Before it collapsed this month, FTX stood aside from many rivals in the largely unsupervised crypto trade by boasting it was the “most regulated” exchange on the planet and welcoming nearer scrutiny from authorities.
Now, firm paperwork seen by Reuters reveal the technique and ways behind founder Sam Bankman-Fried’s regulatory agenda, together with the beforehand unreported phrases of a deal introduced earlier this yr with IEX Group, the US inventory buying and selling platform featured in Michael Lewis’s e book “Flash Boys” about quick, computer-driven buying and selling.
As a part of that deal, Bankman-Fried bought a ten% stake in IEX, with an possibility to purchase it out fully in the subsequent two and half years, in accordance to a June 7 doc. The partnership gave the 30-year-old government the alternative to foyer IEX’s regulator, the US Securities and Exchange Commission, on crypto regulation.
That deal and others referenced in the paperwork, which embrace enterprise updates, assembly minutes and technique papers, illuminate certainly one of FTX’s broader objectives: rapidly crafting a congenial regulatory framework for itself by buying stakes in corporations that already had licenses from authorities, shortcutting the typically drawn-out approval course of.
FTX spent some $2 billion on “acquisitions for regulatory purposes,” the FTX paperwork seen by Reuters from a September 19 assembly present. Last yr, for instance, it bought LedgerX LLC, a futures exchange, which gave it three Commodity Futures Trading Commission licenses in a single swoop. The licenses gave FTX entry to US commodities derivatives markets as a regulated exchange. Derivatives are securities that derive their worth from one other asset.
FTX additionally noticed its regulatory standing as a way of luring new capital from main buyers, the paperwork present. In paperwork to help its ask for a whole lot of tens of millions of {dollars} in funds, it held out its licenses as a key aggressive benefit. The “regulatory moats,” it stated, created boundaries for rivals and would give it entry to profitable new markets and partnerships past the attain of unregulated entities.
“FTX has the cleanest brand in crypto,” the exchange proclaimed in a June doc introduced to buyers.
Bankman-Fried didn’t reply to a request for touch upon questions on FTX’s regulatory technique. FTX didn’t reply to requests for remark.
An SEC spokesperson declined to remark for this text. The CFTC additionally declined to remark.
In a textual content exchange this week with Vox, Bankman-Fried made an about-face on regulatory issues. Asked if his prior reward of rules was “just PR,” he stated in a sequence of texts: “yeah, just PR… f…regulators… they make everything worse… they don’t protect customers at all.”
An IEX spokesperson declined to affirm particulars of the transaction with FTX, besides to say that FTX’s “small minority stake” in IEX can’t be bought to a 3rd celebration with out its consent. “We are currently evaluating our legal options with respect to the prior transaction,” the spokesperson stated.
Patchwork of regulators
FTX collapsed final week after a futile bid by Bankman-Fried to elevate emergency funds. It had come underneath some regulatory oversight by way of the dozens of licenses it picked up through its many acquisitions. But that didn’t defend its prospects and buyers, who now face losses totaling billions of {dollars}. As Reuters reported, FTX had been secretly taking dangers with buyer funds, utilizing $10 billion in deposits to prop up a buying and selling agency owned by Bankman-Fried.
Four attorneys stated the incontrovertible fact that Bankman-Fried was courting regulators whereas taking large dangers with buyer funds with out anybody noticing exposes a yawning regulatory hole in the cryptocurrency trade. “It’s a patchwork of global regulators — and even domestically there are huge gaps,” stated Aitan Goelman, an lawyer with Zuckerman Spaeder and former prosecutor and CFTC enforcement director. “That’s the fault of a regulatory system that has taken too long to adjust to the advent of crypto.”
An individual acquainted with the SEC’s pondering on crypto regulation stated the company believes crypto corporations are illegally working exterior of U.S. securities legal guidelines and as an alternative lean on different licenses that present minimal shopper safety. “Those representations, while nominally true, don’t cover their activity,” the individual stated.
‘Step 1: Licences’
Bankman-Fried had massive ambitions for FTX, which by this yr had grown to greater than $1 billion in revenues and accounted for about 10% of buying and selling in the world crypto market, from a standing begin in 2019. He needed to construct a monetary app, the place customers may commerce shares and tokens, switch cash and financial institution, in accordance to an undated doc titled, “FTX Roadmap 2022.”
“Step 1” towards that purpose, the “Roadmap” doc stated, “is to become as licensed as reasonably possible.”
“Partially this is to make sure that we’re regulated and compliant; partially this is to be able to expand our product offering,” the doc stated.
That’s the place FTX’s acquisition spree got here in, in accordance to the paperwork. Instead of making use of for each license, which might take years and typically uncomfortable questions, Bankman-Fried determined to purchase them.
But the technique additionally had its limits: At occasions, the corporations it acquired didn’t have the exact licenses it wanted, the paperwork present.
One of FTX’s objectives, in accordance to the paperwork, was to open up the U.S. derivatives markets to its prospects in the nation. It estimated the market would convey extra buying and selling quantity to the tune of $50 billion a day, producing tens of millions of {dollars} in income. To do this, it wanted to persuade the CFTC to amend certainly one of the licenses held by LedgerX, FTX’s newly acquired futures exchange.
The utility course of went on for months, and FTX had to pony up $250 million for a default insurance coverage fund, an ordinary requirement. FTX anticipated the CFTC may ask it to improve the fund to $1 billion, in accordance to minutes of a March assembly of its advisory board.
FTX collapsed earlier than it may get the approval, and has now withdrawn its utility.
Buying corporations for licenses additionally had different benefits, the paperwork reviewed by Reuters show: It may give Bankman-Fried the entry he desired to regulators.
A major instance is the IEX deal, which was introduced in April. In a joint interview to CNBC, Bankman-Fried and IEX CEO Brad Katsuyama stated they needed “to shape regulation that ultimately protects investors.” What issues the most right here, Bankman-Fried added, is that “there is transparency and protection against fraud.”
Reuters couldn’t decide how a lot FTX paid for the stake.
Bankman-Fried was invited to meet SEC Chairman Gary Gensler and different SEC officers together with Katsuyama in March.
A supply shut to IEX stated the objective of the assembly was to let the SEC know prematurely about its take care of FTX, which had not been publicly introduced at that time, and to focus on the chance of IEX making a buying and selling venue in digital property, comparable to bitcoin. FTX’s position was to present the crypto-trading infrastructure, the supply stated.
SEC officers outright rejected their preliminary plan as a result of it might have concerned the creation of a non-exchange buying and selling venue that’s extra evenly regulated, one thing the company opposes for cryptocurrencies, the supply acquainted with the SEC’s pondering stated.
Reuters couldn’t decide the extent of Bankman-Fried’s involvement in subsequent conversations with the SEC. In their thoughts, SEC officers had agreed to meet with Katsuyama in March, and Bankman-Fried was simply tagging alongside, the supply acquainted with the SEC’s pondering stated. He saved principally silent throughout the assembly, with Katsuyama in the “driver’s seat,” the supply added.
Whatever his involvement, FTX talked up its discussions to its buyers. In a September assembly of its advisory board, FTX stated talks with the SEC have been “extremely constructive.”
“We are likely to have pole position there,” it stated, in accordance to the assembly minutes.
The individual acquainted with the SEC’s pondering stated they’d dispute FTX was in the “pole position.” Anything the SEC did to regulate crypto buying and selling could be open to all market individuals, the supply stated.
The supply shut to IEX stated the exchange by no means entered into any operational agreements with FTX, including that it by no means acquired to that time.
A May FTX doc supplies a rundown of FTX’s contacts with particular person regulators. The doc, which has not been beforehand reported, exhibits how generally FTX was in a position to resolve the points that cropped up.
In February, for instance, South African authorities printed a warning to shoppers that FTX and different crypto exchanges weren’t approved to function there. So FTX entered right into a industrial settlement with an area exchange to proceed offering the providers. “FTX is now fully regularised in respect of its current activities in South Africa,” FTX stated.
The regulator, South African Financial Sector Conduct Authority, didn’t reply to a request for remark.
The May doc additionally exhibits that FTX had a brush with the SEC. The SEC had carried out inquiries earlier this yr into how crypto corporations have been dealing with buyer deposits. Some corporations have been providing curiosity on deposits, which the SEC stated may make them securities and ought to be registered underneath its guidelines. In the listing of its regulatory interactions, FTX famous that the inquiry was whether or not these property have been being “lent out or otherwise used for operational purposes.”
This month, as Reuters has reported, it emerged that FTX had executed simply that, shifting billions of {dollars} in shopper funds to Bankman-Fried’s buying and selling agency, Alameda Research.
In the May doc, FTX stated the SEC’s examination workers, which scrutinizes market practices that would current a danger to buyers, was involved a couple of totally different matter: a rewards program that it provided to prospects, underneath which it paid curiosity on crypto deposits.
According to the doc, FTX instructed the regulator it didn’t have the similar points as merchandise from different suppliers that the company had investigated.
“We confirmed these were solely rewards based and do not involve lending (or other use) of the deposited crypto,” FTX wrote. The SEC wrote again, saying it had accomplished its “informal inquiry” and didn’t want additional data “at this time.”
The SEC had no touch upon the inquiry. In an e-mail to Reuters, Bankman-Fried wrote: “FTX’s response there was accurate; FTX US’s rewards program did not involve lending out any assets.”