According to a source, the quant trading firm was able to quietly use customer funds from his exchange FTX in a way that flew under the radar of investors, employees and auditors.
Billions from FTX users were used without their knowledge.
A source familiar with company operations who asked not to be named said that Alameda Research borrowed billions of dollars from FTX.
The source said that the exchange underestimated the amount of money FTX needed to keep on hand. Regulators require trading platforms to hold enough money to match customer deposits. If a user borrows money to make a trade they need the same cushion. The source said that FTX didn't have enough.
The hedge fund was its biggest customer. The assets the fund was trading never touched the fund's balance sheet. The source said it was borrowing billions of dollars from FTX users and then trading it.
CNBC didn't tell customers about this. It is against the law to mix customer funds with counterparties and trade them without consent. It is in violation of FTX's terms of service. Sam Bankman-Fried declined to comment on allegations of misappropriating customer funds, but did say its recent bankruptcy filing was due to issues with a leverage position.
Bankman-Fried said a margin position took a big hit.
The quant fund used a virtual currency created by the exchange to make some of the trades. In a lending agreement, the borrowers promise to repay the loan. It can be dollars or real estate. Alameda borrowed from FTX and used the exchange's in-house token to back those loans, according to a source. The price of the token nosedived in a single day.
In the past week, FTX has filed for Chapter 11. Due to the blurred lines between FTX and Alameda Research, there was a huge liquidity crisis. Bankman- Fried stepped down as CEO of FTX. The company moved digital assets offline after a suspected $477 million hack.
Bankman- Fried denied any conflict of interest and said FTX was a neutral piece of market infrastructure.
Bankman- Fried told CNBC in an interview that he put a lot of work into trying to eliminate conflicts of interest. I have stopped running Alameda. None of FTX works for it. We don't want to be treated differently. We would like to treat everyone fairly.
The web of complicated leverage and margin trading was a part of the issue. Users are able to borrow from other users on the platform. If a customer deposited onebitcoin, they could lend it to another user and make money.
FTX subtracted the borrowed assets from what it needed to keep in its wallet to match customer deposits. Exchanges have to match what customers deposit in their wallet. Assets were not backed one-to-one and the company underestimated the amount of money they owed customers.
Alameda was able to use the spot margin feature. Alameda was able to borrow customer funds for free.
The source said that Alameda was able to borrow customer funds and post the FTT token as a security. FTX wouldn't drive down the coin's value because these coins didn't make it onto the open market. Alameda received free money to trade with as a result of these token holding their market value.
FTX had been able to sustain this pattern as long as it kept the price of FTT.
Customer assets are an off balance sheet item that would not be reported on FTX's financial statements.
Last week, that all fell apart.
The majority of Alameda's balance sheet was made up of FTT token. Changpeng Zhao, the CEO of one of its largest rivals, threatened to sell his token on the open market in order to crash the price of the token.
There was a run on the exchange after this chain of events. FTX didn't have the funds when customers pulled their money
A source told CNBC that the financial data they had access to was incorrect. According to a former employee, the data wrongly implied that FTX would have more than a billion dollars left over even if all customers withdrew their funds.
According to three sources familiar with the company, only a small group of people knew that customer deposits were being used. Life savings of employees are tied up on FTX.
A current FTX employee said they were shocked. I feel like I am in a real-time movie. No one thought this would happen.
As a result of the public backlash FTX has faced over these missing funds, employees who say they were just as devastated as customers are now facing financial hardship, harassment around their involvement with the company, and tarnishing future employment prospects.
A former employee said they were not sure how they were being betrayed.
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