The Case Against Sam Bankman-Fried

The Case Against Sam Bankman-Fried

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Sam Bankman Fried is not having a great week so far, and his worst days may be still ahead of him. On Monday he was arrested in the Bahamas at the request of the U.S. government, which had filed a sealed indictment in the Southern District of New York. On Tuesday, The SEC charged him with defrauding the venture capitalists and other equity investors who invested in FTX (with rather limited due diligence) since 2019. Shortly afterwards, CFTC charges followed alleging that FTX commingled customer funds and that Bankman-Fried violated the Commodities Exchange Act.

There is some pretty wild stuff to read in the three complaints. The fact that Sam Bankman Fried was the only person charged (at least so far) has led to some speculation that his business associates may be co-operating with prosecutors. SBF’s lawyer says that he is reviewing the charges with his team and considering all of his options.

There are eight criminal charges in total against Sam which include wire fraud on both lenders and customers, conspiracy to commit wire fraud on both groups, conspiracy to commit both commodities and securities fraud as well as conspiracy to commit money laundering. He faces a maximum 115-year sentence if convicted. The Department of Justice indictment alleges that Sam also broke campaign finance laws by making contributions to candidates and committees that exceeded federal limits.

We will cover that point near the end of the video. Now, While the SEC can only issue civil charges, they are accusing Sam Bankman Fried of orchestrating a multibillion-dollar fraud that began the day he launched his exchange and continued at his personal direction until its collapse last month. The CFTC which can also only issue civil charges wrote in its complaint, that when the enterprise came crashing down last month "FTX customers and the world at large discovered that FTX, through its sister-company Alameda Research, had been siphoning off customer funds for its own use — and over $8 billion in customer deposits are now missing." Even though the SEC and the CFTC can’t directly send a perpetrator to jail, they can work with the Justice Department or other law enforcement officials on criminal cases. The Department of Justice charges are the ones Sam has to worry the most about. In the SEC lawsuit, it is put forth that Sam promoted his company to potential equity investors as a safe and reliable participant in the wild west of digital assets and focused on FTX’s sophisticated risk management.

The SEC complaint alleges that Sam Bankman-Fried hid the fact that his private trading firm Alameda Research was exempt from these risk controls and benefited from in effect limitless loans from FTX backed by customer assets. This is roughly in line with what I suggested had happened in my “SBF explains losses” video I made last week. The SEC complaint puts forth that “From the start, Bankman-Fried improperly diverted customer assets to his privately held crypto hedge fund, Alameda Research, and then used those customer funds to make undisclosed venture investments, lavish real estate purchases, and large political donations.” I feel that I should point out that although Alameda is being referred to as a hedge fund, it was not actually a hedge fund.

Much like Three Arrows Capital, it had no investors, and was not regulated as a hedge fund. Sam Bankman-Fried has in recent weeks insisted that he was unaware of the details of what Alameda Research was doing. He has also denied intentional wrongdoing and apologized for what he has characterized as oversights and errors.

The SEC allege that contrary to what he has been claiming, he actually had full control and access to information at both FTX and Alameda, and that he “directed investment and operational decisions” at Alameda. The SEC claims that Bankman-Fried has taken active steps this year to hide the billions of dollars of FTX customer balances that were held at Alameda. “Bankman-Fried placed billions of dollars of FTX customer funds into Alameda. He then used Alameda as his personal piggy bank,” according to the complaint. These three different lawsuits are coming at Sam Bankman Fried and FTX from very different angles. The old debate over which agency should be regulating FTX does not appear to be a big deal as Bankman-Fried has found himself accused of securities fraud, commodities fraud with a bit of general fraud thrown in.

All agencies, no matter what they are regulating seem to be accusing Sam of some variety of fraud. Roughly speaking though, The Department of Justice is accusing FTX of criminal wire fraud and money laundering (which is bad), The CFTC is accusing FTX of commodity futures fraud (which is also bad), and because FTX raised money from venture capital investors by selling them stock, which is clearly a security. And Sam misled these VC investors (while playing video games at the same time), these investors were defrauded, and the SEC can then charge Sam and his cursed exchange with securities fraud. – which I should highlight is bad… It's all bad, the only person really saying anything good about Sam right now is Kevin O’Leary, and he seems to be under the impression that Sam’s parents are compliance lawyers when they are in fact Tax Law professors. But I won’t make fun of Kevin here.

He does his best… OK so let’s look first at the SEC complaint, then the CFTC complaint and finally the criminal charges against Sam Bankman Fried to see what he is accused of and what evidence of wrongdoing the various agencies have put forth. The SEC complaint starts out with the statement that “From at least May 2019 through November 2022, Bankman-Fried engaged in a scheme to defraud equity investors in FTX Trading Ltd, the crypto asset trading platform of which he was CEO and co-founder, at the same time that he was also defrauding the platform’s customers. They go on to explain how he lied to and defrauded FTX customers, but the focus of the SEC case is that he lied to and misled the equity investors in FTX.

Specifically, that he solicited equity investors by touting FTX’s controls and risk management and that he misrepresented the risk profile of investing in FTX by not just failing to disclose FTX’s exposure to Alameda Research and illiquid, FTX-affiliated tokens like FTT, but by actively hiding those risks. Sam is accused of violating Section 17(a) of the Securities Act of 1933, section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5. The SEC allege in their complaint that Sam Bankman-Fried was the ultimate decision-maker at Alameda Research, even after Caroline Ellison and Sam Trabucco became co-CEOs. The complaint states that Bankman-Fried directed investment, operational decisions, frequently communicated with Alameda employees, and had full access to Alameda’s records and databases. So, this is very different to SBF’s recent claims that he has been making in interviews where he is claiming to have been a hands-off investor, with no day-to-day involvement.

It looks like the SEC are going after him both for the “offer of securities” and the “sale of securities” as they focus in on the statements he made in November of this year while attempting to raise additional capital right before the bankruptcy filing. Amusingly, it would appear that the VC investors did so little due diligence that in the SEC’s search for false statements being made to investors they had to use statements made by Sam in public forums and on the FTX website. The SEC’s argument is that because Sam gave so little information to investors at all, they must have relied on statements he made in press interviews and things like the Terms of Service from FTX’s website which assured customers that their assets were secure. This would have led investors to believe the same thing. The SEC are working on the assumption that the VC investors who handed over close to two billion dollars did some research first.

They wouldn’t have just invested because Sam told them that some day you would be able to buy a banana on the app. That would be ridiculous… The SEC claim that FTX specifically used the documents on their website in their pitch to a US investor who invested $35 million dollars. They reference news coverage, statements to the house of representatives and statements to the CFTC as public statements that investors will have used in deciding whether to invest or not. As we dig in more, the SEC directly challenge SBF’s claims that he has been making in recent interviews that he had nothing to do with Alameda and didn’t realize that they were capitalized with customer funds. The claim alleges that in 2022 FTX began separating Alamedas money from customer money by moving the customer money to a different account in the FTX database. This change caused FTX’s systems to start charging Alameda interest on the 8 billion dollar liability that they were now showing.

The SEC allege that Sam directed that this liability be moved to an account where Alameda wouldn’t be charged interest. This account was associated with an individual who had no apparent connection to Alameda. As a result, this change had the effect of further concealing Alameda’s liability in FTX’s internal systems. The complaint alleges that Bankman-Fried directed software code to be written in or around August 2019, and updated in or around May 2020, that allowed Alameda to maintain a negative balance in its account.

Bankman-Fried is also accused of directing FTX to increase the amount by which Alameda could maintain a negative balance in its account on multiple occasions. They allege that in or around May 2020, Bankman-Fried directed that Alameda be exempted from the “auto-liquidation” feature of FTX’s spot margin trading services. This put customer money directly at risk, but importantly for this complaint, put the overall exchange at risk too and was not disclosed to investors, meaning that there was securities fraud. The complaint uses SBF’s recent media appearances as evidence against him, as he told interviewers that he didn’t put any time or effort into risk management at FTX, while he had pitched to investors that good risk management was the exchange’s competitive advantage. Next up is the CFTC case and they are pursuing claims based on customer losses. The Commodity Futures Trading Commission charged Sam Bankman-Fried, FTX and Alameda with fraud and material misrepresentations.

The complaint alleges that computer code written by FTX provided an “effectively limitless line of credit that allowed Alameda to withdraw billions of dollars in customer assets from FTX.” The CFTC start out by making a case that the activity at FTX falls under CFTC jurisdiction. So, they provide a bunch of charts and data showing that the collapse of FTX had a significant affect on digital commodities listed on US exchanges. The CFTC filing alleges that Alameda Research, Bankman-Fried’s personal hedge fund, enjoyed access to as much as ”$8 billion in customer funds,” in an account nominally on FTX books but controlled and in the name of Alameda.

From the very founding of FTX in 2019, the CFTC alleges that Alameda “accessed and used FTX customer funds for Alameda’s own operations and activities, including to fund its trading, investment, and borrowing/lending activities.” The CFTC dismiss Sam’s claims that FTX and Alameda were separate entities and that he had no control over Alameda. They say that all of the companies operated as a single, integrated common enterprise under the sole and ultimate authority of Bankman-Fried as their mutual owner. They point out that he was a signatory on important corporate agreements, corporate bank accounts and trading accounts. They say that Sam maintained direct decision-making authority over all of Alameda’s major trading, investment, and financial decisions and that this authority was exercised regularly through Bankman-Fried’s often daily participation in various in person and mobile chat communications with senior personnel at Alameda. The complaint states that Alameda and FTX continued to share office space, key personnel, technology, hardware, intellectual property and other resources.

The complaint alleges that, at Sam Bankman-Fried’s direction, FTX employees created features in the FTX code that favored Alameda and allowed it to execute transactions even when it did not have sufficient funds available, including an “allow negative flag” and effectively limitless line of credit that allowed Alameda to withdraw billions of dollars in customer assets from FTX. These features were not disclosed to the public. The complaint also points out that Alameda was given certain hard coded advantages trading on FTX, where they could trade significantly faster than anyone else using the platform. The complaint says that Alameda’s borrowed funds could be withdrawn from FTX. Meaning that Alameda had an unlimited ability to borrow and withdraw digital assets from FTX Trading to put towards its off-platform activities.

By early 2022, Alameda had invested several billion dollars in directional, unhedged, illiquid, and/or long-term investments. To fund these investment activities, Alameda had relied on billions of dollars of loans from digital asset lending platforms, traditional bank lines of credit, and its unlimited borrowing abilities on FTX, including its access to customer funds. The complaint says that over the summer of 2022, Alameda was subject to a large number of margin calls and loan recalls from other platforms.

They didn’t have sufficient assets to meet those payments and at the direction of Sam Bankman-Fried, Alameda greatly increased its usage of FTX customer funds to meet its external debt obligations. Alameda was able to rely on its undisclosed ordinary course access to FTX credit and customer funds to facilitate these large withdrawals, which were several billion dollars in notional value. The CFTC says that Sam Bankman Fried was aware of and responsible for this misappropriation of FTX customer funds.

The $8 billion in Alameda liabilities were disguised on FTX’s systems as a customer account that Sam Bankman-Fried would refer to as “our Korean friend’s account” and/or “the weird Korean account.” Come on Sam, you are supposed to be a woke vegan… Good Lord! The complaint alleges that the same type of “allow negative flag” and exemption from liquidation characteristics were applied to the so-called ”Weird Korean” account as was applicable to the Alameda main account and other sub-accounts. Interestingly, in or around September 2022 the CFTC alleges that Sam drafted and shared a document internally questioning whether Alameda should be permanently shut down. He gave a few reasons, including the fact that they didn’t hedge which meant that more money had been lost than Alameda had ever made or ever would make; That capital is really expensive, and that Alameda wasn’t making enough money to justify its existence. These internal admissions were the exact opposite of what Sam Bankman-Fried and Alameda were telling the public about Alameda’s profitability at that time.

The CFTC seeks restitution, disgorgement, civil monetary penalties but cautions victims that this may not result in the recovery of lost money because there may be insufficient funds to pay them.. And it doesn’t sound like there is much left. Last, but by no means least, we have the US Department of Justice case which charges Sam Bankman-Fried with eight counts including conspiracy to commit wire fraud on customers and lenders, money laundering and violations of campaign finance laws. These charges represent the most serious threat to Sam Bankman Fried, but the DOJ complaint contains far fewer details than the other two complaints. The criminal charges describe a long-running scheme to misappropriate the deposits of exchange customers and use them to pay the debts and expenses of Alameda Research and to make investments.

The conspiracy is alleged to have run from 2019 — the year Sam founded FTX — until its collapse last month. Damian Williams, US attorney for the Southern District of New York, described the alleged crimes as “one of the biggest financial frauds in American history” at a news conference. Williams said he had approved the charges against Bankman-Fried last week.

The criminal case was unsealed on Tuesday morning as lawmakers in Washington conducted a hearing into the FTX bankruptcy. Bankman-Fried had been scheduled to testify to the US House financial services committee before he was arrested at his home by Bahamian police. John Ray the third…, FTX’s court-appointed new chief executive, told the hearing: “This isn’t sophisticated whatsoever, this is just plain old embezzlement.” In spite of their claims of rigorous risk controls, FTX staff recorded transactions on Slack, and did the accounts on QuickBooks. There was no board of directors and payments were made to Bankman-Fried’s family, the new chief executive told lawmakers. While Bankman-Fried was broadly condemned by politicians, some held back from attacking the wider crypto industry.

The inconvenient truth is that several of the politicians present had accepted campaign contributions from Sam and FTX, hoping to stave off onerous regulation. Bankman-Fried emerged from obscurity a bit over a year ago to become the second-largest donor to Democratic-leaning groups in the recent midterm elections, doling out $36mn. And this leads us to the last charge. Sam Bankman-Fried is alleged to have spent as much as $70 million on 2022 election campaigns, according to Federal Election Commission records — there are claims that there was much more in "dark money," a term used to describe legal donations that do not have to be publicly disclosed.

US Federal law limits donations from an individual to a single candidate to $5,800 — which is made up of $2,900 for the general election and an equal amount for the primary. Bankman-Fried and unnamed co-conspirators are accused of making "tens of millions of dollars in illegal campaign contributions" to election candidates and campaign committees. The donations, according to Damian Williams, the U.S. attorney for Southern New York, were "disguised" to look as though they were coming from wealthy donors when, in fact, the contributions were funded by Alameda Research, using stolen customer money. The US government required every recipient of Madoff funds – including foundations and endowments to return the money. We must wonder if the same will happen with these political donations.

Sam Bankman Fried was denied bail by the court in The Bahamas. His lawyer said that he was not waiving his right to extradition proceedings. If he fights removal, the process could take up to a year or more of hearings and appeals, with a slim chance of success. The U.S.-Bahamas extradition treaty requires offenses to be considered crimes in both countries. It is unlikely that a Bahamian court would find that securities fraud and wire fraud are not illegal in the Bahamas.

Bankman-Fried might argue that he would not receive a fair trial in the United States, would face unjust punishment there or would suffer inhumane treatment, factors a Bahamian court would have to consider before releasing him for extradition. This doesn’t seem like it would be likely to succeed. The New York Times wrote a piece on Monday that wrapped up quoting one of Sam’s parents friends as saying “It’s like a Greek tragedy, The story of flying too close to the sun, and having your wings singed.” Now, I had to revisit a book of Greek Mythology, as I didn’t remember the part of the story where Icarus stole eight billion dollars of customer money, and lost it all.

Hopefully Bahamian authorities who have stated that Sam is a” flight risk” will be restricting his access to wax and feathers to prevent any escape plans he might have. If you enjoyed this video, you should watch my Charles Ponzi documentary next. It is the first video that I’ve had that hit a million views here on YouTube. Have a great day, and see you again soon. Bye.

2022-12-17 17:38

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