The Big Picture: Retail suckers will pay for the Bitfinex/Tether fiasco

Bitfinex just got a billion-dollar cash infusion (sorta), the exchange’s parent company iFinex crowed on Friday. That buys it a little more time to keep the party going while its financial and legal troubles sort themselves out. Or, rather, until retail investors pay the price.

Tether Watch

The exchange sold something called the LEO token this past week for a face value of $1 billion. Why are we saying “face value” and not straight-up $1 billion? Funny enough, the exact wording of the press release said it was for “one billion USDt worth of Bitcoin, USD, and USDt.”

We don’t quite know the breakdown. How much was cash? How much was in bitcoin? What percent of the deal was in questionable tether tokens and how many were from the newly minted batch that found its way into the world last month?

These questions matter tremendously because the company so desperately needs cash. Without it, all those big traders trying to cash out on Bitfinex would be in a heap of trouble. Bitfinex was $850 million in the hole because of fraud last year when it went to sister company Tether for a $900 million line of credit and a secret loan of $650 million. The New York Attorney General got an injunction to freeze loans from Tether to Bitfinex in April (it was recently given a 90-day cap but that limit can be extended).

This won't end well (data via Messari and CryptoCompare)
This won’t end well (data via Messari and CryptoCompare)

And, whaddya know, several hundred million Tether tokens began showing up in the market starting April 8, boosting the market cap about 35%. About three weeks later, the price of Bitcoin was up around 45%.

It’s one of the worst kept secrets in crypto: The recent rally in Bitcoin came from a massive issuance of tethers.

To big to fail, the crypto version

Having Tether or Bitfinex—or both—collapse could be devastating for the entire crypto market. About 80% of all bitcoin trades are done against tethers. Bitfinex remains one of the largest bitcoin exchanges, even if one questions the integrity of their trading volumes.

Over $100 million of Tether made its way to Justin Sun’s Tron at the end of April, but Sun said on May 1 that a proposed $20 million “rewards program” between Tron and Tether was being postponed “until more information becomes available.” (For example, we suppose, the legal status of Tether and Bitfinex.)

Even if Sun had put in such money, that leaves hundreds of millions of dollars worth of newly-issued tethers needing a place to go. Some of that may have gone to LEO—perhaps even a lot of it. In turn, while tethers are hard to redeem for dollars, there’s one thing those tokens are good for—buying bitcoins, albeit at a premium if one assumes tethers really should trade one-to-one with the greenback. 

In turn—and this is something HODL bros won’t admit—a lot, if not most, of those bitcoins eventually have to be cashed out for good old fashioned fiat. Investors mostly gauge their returns based on how it does in their base currency—dollars, for instance. The reason we read about homes or luxury cars being sold for bitcoins is because they’re still novelties. Everything else, from utility bills to alimony payments, gets denominated in fiat.

And for every annoying guy at a party who says bitcoins are a hedge against the dollar, there are hundreds of crypto fund managers who know instinctively that dollars are a hedge against bitcoin.

It’s instructive to look at flows from the largest bitcoin exchange—Tether-friendly Binance—to retail-friendly behemoth Coinbase, which lets users sell their bitcoins for U.S. dollars.

Flows between Binance and Coinbase. Red means bitcoins going to Coinbase from Binance; green means bitcoins going from Coinbase to Binance (chart via Bitfury’s CrystalBlockchain.com)
And while we're at it, here's Binance versus Bitstamp (chart via Bitfury's CrystalBlockchain.com)
And while we’re at it, here’s Binance versus Bitstamp. Red means bitcoins going to Bitstamp from Binance; green means bitcoins going from Bitstamp to Binance (chart via Bitfury’s CrystalBlockchain.com)

Granted, these may seem like small amounts relative to their own holdings, but it should be noted that these are from wallets directly identified as belonging to the exchanges. Of course, we don’t know the complete picture of how much is being moved but from what we can see, it’s lopsidedly going from Binance to Coinbase and not the other way around.

Yes, part of it can probably be explained with arbitrage. Prices on Coinbase are sometimes higher than on Binance, but the opposite is also true as well.

On Friday morning, a “whale” sold 5,000 bitcoins on Bitstamp for U.S. dollar. It caused a 10% drop in bitcoin prices.

Large holders of bitcoins (note not “HODLers”; we’re talking serious amounts here) now have to weigh whether they can sit on BTC knowing one of the largest exchanges in the market (Bitfinex) and the largest stablecoin (Tether) can collapse from under them.

But given there are retail customers willing to fork over U.S. dollars—and there are shysters and cheerleaders egging them on—those with large holdings can’t help but look at the tether-fueled run-up and think now’s the time to get out.

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Lawrence Lewitinn, CFA was the founding editor in chief of Modern Consensus. Disclosure: Lewitinn owns no cryptocurrencies in his portfolio.