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Uncomfortable questions for Bitfinex and Tether as feds search for bitcoin manipulation

It remains to be seen if Bitfinex and Tether are the subjects of a criminal investigation

Bitfinex

Bitfinex is currently the world’s largest bitcoin exchange (via Shutterstock)

Two Bloomberg stories about bitcoin published within an hour of each other on Thursday seemed barely related. But to those who follow the space closely, they are really the same story—and it’s perhaps the biggest story in crypto, one that may yet turn out to be the Enron of the cryptocurrency world, if not worse.

The first piece, which went live at 4 a.m. Eastern Time, said the Department of Justice is conducting a criminal probe into bitcoin price manipulation. The feds are said to be looking at the practices of spoofing and executing wash trades to move the price of the cryptocurrency.

Tether Watch[“Spoofing” is when someone puts in a large buy order below market or a large sell order above market to make it look like there is either a lot of interest in buying or selling, respectively, a particular security. Those orders are pulled before they’re executed but they can scare away buyers or sellers in the process. It’s been against the law in the U.S. since Dodd-Franks was passed in 2010.

“Wash trades” are when a trader buys a security from him/herself to make it appear like there’s a lot of volume in a particular market. Like spoofing, wash trades are generally illegal.]

The Bloomberg story said there was an investigation into how those two practices were used to rig bitcoin, but missing in the entire piece was the “who”—as in, who was being investigated. Then came the last paragraph:

“Some market participants have alleged that crypto manipulation is rampant. Last year, a blogger flagged the actions of ‘Spoofy,’ a nickname for a trader or group of traders that have allegedly placed $1 million orders without executing them.”

While Bloomberg didn’t name any names, the light bulb must have gone on in the heads of those who spend far too much time trolling Reddit message boards and Medium.

Indeed, back in August 2017, the antics of “Spoofy” were painstakingly detailed on a post by a blogger who went by the name Bitfinex’ed. As the name implied, his/her/their wrath focused entirely on Bitfinex, the world’s largest bitcoin exchange. The implication was that someone with close ties to the exchange was putting in spoof orders and moving bitcoin prices. Literally, the title of the post was, “Meet ‘Spoofy’. How a Single entity dominates the price of Bitcoin.”

Loaded with videos and screenshots, the post cataloged what looked a lot like spoof orders. For several months thereafter, Bitfinex’ed railed against Bitfinex and Tether in blog posts and on Twitter and Reddit. Then, a couple of months ago, the accounts suddenly went silent.

At the time of Bitfinex’ed big “Spoofy” blog post, bitcoin traded at $3,260. But it was just beginning its march toward record highs.

The blog post suggested that there was a relationship between bitcoin’s bull run and the issuance of “tethers,” the token that is said to be backed 1-to-1 with the U.S. dollar and run by the same folks who run Bitfinex (though they had been insisting the two are separate entities, the overlap in management was finally confirmed by the so-called “Paradise Papers”).

In April 2017, Bitfinex and Tether lost their banking relationship with Wells Fargo. That’s when new tether tokens began being issued at a breakneck pace.

A year ago, there were just $50 million worth of tether on the market. On December 6, when the Commodity Futures Exchange Commission subpoenaed Bitfinex and Tether, there were $820 million worth of tethers floating around. Two weeks after that, when bitcoin prices tested the $20,000 mark, there were $1.1 billion. By the end of January, it doubled to $2.2 billion.

Tether is promoted as being fully backed by—tethered to—American dollars. It even says so right on their site:

“Every tether is always backed 1-to-1, by traditional currency held in our reserves. So 1 USD₮ is always equivalent to 1 USD.”

The very next paragraph claims transparency:

“Our reserve holdings are published daily and subject to frequent professional audits. All tethers in circulation always match our reserves.”

There’s even a page called “Transparency” on Tether.to showing U.S. dollar and euro account balances that are said to back up all that tether in the market.

However, the numbers haven’t been audited and there’s no sign an audit will be happening any time soon. Tether severed ties with its auditor, Friedman LLP, at the end of January. Or Friedman severed ties with Tether. It’s not known publicly who cut the relationship. Tether released a statement to cryptocurrency news site CoinDesk that the relationship “is dissolved” without saying who initiated the dissolving.

Issuances of new Tether were put on pause, specifically on January 30, 2018, when news got out about the CFTC subpoenas. According to a report from Dutch news site Follow The Money, that was also around the time that Bitfinex and Tether began banking with ING.

San Juan

San Juan, Puerto Rico, where Tether’s assets are said to be domiciled (via Pixabay)

But according to another story published by Bloomberg exactly one hour after the piece about the DOJ investigation, Bitfinex and Tether found banking in Puerto Rico. The piece never mentioned ING, even though ING confirmed to Reuters that Bitfinex was an accountholder.

Instead, Bloomberg adds meat to the bones of a thesis, first postulated by the research arm of BitMEX in February, that Bitfinex and Tether were using Noble Bank International to do their banking.

Bloomberg reporter Matt Lessing cited and praised BitMEX’s Tether research on Twitter:

Noble is an “International Financial Entity” and was responsible for almost all of the increase (up to $3 billion) in cash and equivalents for such vehicles in Puerto Rico last year. According to BitMEX, that’s pretty much due to assets that can back all that tether. Those dollars, in turn, reside at Bank of New York Mellon, which serves as Noble’s custodian.

“Lack of transparency does not necessarily indicate fraud,” assured BitMEX in its report.

Yet as Lessing noted in his Bloomberg story, it wasn’t easy for Bitfinex/Tether to find its way to San Juan:

“Last year, the exchange sought the assistance of Crypto Capital Corp., a private Panamanian firm, according to online documents. Through its president, a Canadian who lives in Panama City named Ivan Manuel Molina Lee, Crypto Capital had links to Bank Spoldzielczy in Skierniewice, Poland, which Bitfinex apparently used for euro deposits, and the Portugal-based Caixa Geral De Depositos SA.”

In early April, unconfirmed rumors swirled around 400 million said to have been seized by Polish authorities that were alleged to be tied to Bitfinex. As reported on CoinTelegraph, the funds, claimed to be held in Bank Spoldzielczy, were said to link Bitfinex to suspicious activities in Colombia.

The original story that first broke on Poland’s TVP.info said, “the money was on the accounts of two companies from around Pruszków, which were owned by a Canadian-born Panamanian and a Colombian with Panamanian citizenship. One of these companies was a shareholder of an online cryptocurrency exchange office.”

That exchange was likely Bitfinex, said CoinTelegraph.

However, Bitfinex issued this statement in response:

“Bitfinex can confirm that it is aware of the current allegations that have been reported by Polish media over the past several hours. Bitfinex believes that these allegations are untrue and Bitfinex customers and operations are unaffected by false rumors.”

Tether-printing activity resumed at the end of April. As of Friday, $2.77 billion in tether have been authorized, with $2.54 billion circulating.

Over the past 30 days, tether’s trading volume was $103 billion, second only to bitcoin’s $202 billion, according to data compiled by CoinMarketCap. It’s not just a Bitfinex story, either; the bitcoin/tether currency pair is often the highest traded combination for exchanges like Binance, OKEx, and Huobi.

Fake Tethers under fake bitcoins.

Fake Tethers under fake bitcoins. It’s an illustration of what may be happening (Photo via Shutterstock).

And Bitfinex’s market dominance in bitcoin trading is profound. Roughly 44 percent of all bitcoin trading was done on that exchange over the past 30 days, according to data from bitcoinity.org.

While BitMEX claims that “Lack of transparency does not necessarily indicate fraud,” questions surrounding Bitfinex and Tether’s operations and assets have certainly spooked the market over the past week. As of Friday, bitcoin was trading below $7,500.

It remains to be seen if Bitfinex and Tether are indeed the subjects of the DOJ criminal investigation.

A decade and a half ago, accounting issues such as misrepresented assets and liabilities—as well as trading irregularities—took down Enron. At the time, the energy company’s assets were $63 billion.

While the total tether market cap is under $3 billion, it’s still an integral part of the cryptocurrency trading market. Devaluing—or outright removing it—could potentially cripple trading in the $20 billion-per-day market and cut the $330 billion in total market cap for all crypto.

Thus the market anxiously awaits the U.S. government’s next move.

Modern Consensus reached out to Tether’s press contact but we have so far received no answers to the dozen questions we asked.

 

 

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