do agree that there was probably still too much reliance on assuming the FTX money would stay real. But like, I do think if you model FTT as stock, as I think it was straightforward to model as at the time, then I don’t think there is really anything going wrong by saying that Sam had that much money, since like, it’s pretty standard to calculate net-worth that way.
Yeah, there seems to be some confusion. Obviously a unicorn founder is going to have a lot of wealth in that company’s stock (or close analogues such as FTT). The problem, rather, is that we think FTT was being transferred between corporate entities and used as collateral at its face value (there may’ve been other problems relating to FTT, such as its tokenomics, as well).
Matt Levine suggests that the key problem is accepting your own stock as collateral:
Now let’s add one more crypto element. If you are a crypto exchange, you might issue your own crypto token. FTX issues a token called FTT. The attributes of this token are, like, it entitles you to some discounts and stuff, but the main attribute is that FTX periodically uses a portion of its profits to buy back FTT tokens. This makes FTT kind of like stock in FTX: The higher FTX’s profits are, the higher the price of FTT will be. 8 It is not actually stock in FTX — in fact FTX is a company and has stock and venture capitalists bought it, etc. — but it is a lot like stock in FTX. FTT is a bet on FTX’s future profits.
But it is also a crypto token, which means that a customer can come to you and post $100 worth of FTT as collateral and borrow $50 worth of Bitcoin, or dollars, or whatever, against that collateral, just as they would with any other token. Or something; you might set the margin requirements higher or lower, letting customers borrow 25% or 50% or 95% of the value of their FTT token collateral.
If you think of the token as “more or less stock,” and you think of a crypto exchange as a securities broker-dealer, this is completely insane. If you go to an investment bank and say “lend me $1 billion, and I will post $2 billion of your stock as collateral,” you are messing with very dark magic and they will say no. 9 The problem with this is that it is wrong-way risk. (It is also, at least sometimes, illegal.) If people start to worry about the investment bank’s financial health, its stock will go down, which means that its collateral will be less valuable, which means that its financial health will get worse, which means that its stock will go down, etc. It is a death spiral. In general it should not be possible to bankrupt an investment bank by shorting its stock. If one of the bank’s main assets is its own stock — is a leveraged bet on its own stock — then it is easy to bankrupt it by shorting its stock.
Well, my understanding now is that it is very structurally different (not just reputationally or culturally different) from publicly traded stock: the tiny trading volume, the guaranteed price floor, probably other things. If it were similar, I think I would probably have much less of that concern. This does imply standard net worth calculations for Sam Bankman-Fried were poor estimates, and I put a decent chance on Forbes/Bloomberg/etc. making public changes to their methodology because of this (maybe 7% chance? very low base rate).
I’ve updated a little toward this being less concerning. Thanks.
I think the above points hold. No question that FTX transfering funds to Alameda is the crux of the moral issue at play here. But financially speaking, and to flush out the liquidity issue… for such significant holdings of FTT, those funds should have only been considered with a massive haircut, maybe even upwards of 90%. Alameda said they had billions worth of FTT (in USD terms), and sure that was the case at market prices prior to all of this this. But as we know from what precipatated everything, sell pressure in that range (as was about to happen from Binance), absolutely nuked the market’s confidence and therefore value in FTT. So how much more so would this have been the case if FTX/Alameda ever had came along and said they needed to liquidate billions in FTT?
There was never going to be a way out. It’s truly sad to see the way moral lines were crossed with the transfer of funds across entities, yet to me it’s just bizarre that a bunch of seemingly brilliant folks would have organized their books in such a financially precarious manner when it came to liquidity… let alone in their own token.
The same theme holds but still fairly different scenarios. Asana/Amazon stock signifies partial ownership of those companies derived from the value of their future cash flows. FTT was just an invented token trading on the confidence of FTX, but with no intrinsic value, hence a greater probability of it nuking to 0/
Overall though, Dustin/Bezos’ holdings in each respective company are likely to warrant significant haircuts on their personal balance sheets. Rule of thumb is the more concentrated ownership, the higher the haircut, and the less liquidity, the higher the haircut. They both have significant ownership, so even though it’s fairly safe to estimate higher liquidity in public markets, their concentration of ownership warrants a significant haircut.
I think what’s so significant about the FTX/Alameda case tho, and why the FTT should have been considered effectively worthless on their balance sheet, even given the high market price, was the massive concentration of self-ownership (not to mention the Binance concentration risk) AND the very low liquidity.
FTT was just an invented token trading on the confidence of FTX, but with no intrinsic value, hence a greater probability of it nuking to 0/
Ah! My understanding was that FTX bought back some amount of FTT with their profits each week, giving it intrinsic value (conditional on FTX continuing to exist) dependent on FTX’s future cash flows, and making it feel fairly analogous to stock to me. Though I’m not aware of the exact mechanism, and can easily imagine eg the amount of money going into the pool being independent of the total amount of FTT issued, and the total amount issued being non transparent, making the actual intrinsic value ~0 (essentially really diluted stock)
Good call and looks like they were fairly trainsparent with most of the info you’re referencing here.
I guess I’m still not sure at what point, even in a best case scenario, the “buy and burn” mechanism actually would drive intrinsic value in the coin though? From a pure supply and demand perspective maybe, since the better FTX does, the more scarce the coin is and the more demand there is for it… but isn’t that just a sort of strategic market manipulation within the exchange?
Albeit that could have worked had FTX reached a point where it was strong enough, but I think they effectively nullified that opportunity by using so much FTT as collateral that needed to be more liquid while treating it as if it was.
That makes sense.
To clarify, I wasn’t referring to leverage (which I think most would say counts as fraud because of FTX claims to the contrary) in the comment above, just the fragility and illiquidity of the token itself.
My understanding is that some EA leadership knew much of the committed wealth was in FTT (at least, I knew, and I know some others who knew), and I worry that a few knew enough about cryptocurrency to know how fragile and illiquid that situation was (I did not, but I should have looked into it more) but allowed that to go unmentioned or undershared.
The point is just that these are all serious concerns that I think have been belied by the public EA outrage statements, and I think if there is such an independent investigation into knowledge of fraud, these concerns should be investigated too.
Hmm, I do think in the absence of the leverage, having wealth in FTT was kind of reasonable, and the leverage was the primary thing that enabled the whole thing to implode this quickly.
I was still surprised by Alameda not having a more diversified portfolio, but I think it’s basically accurate to model FTT as stock, and it’s not that crazy to have a lot of your wealth in your own stock (and for it to be hard for you to exit that position, since it looks really suspicious if you sell a lot of your own stock).
But I do agree that there was probably still too much reliance on assuming the FTX money would stay real. But like, I do think if you model FTT as stock, as I think it was straightforward to model as at the time, then I don’t think there is really anything going wrong by saying that Sam had that much money, since like, it’s pretty standard to calculate net-worth that way.
Yeah, there seems to be some confusion. Obviously a unicorn founder is going to have a lot of wealth in that company’s stock (or close analogues such as FTT). The problem, rather, is that we think FTT was being transferred between corporate entities and used as collateral at its face value (there may’ve been other problems relating to FTT, such as its tokenomics, as well).
Matt Levine suggests that the key problem is accepting your own stock as collateral:
Well, my understanding now is that it is very structurally different (not just reputationally or culturally different) from publicly traded stock: the tiny trading volume, the guaranteed price floor, probably other things. If it were similar, I think I would probably have much less of that concern. This does imply standard net worth calculations for Sam Bankman-Fried were poor estimates, and I put a decent chance on Forbes/Bloomberg/etc. making public changes to their methodology because of this (maybe 7% chance? very low base rate).
I’ve updated a little toward this being less concerning. Thanks.
I think the above points hold. No question that FTX transfering funds to Alameda is the crux of the moral issue at play here. But financially speaking, and to flush out the liquidity issue… for such significant holdings of FTT, those funds should have only been considered with a massive haircut, maybe even upwards of 90%. Alameda said they had billions worth of FTT (in USD terms), and sure that was the case at market prices prior to all of this this. But as we know from what precipatated everything, sell pressure in that range (as was about to happen from Binance), absolutely nuked the market’s confidence and therefore value in FTT. So how much more so would this have been the case if FTX/Alameda ever had came along and said they needed to liquidate billions in FTT?
There was never going to be a way out. It’s truly sad to see the way moral lines were crossed with the transfer of funds across entities, yet to me it’s just bizarre that a bunch of seemingly brilliant folks would have organized their books in such a financially precarious manner when it came to liquidity… let alone in their own token.
Would you apply the same reasoning to eg Dustin’s Asana stock? Or Bezos’ Amazon stock? If not, why?
The same theme holds but still fairly different scenarios. Asana/Amazon stock signifies partial ownership of those companies derived from the value of their future cash flows. FTT was just an invented token trading on the confidence of FTX, but with no intrinsic value, hence a greater probability of it nuking to 0/
Overall though, Dustin/Bezos’ holdings in each respective company are likely to warrant significant haircuts on their personal balance sheets. Rule of thumb is the more concentrated ownership, the higher the haircut, and the less liquidity, the higher the haircut. They both have significant ownership, so even though it’s fairly safe to estimate higher liquidity in public markets, their concentration of ownership warrants a significant haircut.
I think what’s so significant about the FTX/Alameda case tho, and why the FTT should have been considered effectively worthless on their balance sheet, even given the high market price, was the massive concentration of self-ownership (not to mention the Binance concentration risk) AND the very low liquidity.
Ah! My understanding was that FTX bought back some amount of FTT with their profits each week, giving it intrinsic value (conditional on FTX continuing to exist) dependent on FTX’s future cash flows, and making it feel fairly analogous to stock to me. Though I’m not aware of the exact mechanism, and can easily imagine eg the amount of money going into the pool being independent of the total amount of FTT issued, and the total amount issued being non transparent, making the actual intrinsic value ~0 (essentially really diluted stock)
Good call and looks like they were fairly trainsparent with most of the info you’re referencing here.
I guess I’m still not sure at what point, even in a best case scenario, the “buy and burn” mechanism actually would drive intrinsic value in the coin though? From a pure supply and demand perspective maybe, since the better FTX does, the more scarce the coin is and the more demand there is for it… but isn’t that just a sort of strategic market manipulation within the exchange?
Albeit that could have worked had FTX reached a point where it was strong enough, but I think they effectively nullified that opportunity by using so much FTT as collateral that needed to be more liquid while treating it as if it was.