SBF’s Side of the Story

ALAMEDA ACCESSED FTX CUSTOMER FUNDS VIA TWO ROUTES

According to prosecutors, “the defendant set up two secret ways through which Alameda could take or borrow customer money. You heard about that from Caroline Ellison. You heard about it from Gary Wang. You heard about it from Nishad Singh. They were each the defendant's friends and his coconspirators, his partners in crime. Each of these witnesses testified that they stole customer money at the defendant's direction, and they described the ways he told them to do it. . . . Now, there were two ways that they were able to take customer money, by withdrawing it from FTX from its cryptocurrency wallets in unlimited amounts, and by taking it out of the bank accounts that received those customer deposits.”

Route 1 is often referred to as “the backdoor”. Alameda’s customer account on FTX was exempt from being immediately liquidated in the event of a negative balance. It also had a $65 billion line of credit, although:

[I]n practice, only about 3 billion of the line of credit was used

— defence summation, BitMEX

Route 2 was via an Alameda-owned bank account in which FTX customers would deposit fiat money, such as U.S. dollars. Alameda ultimately used around $8 billion of customer money via this route, which SBF only learned about after it had already happened, in the weeks before the run on the exchange:

Q. Well, in September and October [2022] you learned that $8 billion of FTX fiat deposits had been spent, right?
A. Something approximating that, yes.

— SBF testimony, BitMEX

ROUTE 1 WAS LEGITIMATE: ALAMEDA’S “PRIVILEGES” HELPED THE EXCHANGE TO FUNCTION AND WERE NOT ABUSED — ALAMEDA NEVER BORROWED MORE THAN WAS PERMISSIBLE

Why were special features added to Alameda’s account?

“At one point, in the early days of crypto exchange FTX, its automated ‘risk engine’ suffered an error that turned a routine liquidation of a few thousand dollars into an almost catastrophic series of trades. . . . As FTX grew, the volume of trades strained the company's computer systems . . . The trading became so large, it had to go to a backstop liquidity provider, in this case Alameda, because it was the largest account on FTX. That caused Alameda’s account to go under water, triggering a potential liquidation of Alameda’s account. . . . ‘It was scary,’ SBF said, because it exposed a larger concern ‘that if there were an erroneous liquidation of Alameda, it would have disastrous consequences’” (CNN).

In response to this near-catastrophe, SBF asked Wang and Singh to make sure that Alameda would never be erroneously liquidated. He didn’t specify what exactly such a system should look like; “[SBF] says he told Wang and Singh ‘maybe it would be an alert or a delay’” (Bloomberg). Wang and Singh decided to turn off the auto-liquidation feature for Alameda’s account and extend the coder equivalent of a $99,999,999,999 line of credit: “Some have wondered why Wang chose such a seemingly arbitrary number as $65,355,999,994. My best guess is he meant to set it to around $65.535 billion (note the transposed 5 and 3), picking the number 65,535 because it is meaningful in computer science as the largest possible value of an unsigned 16-bit integer” (Citation Needed [sic]).

At the time, Wang viewed Alameda’s extra features as enabling its role as a backstop liquidity provider — a role that protected FTX and other customers. “[Wang] testified about several changes Bankman-Fried asked him to make to FTX's software code to allow Alameda to withdraw unlimited funds from the exchange. . . . Wang agreed that the changes were necessary for Alameda to provide liquidity on the exchange” (Reuters). “Q. Backstop liquidity providers agreed to buy assets that are held by users whose accounts are losing too much money, right? A. Yes. Q. And that protects the rest of the FTX customers from incurring losses, right? A. Yes. As well as FTX itself.” (Wang testimony). Singh was similar:

Singh also acknowledged that he originally thought some of the special treatment Bankman-Fried’s trading firm Alameda Research received on FTX was meant to protect customers by allowing it to more effectively ‘backstop’ some trades. ‘My view at the time [was that] it would be helpful for customers,’ Singh said.

— Financial Times

SBF had not thought that Alameda did not need to secure its borrowing with on-exchange collateral: “‘You permitted Alameda to borrow without requiring that it post collateral to the exchange?’ . . . SBF: ‘That was not my understanding’” (Bloomberg). But he did know of another customer who was not required to: “Can you name any customers that were allowed to pledge outside investments as collateral for withdrawing money on FTX apart from Alameda? . . . [SBF:] I believe that we did that with a firm called Crypto Lotus, and I believe that we considered that with Three Arrows” (BitMEX). SBF also explained that, “So long as we believed that the risk was being managed, which is to say, so long as we believed its assets were greater than its liabilities, we didn't care if the user, you know, withdrew funds and used them to buy muffins, to pay business expenses, to invest or anything else” (Guardian).

How was Alameda borrowing from FTX permissible?

FTX operated a margin lending program, which allowed users to borrow from one another. Users who took part were warned that “Margin trading is HIGH RISK. As a borrower, you may sustain a total loss of Assets or owe Assets beyond what you have deposited to your Account. . . . As a result, you may lose all of your Assets or incur a negative balance in your Account. In addition, even if you have not suffered any liquidations or losses, your Account balance may be subject to clawback due to losses suffered by other Users” (FTX Terms of Service). Most of the customer assets on FTX were part of this program:

[W]e had testimony from Dr. Pimbley, who did an analysis of the data, and he concluded that 80 percent of the assets on FTX were margined assets used in futures trading. 80 percent are in this margin trading where customers are always borrowing other customers' assets.

— defense summation, BitMEX

Evidence from prosecutors failed to show that Alameda borrowed more via this margin lending route than was available for borrowing: “So if a customer didn't enable spot margin trading, their money couldn't be borrowed. . . . Professor Easton told you there was not enough money in the spot margin program to explain all Alameda's borrowing. What this shows is that from June to November 2022, Alameda had taken between 8 and 12 billion [in total, including the $8 billion via the fiat bank account route], when there was at most 4 billion in the margin lending program” (prosecution summation). (Incidentally, regarding one of Easton’s exhibits, SBF commented during his testimony, “Not saying I necessarily agree with this exhibit.”) SBF testified that he had always been “aware of roughly the amount . . . that it was borrowing” via its FTX credit line, which was “millions in 2019 . . . and then by 2022, my understanding was that it was around $2 billion on average of borrowing through the info@ account”, clarifying that Alameda’s balance on FTX was still “Overall positive, but negative in some assets.”

Singh similarly testified that, prior to June 2022, he “thought Alameda had positive balances on FTX, that it was borrowing lots in some places but that overall they had more money than they didn't.” He emphasized the internal transparency of Alameda’s margin borrows — in contrast to the popular narrative of a secret “backdoor” known only to an “inner circle”, Singh reported that “Alameda's main accounts balance, is a front-and-center number in all of Alameda's trading systems. It's the sort of thing from my time at Alameda I couldn't imagine being missed or ignored by anyone there”.

One widely reported accusation is that in June 2022, SBF ordered Alameda to take more from FTX customers in order to repay its lenders. However:

• Ellison never testified that he did — not even verbally, in private — only that “[h]e continued to direct me to repay loans”. Her interpretation was that she should use Alameda’s line of credit on FTX to get the money needed: “I understood that he was telling me to borrow money using our FTX line of credit to repay loans”. Why? “Because I had shared Alameda's balance sheet information with him that showed that that was the only source of capital large enough to repay all of our loans” and “[b]ecause we had used FTX——our FTX line of credit for other large funding needs in the past, large and small funding needs; and from, you know, the founding of FTX, Sam had talked about FTX being a good source of capital for Alameda”.

• “Ellison sounded slightly less certain [in November 2022] in a recording likely to be used as evidence at trial. When a colleague asked her during a staff meeting who had authorized Alameda’s borrowing, she said, ‘Um . . . Sam, I guess’” (New Yorker).

• SBF denied making such a decision, testifying that he thought lenders were repaid “[f]rom Alameda's assets. Alameda had at the time 5 to $10 billion of highly liquid assets off of FTX in its wallets, bank accounts, and other exchange accounts.”

• Ellison did not in fact take more FTX customer money to repay lenders. “Caroline testified to you that what happened was, Alameda ‘would have to take the money from our line of credit to pay the lenders.’ And that's at transcript page 763. And I asked her, Well, if that's true, if the lenders were being repaid off the line of credit, wouldn't the amount of the line of credit go up? She said, Yes, it would. And I said, How much did it go up by? Oh, 5 to 10 billion. But when you look at the actual data that was pulled by Dr. Pimbley——and that's Defendant's Exhibit 617——you see that in fact the line of credit did not go up during the period when the loans were being repaid. In fact, it went down for much of the period” (defense summation). "Q. What do you see with the in-use line of credit for Alameda happening, according to the graph there? A. Well, it starts close to 3 billion in June [2022], but then it drops very precipitously about mid June" (Joseph Pimbley testimony).

ROUTE 2 WAS ACCIDENTAL: SBF ONLY REALIZED ALAMEDA HAD USED $8 BILLION IN FTX CUSTOMER FIAT FUNDS SHORTLY BEFORE THE RUN ON THE EXCHANGE

Why did Alameda have access to FTX fiat funds?

Crypto exchanges often struggle to get their own bank accounts and have to rely on payment processors instead if they want to allow customers to buy crypto using fiat currency. FTX initially used an Alameda-owned bank account called North Dimension to accept customer fiat deposits on its behalf, alongside other payment processors:

Q. And are you aware of any other customer on FTX who had the ability to spend FTX customer fiat deposits out of bank accounts? . . .
A. I think multiple other payment processors for FTX had accounts on FTX as well.

— SBF testimony, BitMEX

SBF was not heavily involved in this project. “FTX began receiving deposits into North Dimension. [SBF] says he learned about it later, sometime in 2020” (Bloomberg). “Bankman-Fried says the decision to incorporate North Dimension was communicated by Dan Friedberg” (Bloomberg). And as far as SBF was aware, the payment agent agreement “was drafted with Fenwick & West, who was our primary external law firm at the time” (SBF testimony).

“Q. Now, FTX eventually got its own bank accounts, correct? A. Yes, it did. Q. That was at the end of 2021 into 2022? A. I don't know the exact time frame, but that sounds plausible. . . . A. I recall finding out from the settlement team that there were still many of these legacy customers depositing funds into North Dimension accounts, and I brought up -- I brought this issue up with Sam and said, we should probably stop people depositing into North Dimension and switch them all over to FTX, right. And he said, yeah, that sounds good. . . . I think I recall saying that it seemed like he might not know that this was happening, something like that” (Ellison testimony).

How did SBF not know Alameda was using the fiat funds?

Alameda ultimately spent around $8 billion in FTX customer deposits from North Dimension. But no testimony or evidence has suggested that SBF instructed Alameda to spend any of these funds. No testimony or evidence has suggested that SBF was even aware of what Alameda had done before June 2022 at the earliest. In fact, it is SBF’s testimony that he did not “recall knowing, prior to September and October 2022, that Alameda was spending the FTX customer deposits”.

Part of the explanation is that the accounting at these absurdly high-growth startups was appalling:

• “Q. . . . So if Sam wanted to see the account balances of any customer on the FTX exchange, he could call up that information on the admin user's dashboard, right? A. Yes. Q. And he could do that for Alameda, for example. A. Yes. . . . Q. Okay. But as you said, the fiat@ liability was not part of Alameda's balances on the admin user's page; is that right? A. Not as of June 2022” (Wang testimony).

• When asked if the spreadsheet Ellison made for SBF in the fall of 2021 for “analyzing Alameda's NAV . . . account[ed] for the customer money Alameda was already using that came in the form of customer fiat or dollar deposits”, Ellison testified, “I don't recall exactly how they accounted for that, like whether that's included in the current totals or not.”

• “Q. By mid-2022 . . . Was Alameda also still borrowing money from FTX? A. Yeah. We were borrowing some money. Q. And did this include through the line of credit? A. That's right. Q. Were you keeping track of that borrowing? A. Yeah. Not necessarily carefully, but to some extent” (Ellison testimony).

• Ellison “wasn't aware that there was a bug in the system for six months after it had already been discovered, and she woke up one day and [mistakenly] believed that her company, which previously had a NAV of 8 to 10 billion, was now bankrupt, overnight” (BitMEX).

• Ellison “testified that the firm had attempted to hire several people to oversee Alameda’s accounting, but they all left” (CNBC).

• In 2018, “$4 million worth of XRP . . . had simply vanished from Alameda’s accounts. Sam suspected that it had been sent from an exchange in the U.S. to one in South Korea . . . The other members of the management team were unconvinced. . . . “How are we going to pass an audit if we’re missing 10% of our transactions?” asked Tara. . . . Alameda finally found the $4 million worth of missing Ripple. First they figured out its travel itinerary: it had been sent from Kraken, a U.S. crypto exchange, to an exchange in South Korea” (Wall Street Journal).

• “QuickBooks was not designed to address the needs of a large and complex business like that of the FTX Group . . . Substantial accounts and positions went untracked” (First Interim Report of John J. Ray III).

Furthermore, by 2022, Ellison was calling the shots at Alameda and SBF was paying little attention: “Ellison testified that she and Trabucco began handling a lot of Alameda’s day-to-day business as early as 2020, well before officially taking over, and that there were periods of time where Bankman-Fried would not talk to them much. By 2021, she testified, Bankman-Fried had largely stopped coming into the Alameda office and had left more of the job to Ellison. . . . Ellison also testified that Bankman-Fried had discussed adding a new co-CEO when Trabucco left, but she resisted. . . . Ellison said she was skeptical [about SBF’s advice to hedge] and didn’t do anything about it. . . . On the topic of her romantic relationship with Bankman-Fried, Ellison said their breakup in the spring of 2022 affected communications between the two of them” (CNBC).

NO ONE HAS PRODUCED EVIDENCE THAT $8 BILLION WAS “MISSING”

Now that it appears customers will be made whole — potentially at current prices given the apparent $4.5 billion surplus — many are quick to add that even if FTX was not in fact insolvent when it filed for bankruptcy and even if the $8 billion owed to customers was never in fact “missing” just illiquid, this is irrelevant to the question of whether or not there was fraud.

Perhaps. But I include the “missing vs. illiquid” question here because people seem to find it relevant when they think the answer reflects badly on SBF. “One key issue was how much money FTX’s customers lost. During the trial, the prosecution and its witnesses repeatedly – in fact, 97 times – put that number at $8 billion. Although no proof to substantiate this massive figure was ever offered, the prosecution clearly wanted it to stay in jury members’ heads” (Project Syndicate). One does wonder how the FTX story would have played out had this irrelevant accusation never been part of it.

SBF has always “insisted that all the money was still somehow accessible . . . In some ways, his narrative appears to be proving true” (CNBC). In the balance sheet sent to investors the day before FTX filed for bankruptcy, FTX “is recorded as having liabilities of $US8.9 billion” against “a total of $US9.6 billion of assets” (AFR). SBF also maintains that the FTX U.S. subsidiary was always fully solvent and that Alameda had enough assets to meet its liabilities if given sufficient time to liquidate them (SBF’s Substack — note that the term “solvency” is used here in its technical sense of being able to immediately meet withdrawals, rather than the more common sense of assets exceeding liabilities).

The new, compromised FTX management continues to insist otherwise. As recently as March 20, 2024, they submitted a 7-page assertion to the Court that SBF’s claim that “FTX was solvent at the time that the Chapter 11 petition was filed . . . is categorically, callously, and demonstrably false,” while still failing to produce any supporting evidence (Court Listener). The closest they have ever managed is reporting that, while FTX assets matched their liabilities at the time of the bankruptcy when related party payables/receivables are included, if “[d]igital assets and/or fiat associated with the Japan, Cyprus and Singapore exchanges, and with Alameda or other FTX Debtors, are excluded,” then FTX is short $8.9 billion (FTX et al.). This big “if” was left out in media coverage: “FTX says it has identified a deficit of $8.9 billion in customer funds that it can’t account for, the first time the bankrupt cryptocurrency exchange has pinned down how much money has gone missing” (WSJ). It does seem like FTX and Alameda have been treated as either effectively the same entity or completely separate according to whichever makes SBF look worse.