In March and April of this year, I moaned and groaned here in blogland, chronicling my attempts to recover my funds from an interest-bearing account at crypto firm BlockFi.
Back in 2021, interest rates had been so low for so long that that seemed to be the new normal. Yields on stable assets like money market funds were around 0.3% (essentially zero, and well below inflation), as I recall. As a yield addict, I scratched around for a way to earn higher interest, while sticking with an asset where (unlike bonds) the dollar value would stay fairly stable.
It was an era of crypto flourishing, and so I latched onto the notion of decentralized finance (DeFi) lending. I found what seemed to be a reputable, honest company called BlockFi, where I could buy stablecoin (constant dollar value) crypto assets which would sit on their platform. They would lend them out into the crypto world, and pay me something like 9 % interest. That was really, really good money back then, compared to 0.3%.
On this blog, I chronicled some of my steps in this journal. First, in signing up for BlockFi, I had to allow the intermediary company Plaid complete access to my bank account. Seriously, I had to give them my username and password, so they could log in as me, and not only be able to withdraw all my funds, but see all my banking transactions and history. That felt really violating, so I ended up setting up a small auxiliary bank account for Plaid to use and snoop to their heart’s content.
BlockFi assured me that they only loaned my assets out to “Trusted institutional counterparties” with a generous margin of collateral. What could possibly go wrong??
What went wrong is that BlockFi as a company got into some close relationship with Sam Bankman-Fried’s company, FTX. Back in 2021-2022, twenty-something billionaire Sam Bankman-Fried (“SBF”) was the whiz kid, the visionary genius, the white knight savior of the crypto universe. In several cases, when some crypto enterprise was tottering, he would step in and invest funds to stabilize things. This reminded some of the role that J. P. Morgan had played in staving off the financial panics of 1893 and 1907. SBF was feted and lauded and quoted endlessly.
For reasons I never understood, BlockFi as a company was having a hard time turning a profit, so I think the plan was for FTX to acquire them. That process was partway along, when the great expose’ of SBF as a self-serving fraudster occurred at the end of 2022. FTX quickly declared bankruptcy, which forced BlockFi to go BK as well. SBF was eventually locked up, but so were the funds I had put into BlockFi. The amount was not enough to threaten my lifestyle, but it was enough to be annoying.
BlockFi Assets Begin to Thaw
I got emails from BlockFi every few months, assuring customers that they would do what they could to return our assets. Their bankruptcy proceedings kept things locked, but eventually they started to return some money.
As I noted in a blog post, in April, 2024, I was able to recover about 27% of my account. At the time, there was no clear prospect of getting the rest. Along the way, I clicked on a well-camouflaged scam email link, which gave me some heartburn but fortunately no harm came of it.
And now, hooray, they have finally returned it all, following their successful claw-back of assets from SBF’s organization(s). This vindicates my sense that the BlockFi management was/is fundamentally honest and good-willed, and was just a victim of SBF’s machinations.
Some personal takeaways from all this:
Keep allocations smallish to outlier investments
Sell out at the first serious signs of trouble
Triple-check before clicking on any link in an email
Having been forced to engage in opening crypto wallets and transferring coins, I have a better feel for the world of crypto which had seemed like a black box. It does not draw me like it does some folks, but if circumstances ever require me to deal in crypto (relocate to Honduras?), I could do it.
Well, it’s finally over. As noted in previous blog posts, back when interest rates were essentially zero, I started an account with cryptocurrency investing firm BlockFi. They paid me a hefty 9% per year for lending out my crypto coin to “trusted institutional counterparties”, backed by large collateral. However, when Sam Bankman-Fried’s FTX exchange went belly up, it took BlockFi with it. (Bankman-Fried, the former rock-star white knight of the crypto world, is now in prison for fraud). My funds at BlockFi disappeared into the black hole of bankruptcy proceedings for about a year and a half.
Last month, a judge finally allowed a settlement for clients to withdraw their assets from their interest-bearing accounts. There were two wrinkles. First, you get far less than 100% of your funds. Most of my money got chewed up in the corporate bankruptcy itself, and then was eaten by the law firm (Kroll) processing the bankruptcy and the client reimbursement process. So, I’m only getting about 27% percent of my money back.
As an aside, Kroll got hacked about a year ago, leaking the names and email addresses of us BlockFi clients, and so some scammer sent out a very well-crafted email that a number of people, including me (briefly) were taken in by, as I wrote earlier. if you responded to that scam email, you ended up connecting your wallet to a scam application, which could then suck everything out of your wallet. Fortunately, I had almost nothing in my wallet for the short time I had it connected, but other victims lost considerable sums. I guess the reason why criminals continue to run crypto scams is because they are profitable, like the legendary bank robber Willie Sutton who robbed banks because “that’s where the money is.”
The other wrinkle In the BlockFi reimbursement is that they will only reimburse you with the actual cryptocurrency coin that you held, not with its dollar value. So, I had to set up a cryptocurrency wallet (I used Trust wallet) to receive my crypto, which was all in the form of the stablecoin USDC.
I had to do considerable background work to make this happen. In order to test that that wallet worked to receive USDC, I had to also set up a cryptocurrency exchange account, which I did with Coinbase (which seemed to be the most solid crypto exchange). I had to connect that account with my bank, put some money into the Coinbase exchange, buy some USDC, and send it to my crypto wallet to make sure that it all worked.
As of a week ago, after some fairly intrusive ID verification, the reimbursement machinery did finally deposit the measly remnants of my USDC into my wallet. OK, I thought, I’ll just transfer that to my Coinbase exchange account, turn the USDC into cash and be done with it all.
But not so fast… Because USDC is transferred over the Ethereum network, I had to have enough ETH coin in my Trust wallet to pay for the transfer. The network transfer cost, called the gas fee, was about eight dollars at midday, going down to about three dollars by 10 o’clock at night.
So, I had to go into my Coinbase account, convert some USDC there into ETH (incurring a $1.49 fee for that), and then send some ETH to my Wallet, incurring yet another a transfer fee there. Then I could use that ETH in my wallet to pay for the transfer of the USDC to my Coinbase exchange. Then at long last I was able to convert my USDC to cash and transfer it to my bank account, to finally put this whole BlockFi drama to rest.
Looking on the bright side of all this uproar, I now have a functioning cryptocurrency exchange account and wallet, and am familiar with elementary crypto operations. This might prove handy if I ever want to dabble more in this area or if some other need arises. For now, however, I have had enough of crypto.
ADDENDUM: Finally got all my BlockFi funds back as of November, 2024. BlockFi was able to claw back its assets from FTX, and fully reimburse its customers. Yay! This post describes the process:
As I noted last month, the crypto lending firm BlockFi has started to send back to its customers some of their funds which had been frozen for over a year, since the demise of Sam Bankman-Fried’s FTX exchange led to BlockFi likewise vanishing into the mists of Chapter 11. As BlockFi emerges from bankruptcy, they are reimbursing customers in two tiers. Those who had crypto sitting in their “wallet” on the platform (not lent out and not earning interest), got back 100%. In my case, nearly all my assets on BlockFi were on the lending platform, earning juicy interest. For that class of assets, only a partial recovery is expected. Also, BlockFi will only send to you the crypto (e.g. Bitcoin or USDC) you owned as the crypto coin itself, not as the liquidated dollar value.
Therefore, you must establish an outside crypto wallet, and give them the external wallet address, so they can transfer the coin over a blockchain. This prospect of a connection between BlockFi (or its bankruptcy agent, Kroll) and your crypto wallet has brought out the scammers in force: if they can trick you into connecting them to your wallet, they can suck it dry in a flash.
The first thing I noticed back in early March was the proliferation of web sites that looked legit, but weren’t. When I browsed for “BlockFi withdrawal” or “BlockFi recovery,” up came a number of sites that had “BlockFi” or “Kroll” somewhere in their names, as clickbait. I don’t see any of these sites now, a month later. I assume that either those sites have been taken down as the thieves move onto the next heist, or the search engines have blotted them out.
Bogus phishing emails have also been sent out. Most insidious was an expertly-crafted email that I and other BlockFi customers received. Here is a screen shot of the now-infamous message:
As folks have pointed out, this looks pretty good. It has got the official company logo, and no misspellings. The return address on the email was BlockFi Holdings at www.everbridge.com. Unless you were vigilant, this address did not immediately raise suspicions like a random Gmail address or .ru address might.
Plus, this email was targeted to BlockFi customers, and came right when we were expecting further emails to tell us what steps to take to recovery our funds. How did the thieves have our email addresses? One speculation centers around the “Mother of All Breaches” (MOAB) when the Mailer Lite database was hacked in January. But we know that Kroll’s database was breached last year, where the lost data includes BlockFi customers’ names, email addresses, and amounts held at BlockFi, so that seems a more direct source.
Anyway, lots of BlockFi customers clicked on the link in this email. The thieves were pretty clever. First, they had you scrawl your signature on the screen. So now they have that archived, in order to do further ID theft mischief. And then, they had you connect their app to your wallet, as a trusted dApp. Over on Reddit (here and here), you can read the howls of pain from folks who got their wallets cleaned out. They are not alone – -as of late March, this scam had netted something like $5 million in digital assets.
An eerie thing about crypto is that the holdings at any address on the blockchain are public knowledge, even though you don’t know who the owner of that address is. So crypto sleuth Plumferno was able to display at least one of the BlockFi scammer’s wallets in the process of accumulating stolen assets:
This wallet (0x6C0e83422cD73fFD3A5EC4506638F6A0A8e22b38) currently holds well over $1million in Eth + various tokens combined, and as you can see, this scam is still very active – new victims are showing up in the transaction list quite regularly. Current holdings on Debank:
I am embarrassed to admit that I got taken in by this email. I tried clicking on the links, but fortunately my wallet was empty and my anti-malware resisted having me connect to the phishing site, so I did not lose any coin. Some takeaways are:
( 1 ) Always be suspicious of emails; especially scrutinize the return address, to make sure it really is from a source you trust. Watch for almost-legit email addresses.
( 2 ) If at all possible, avoid clicking on links in emails; try to go to the actual company website and click links from there.
( 3 ) See ( 1 )
See here for the bittersweet ending to this saga (I did get some money back, but only 27% of my original funds at BlockFi).
Back in 2021, interest rates had been so low for so long that that seemed to be the new normal. Yields on stable assets like money market funds were around 0.3% (essentially zero, and well below inflation), as I recall. As a yield addict, I scratched around for a way to earn higher interest, while sticking with an asset where (unlike bonds) the dollar value would stay fairly stable.
It was an era of crypto flourishing, and so I latched onto the notion of decentralized finance (DeFi) lending. I found what seemed to be a reputable, honest company called BlockFi, where I could buy stablecoin (constant dollar value) crypto assets which would sit on their platform. They would lend them out into the crypto world, and pay me something like 9 % interest. That was really, really good money back then, compared to 0.3%.
On this blog, I chronicled some of my steps in this journal. First, in signing up for BlockFi, I had to allow the intermediary company Plaid complete access to my bank account. Seriously, I had to give them my username and password, so they could log in as me, and not only be able to withdraw all my funds, but see all my banking transactions and history. That felt really violating, so I ended up setting up a small auxiliary bank account for Plaid to use and snoop to their heart’s content.
BlockFi assured me that they only loaned my assets out to “Trusted institutional counterparties” with a generous margin of collateral. What could possibly go wrong?
What went wrong is that BlockFi as a company got into some close relationship with Sam Bankman-Fried’s company, FTX. Back in 2021-2022, twenty-something billionaire Sam Bankman-Fried (“SBF”) was the whiz kid, the visionary genius, the white knight savior of the crypto universe. In several cases, when some crypto enterprise was tottering, he would step in and invest funds to stabilize things. This reminded some of the role that J. P. Morgan had played in staving off the financial panics of 1893 and 1907. SBF was feted and lauded and quoted endlessly.
For reasons I never understood, BlockFi as a company was having a hard time turning a profit, so I think the plan was for FTX to acquire them. That process was partway along, when the great expose’ of SBF as a self-serving fraudster occurred at the end of 2022. He effectively gambled with his customers’ money. This would have made him even richer if his bets had paid off, but they went sour, which brought everything crashing down.
FTX quickly declared bankruptcy, which forced BlockFi to go BK as well. SBF was eventually locked up, but so were the funds I had put into BlockFi. The amount was not enough to threaten my lifestyle, but it was enough to be quite annoying.
Sam’s parents are both law professors at Stanford who are now resisting returning to FTX’s creditors the $32 million (!!!) in assets (cash and real estate) that SBF had given them out of FTX’s operations. Some of that $32 million they are hoarding is mine, since BlockFi needs to recover its claims against FTX in order to make BlockFi clients whole. Sam’s mother has denounced the legal judgment against her son as “as “McCarthyite” and a “relentless pursuit of total destruction,” which is enabled by “a credulous public.” One wonders what little Sammy imbibed in the way of practical ethics in that household of idealistic Stanford law professors – the “effective altruism” that the Bankman-Fried family touts is perhaps a gratifying concept, until it actually costs you something you don’t want to part with. But I digress.
BlockFi Assets Begin to Thaw
I got emails from BlockFi every few months, assuring customers that they would do what they could to return our assets. Their bankruptcy proceedings kept things locked, but now they are starting to return some money. A judge ruled in early 2023 that assets held by users in their BlockFi “wallet” belonged to the users and could be withdrawn. However, assets in the interest-bearing account (which is where my stablecoin was) technically still belong to the bankrupt company’s estate, and were not necessarily available for withdrawal. But now, following another legal agreement, BlockFi is returning funds from the interest accounts. The problem is that you will only get some fraction of what you put in. Some YouTube commenters have complained they only got 10-25% of their assets, and no one seems to know if they will ever get more. Ouch.
I got an email from BlockFi saying that I have assets to claim, but I need to set up an actual independent crypto wallet to receive them. BlockFi will only transfer the actual coin, not the dollar values. So, I am in the middle of this process. It’s one thing to open a wallet, where you can transfer crypto coins in and out. It is another to exchange or monetize your coin; for that you seem to need an exchange.
I have chosen to go with Coinbase. It is not the cheapest alternative, but it seems to be the most solid U.S. based crypto exchange. I have opened a Coinbase account now. As with BlockFi, I had to go through Plaid (ugh) for the connection to my bank account.
Next thing I need to do is to open a Coinbase wallet, and try to connect with BlockFi, and see what I get back. I will post later on what happens there.
Update: I got scammed in this process, see here. My bad for clicking on a link in an email, instead of going to the official website for the link…
Since my nontrivial deposits at the cryptocurrency lending firm BlockFi have been blocked (maybe forever) from withdrawal, I keep an eye on news from that front. My main source of information has been missives from BlockFi itself, in which management portrays itself as being very careful with customer funds; it was only the shocking, unforeseeable collapse of the FTX exchange that forced the otherwise sober and responsible BlockFi into its recent bankruptcy. I have believed that view of things, since that is all I knew.
However, Emily Mason at Forbes has poked around behind the scenes, including finding insiders willing to talk (off the record) about less-savory doings within BlockFi. The title of her recent article, BlockFi Employees Warned Of Credit Risks, But Say Executives Dismissed Them, pretty much says it all. The article starts out:
In its bankruptcy filing last week, New Jersey-based BlockFi attempted to paint itself as a responsible lender hit by plummeting crypto prices and the collapse of crypto brokerage FTX and its affiliated trading firm, Alameda.
That is the view I have held up till now. However, Mason then goes on to note:
But a closer look at the company’s history reveals that its vulnerabilities likely began much earlier with missteps in risk management, including loosened lending standards, a highly concentrated pool of borrowers and unsustainable trading activity.
To keep this blog post short, I will just paste in a few excerpts where she fleshes out her case:
While the company regularly touted a sophisticated risk management team, current and former employees indicate in interviews that risk professionals were dismissed by executives preoccupied with delivering growth to investors. As early as 2020, employees were discouraged from describing risks in written internal communications to avoid liability, a former employee states.
Ouch. Not a good sign.
Until August 2021, BlockFi advertised that loans were typically over-collateralized. But large potential borrowers were often unwilling to meet those requirements, a cease and desist order brought by the Securities and Exchange Commission against BlockFi in February states. The availability of uncollateralized capital from competing companies like Voyager created stiff competition in the lending field.
Under pressure to continue growing and delivering yields, BlockFi began lending to these parties with less collateral than publicly stated without informing customers on the amount of risk involved with interest accounts, according to the SEC order which resulted in a $100 million fine for the company. As a result, BlockFi paused access to its interest accounts in the U.S.
Wait, that is MY money they were messing with. Now I am really annoyed.
In addition to lowering its collateral requirements, BlockFi’s due diligence process had flaws, former borrowers say. Available credit for borrowers was decided based on their assets, but BlockFi and other lenders failed to investigate both the size and quality of potential borrowers’ holdings. Like Voyager and other crypto lenders, BlockFi accepted unaudited balance sheets from hedge funds and proprietary trading firms former borrowers say, leaving room for manipulation on the borrower side.
In the due diligence process, lenders like BlockFi and Voyager did not examine whether borrowers’ balance sheet assets were denominated in dollars or less liquid tokens like FTX-issued FTT.
…The revelation that Alameda’s balance sheet was mostly FTT tokens was the news that set off the unraveling of both Alameda and FTX and triggered contagion effects across the industry. In early November, Alameda defaulted on $680 million in loan obligations to BlockFi, according to the bankruptcy filing.
Some BlockFi employees reportedly warned of the shakiness of the parties to whom clients’ finds were being loaned. Management dismissed these concerns because the loans were “collateralized”, but as noted above, the extent of that collateral was *not* what we clients were told:
…An internal team at BlockFi also raised concerns that the borrower pool was too concentrated among a pool of crypto whales, including mega hedge funds Three Arrows Capital and Alameda, another former employee states. Management responded that the loans were collateralized, according to the employee.
This is a very common scenario in finance: In search of profits, management cuts corners and takes more risks with client funds than they were telling the clients. Maybe Sam Bankman-Fried will up with cell-mates from BlockFi.
Because BlockFi survived the Luna/Terra collapse some months ago and because I believed the steady stream of reassuring pronouncements from BlockFi management, I only withdrew a third of my funds back in the summer. But as it turns out, that withdrawal was apparently bankrolled by a big loan to BlockFi from Bankman-Fried’s FTX; but FTX is now caput. So the odds of my ever seeing the rest of my funds are slim indeed:
In BlockFi’s bankruptcy filing and in public statements made by its CEO, Zac Prince, the company points to its survival through the collapse of the Terra/Luna ecosystem and subsequent shuttering of Three Arrows Capital as evidence of strong management. But that endurance four months ago was made possible through a $400 million credit line from now-defunct FTX, which allowed the firm to meet panicked withdrawal requests from depositors. When FTX folded in early November, BlockFi lost its lending back stop and could no longer meet fresh waves of withdrawal requests.
One lesson learned: If there is a reasonable chance of a panic, it can pay to be the first to panic, not the last.
About a year ago, I posted some articles touting the use of BlockFi as an alternative checking account. It paid around 9% interest (this was back when interest rates were essentially zero on regular savings accounts), and allowed withdrawal or deposit of funds at any time. Nice. BlockFi is associated with respected firm Gemini, and (unlike many crypto operations) is U.S. based, with consistent formal auditing. They earned interest on my crypto by lending it out to “trusted counter-parties”, always backed by extra collateral. What could possibly go wrong?
In July I wrote about a big cryptocurrency meltdown, in which a number of medium-sized players went bust. At that time, BlockFi assured its customers that its sound business practices put it above the fray, no problemo. They did make it through that juncture OK. But I withdrew a third of my funds, just to be on the safe side.
The huge news in crypto this past week has been the sudden, total implosion of major exchange FTX (more on that below). FTX is a major business partner with BlockFi. No worries, though, as of Tuesday of last week, BlockFi COO Flori Marquez tweeted that “All BlockFi products are fully operational”. Then the hammer dropped: On Thursday (11/10), BlockFi froze withdrawals, due to complications with FTX. My remaining crypto is stranded, most likely for years of legal proceedings, and I may never get it all back. I’m not going to starve, but the amount is enough to hurt.
In this case, I don’t really blame BlockFi – by all accounts, they have been trying to run an honest, responsible business. Before last week, nobody had much reason to think that FTX was totally rotten. My bad for not connecting the FTX-BlockFi dots earlier, and pulling out more funds when I had the chance.
The Great FTX Debacle
The star of this show is Sam Bankman-Fried, the (former) head of FTX:
James Bailey posted here on EWED on the FTX crash last week. CoinDesk author David Morris summarized the downfall of Bankman-Fried’s crypto empire:
FTX and Bankman-Fried are unique in the stature they achieved before self-immolating. Over the past three years, FTX has come to be widely regarded as a reputable exchange, despite not submitting to U.S. regulation. Bankman-Fried has himself become globally influential, thanks to his thoughts on cryptocurrency regulation and his financial support for U.S. electoral candidates – not necessarily in that order.
… Facts first uncovered by CoinDesk played a major role in the events of the past week. On Nov. 2, reporter Ian Allison published findings that roughly $5.8 billion out of $14.6 billion of assets on the balance sheet at Alameda Research, based on then-current valuations, were linked to FTX’s exchange token, FTT.
This finding, based on leaked internal documents, was explosive because of the very close relationship between Alameda and FTX. Both were founded by Bankman-Fried, and there has been significant anxiety about the extent and nature of their fraternal dealings. The FTT token was essentially created from thin air by FTX, inviting questions about the real-world, open-market value of FTT tokens held in reserve by affiliated entities.
Negative speculation about a financial institution can be a self-fulfilling prophecy, triggering withdrawals out of a sense of uncertainty and leading to the very liquidity problems that were feared.
Customers started a “run on the bank”, withdrawing billions of dollars of assets, leading to total insolvency of FTX:
The Financial Times reported that FTX held approximately $900 million in liquid crypto and $5.4 in illiquid venture capital investments against $9 billion in liabilities the day before it filed for bankruptcy.
If FTX had been run as an honest exchange, this withdrawal should not have been too much of a problem – – just give customers back the coins they had deposited with FTX. Apparently, though, FTX had taken customer assets and transferred them over to a sister company, Alameda, to trade with. The valuable customer crypto assets left the FTX balance sheet, and were largely replaced by the self-generated (and now nearly worthless) FTT token:
It remains worryingly unclear, though, exactly why even such a dramatic rush for the exits would have led FTX to seek its own bailout. The exchange promised users that it would not speculate with cryptocurrencies held in their accounts. But if that policy was followed, there should have been no pause to withdrawals, nor any balance sheet gap to fill. One possible explanation comes from Coinmetrics analyst Lucas Nuzzi, who has presented what he says is evidence that FTX transferred funds to Alameda in September, perhaps as a loan to backstop Alameda’s losses.
It doesn’t help that on Friday (11/11) some $477 million was outright stolen from FTX wallets. (The Kraken exchange said it has identified the thief and are working with law enforcement).
Where does the FTX saga go from here? There seems little in the way of assets left for the bankruptcy judge to distribute to former customers and creditors. In the case of BlockFi, they are dependent on a $400 million line of credit extended to them by FTX back in June, to keep operating. And who knows how much of BlockFi assets were stored with FTX – – since FTX was to be their white knight, BlockFi would not be in a position to withdraw deposits from FTX like other customers did.
I predict that nothing really bad will happen to Bankman-Fried and his buddies who ran this thing. Although its operation was apparently dishonest, it is not clear how much is subject to U.S. federal or state legal jurisdiction. Bankman-Fried and friends ran their empire from a big apartment suite in the Bahamas. Plus, he is pretty well-connected. Beside his massive campaign contributions, his business and sometimes romantic partner Caroline Ellison (she is CEO of Alameda) is the daughter of MIT professor Glenn Ellison, the former boss (as colleagues at MIT) of the U.S. Securities and Exchange Commission chair Gary Gensler. These relations were captured in an impish tweet by Elon Musk:
Ah, the delicious crypto bubble of 2021. Major cryptocurrencies like Bitcoin and Ethereum more than tripled in value. Every week, some new coin would get minted, letting early adopters 10X their money in a month. Decentralized finance (DeFi) based on blockchain technology was The Next Big Thing. Move over, stodgy old Bank of America.
That was then, this is now. The chart below of Bitcoin price serves as a proxy for the fortunes of the whole sector:
This has the smell of a bubble bursting. First, why did crypto soar in 2021? I think COVID gets some credit for that. Most adults in the developed world sat home for many months in 2020-2021, and in countries like the U.S. were handed thousands of dollars of stimulus money, in addition to giant unemployment checks. Much of that money went to buying “stuff” on Amazon, but much of it went into financial assets like stocks and crypto. Something like half of men in the United States between the ages of 18 and 49 dabbled in crypto. As you saw your friends making money effortlessly, classic tulip bulb FOMO set it.
All bubbles end eventually. Crypto has imploded from a $ 3 trillion market to a $ 1 trillion dollar market in just a few months. That is two trillion (with a “t”) gone. If Bitcoin were the only significant factor in the crypto universe, the latest bust would be a fairly trivial matter. Since Bitcoin goes up and Bitcoin goes down, that is nothing new. But part of the hype of 2021 was all the breathless commentary on how DeFi would sweep the world and Change Everything. No more centralized banking controlled by old men in suits – – power to the people! And in fact, a whole industry of lending and borrowing in the crypto world has sprung up. That is where some more consequential problems have shown up.
Warren Buffet is known for the saying, “When the tide goes out, you find out who is swimming naked.” The rapid fall in crypto valuations has set off a cascade of failures in DeFi. A key event was the implosion of the Luna/Terra (un!)stablecoin, in April-May 2022, which we wrote about here. A more widespread problem has been the unwinding of the crypto lending/borrowing system. Various firms loaned out the coin holdings of their customers to parties that wanted to trade (speculate) with them, and who were willing to pay something like 4-9% interest for get ahold of these coins. The parties doing the lending thought they were keeping themselves safe by requiring excess collateral for these loans.
Oversimplified example: I will lend you $100 (real dollars) if you deposit $140 of Dogecoin with me. If Dogecoin falls in value to close to $100, I would require more collateral from you within say ten days, or else I would sell your Dogecoin into the market and get my $100 back (and you eat the $40 loss). The big problem comes if Dogecoin falls so fast that by the contracted grace period ends, its value is down to $80. Now I as well as you realize losses, and widespread panic ensues. Now, if I have been lending out your Dogecoin to yet more parties who (it turns out) can’t pay me back in full, I am doubly hosed. And now the solid customers start withdrawing their funds/coins from these firms, and we have an old-fashioned bank run. It doesn’t help that Celsius Network froze customers’ accounts last month, so they could not withdraw the coins they had deposited. That sort of thing really gets clients nervous.
And so a number of significant DeFi firms are going bust, and calls get louder for more government regulation, which is largely antithetical to the whole DeFi enterprise. I will paste below a summary of this carnage, and then in the interests of full disclosure, tell how it has affected me personally:
The crypto and the DeFi industry boomed over the past few years but the recent crypto crash has plundered the fortunes of several crypto companies. The following crypto companies have recently encountered financial difficulties:
Vauld
Business Today broke the news on Monday that Vauld, the Singapore-based crypto lending and investment firm operating in India announced that it has halted withdrawals and deposits for its more than 8,00,000 clients. Vauld’s CEO Darshan Bathija said in a blog post that unstable market circumstances had created “financial challenges” for the company. The CEO also announced that investors had withdrawn over $197 million in the past few months.
Terraform Labs
Terraform Labs was the company that had triggered the recent crypto crash. They created the algorithmic stablecoin TerraUSD which de-pegged from the US Dollar and led to the crash of Terra Luna another token of the ecosystem causing massive panic and sell off in the crypto markets.
Terra co-founder Do Kwon announced a “recovery plan” in May that included infusion of additional funding and the rebuilding of TerraUSD so that it is backed by reserves rather than depending on an algorithm to maintain its 1:1 dollar peg.
Voyager Digital
On July 6, the American crypto lender disclosed that it had filed for bankruptcy. In its Chapter 11 bankruptcy petition, Voyager stated that it had over 1,00,000 creditors, assets between $1 billion and $10 billion in value, and liabilities in the same range.
Three Arrows Capital (3AC)
The Singapore-based cryptocurrency hedge firm went bankrupt on June 29, just two days after receiving a notice of default on a crypto loan from lender Voyager Digital for failing to make payments on an approximately $650 million crypto loan. The company filed a petition for protection from its creditors under Chapter 15 of the United States’ bankruptcy code on July 1. This section of the code permits overseas debtors to safeguard their U.S.-based assets.
Celsius Network
Celsius Network also suspended withdrawals and transfers last month due to “extreme” market conditions. They also hired consultants in preparation for a future bankruptcy filing. The American-Israeli business reportedly disclosed on July 4 that a quarter of its workers had been let go.
Babel Finance
The Hong Kong-based cryptocurrency lender stated on June 17 that it had temporarily halted crypto-asset withdrawals as it scrambled to reimburse consumers. According to the company, “Babel Finance is suffering unprecedented liquidity issues due to the current market situation,” emphasising the severe volatility of the market for cryptocurrencies.
CoinFLEX
In a blog post published on Thursday, CoinFLEX’s CEO Mark Lamb announced that the company would temporarily halt withdrawals due to “extreme market conditions” and uncertainty about a certain counterparty. The company is facing serious financial troubles and there seems to be no way out.
My Confessions
Briefly — I bought into Bitcoin and Ethereum in the form of the funds GBTC and ETHE towards the end of 2020. As crypto started to unwind this year, I sold out of ETHE to de-risk, coming out a little ahead there. I decided to hang in with the Bitcoin fund, riding it up, and now down, down, down. I am so far in the red on this one that I am just going to hold it indefinitely, hoping for some recovery someday.
I bought into Voyager (see above, it has recently crashed and burned) and sold half after it doubled, and the rest at about breakeven price, so came out ahead there. Another, similar firm, Galaxy Digital, I bought has also plummeted to near zero. I got out of that, but waited too long and lost about 30% there.
Readers with exquisite memories might recall that I wrote an article some months back here on EWED touting the DeFi model as a great way to earn interest to keep up with inflation: “Earning Steady 9% Interest in My New Crypto Account.” I chose BlockFi rather than Celsius Network to put my funds in for this, since Celsius (an offshore enterprise) seemed a little shady, whereas BlockFi made a point of being audited and compliant with U.S. regulations. Good choice, in light of Celsius’ recent freeze on customer withdrawals.
Now, even solid firms like BlockFi are hurting. Customers spooked by all the other crypto drama are withdrawing assets “just to be on the safe side.” BlockFi is seeking cash infusions from white knight Sam Bankman-Fried to stay afloat. The 30-year old crypto billionaire looks to be able to acquire the firm for pennies on the dollar, wiping out the initial (private) investors in BlockFi. I am one of these BlockFi customers withdrawing funds (half of my deposit there) – – just to be on the safe side.
As noted last week, I am happily receiving 9% interest in my new crypto account at BlockFi. How can they do that? The short answer is that BlockFi lends out my holdings to other parties, who pay somewhat more than 9% interest to BlockFi. This model is common to essentially all of the crypto brokers who pay out interest, but I will focus on BlockFi because (a) I have skin in the game there, and (b) they have been fairly transparent about their operations.
On the simplest level, this operates like a plain bank savings account does. A bank takes in funds from depositors, and (to oversimplify) lends those funds out to borrowers. The bank then pays to its depositors a portion of the interest it receives from its borrowers. Up until the last few years, this bank savings account model worked pretty well; a depositor might receive something like 2-3% interest on a savings account or certificate of deposit. More recently, short term rates have been near zero, so depositors get almost nothing in a bank savings account.
As noted earlier, BlockFi pays up to 4.5% interest on Bitcoin and 5% on Ethereum. These are leading, high volume coins that are widely used in decentralized finance (defi). Here is how BlockFi describes the parties to which it lends (mainly) Bitcoin:
Who Borrows Crypto?
BlockFi works with institutional counterparties for trading and lending cryptocurrency. These counterparties look to us to help them provide liquidity for their businesses. But who are some of these borrowers?
( 1 ) Traders and investment funds who see a fragmented marketplace and discover arbitrage trading opportunities. Arbitrageurs need to borrow crypto in order to close mispricing between exchanges or dispersed markets. Similarly, margin traders need to borrow in order to execute their trading strategies. This is a simple example, but it demonstrates how arbitrage and margin trading activities facilitate price discovery, which is an essential component of developed markets.
( 2 ) Over the counter (OTC) market makers make money by connecting buyers and sellers who do not want to transact over public exchanges. OTC desks need to keep inventory on-hand to meet their client demand. Owning crypto outright is capital intensive and comes with the attendant risks of price fluctuations. Instead, they may prefer to borrow inventory in order to facilitate transactions. Liquidity is another essential component to healthy markets.
( 3 ) Businesses that require an inventory of crypto to provide liquidity to clients. This bucket includes companies like crypto ATMs. These businesses also need to be able to support withdrawals while keeping the vast majority of their crypto assets in cold storage. The liquidity we provide them helps with these basic and important functions.
A key piece of this lending is to require that the counterparty post adequate collateral for the loans. This is somewhat similar to a bank lending you money to buy a house, with the house as collateral for your loan. If you lose your job and cannot pay back the loan, the bank has the right to sell your house to recovery its money. Similarly, BlockFi wants to ensure that if something goes sour with their loan of your Bitcoin, they can get their funds back and make your account whole. Obviously, BlockFi customers like me are relying on BlockFi to manage this properly and to minimize lending losses. BlockFi goes on to reassure us:
One reason for opening an account where you can purchase cryptocurrencies is to speculate on their price movements. There have been many cases where some coin has quadrupled in a few weeks, or gone up ten-fold in a few months, or even a hundred-fold within a year.
Another facet of crypto accounts is that in some cases you are paid interest on the coin you have purchased and hold in your account. That was the main draw for me. I already have a little Bitcoin and Ethereum exposure in my brokerage account through the funds GBTC and ETHE, enough to feel the thrill of victory and the agony of defeat when they go up, up, up and down, down, down, but I am not a big speculator at heart. So, I am drawn to the so-called “stablecoins”, whose value is tied to some major regular currency such as the U.S. dollar. It turns out that you can get high, steady interest payments on those stablecoins.
There are several crypto brokers which pay interest on coins. Some names include BlockFi, Celsius, Nexo, and Voyager Digital. Several such firms are reviewed here. Initially I leaned towards Voyager, since it gives access to lots of the new, little alt-coins where you can 10X your money if you pick the right ones and jump in early. However, I still do my own taxes, and the tax reporting from Voyager looked daunting. Last I looked, they just provide a dump of all your transactions in a giant table, and it’s up to you to figure out capital gains/losses. The word on the street is that this is not as straightforward as it seems. Also, Voyager offered only mobile apps, not a desktop interface. All in all, Voyager seems more geared towards intense younger Robin Hood/Reddit crowd, punching daring trades into their phones at all hours.
BlockFi is quite staid by comparison. It only offers a few, mainstream coins. However, it is one of the best-established firms, and it provides a nice clear 1099 tax reporting form at the end of the year. BlockFi is backed by major institutional partners, and manages over $9 billion in assets.
Unlike some of its competitors, it is U.S.-based, and as such it is structured to function well in this jurisdiction. Also, its interest payouts are straightforward. In contrast, many of its competitors incentivize you to receive your interest in special tokens issued by those companies, which adds another element of risk. Finally, BlockFi allows you to immediately transfer money in and out of your account by using a bank ACH link. I wanted that flexibility since I plan to keep a portion of my cash holdings in BlockFi instead of in the bank, but I want to be able to access those cash holdings on short notice and without penalty. (Last week I described some of my struggles over using the Plaid financial app which manages the bank-BlockFi interface, but I was able to get past that).
All in all, BlockFi is boring in a good way. All I want to do is make steady money, with minimal distraction. Here is a listing of the interest rates paid for holdings of Bitcoin and Ethereum:
BlockFi only pays significant interest for smaller holdings of these coins. (We will discuss the reason for this seemingly odd policy in a future blog post; it is basically an outcome of BlockFi’s conservative financial practices).
For Bitcoin, the interest rate is 4.5% for up to 0.10 BTC, which at today’s prices is about $4,700. After that, the interest plummets to 1%, and to a mere 0.10% for more than 0.35 BTC (about $16,000). There is a similar pattern for Ethereum. If your goal is to hold large amounts of these coins and earn substantial interest on them, there are probably better platforms than BlockFi.
However, the interest picture is brighter for the stablecoins. The biggest U.S.-based stablecoin is USD Coin (USDC), which is backed by significant institutions. Gemini Dollar (GUSD) is smaller, but also takes great pains to garner trust. Its issuer, Gemini, operates under the regulatory oversight of the New York State Department of Financial Services (NYDFS). It boasts, “The Gemini Dollar is fully backed at a one-to-one ratio with the U.S. dollar. The number of Gemini dollar tokens in circulation is equal to the number of U.S. dollars held at a bank in the United States, and the system is insured with pass-through FDIC deposit insurance as a preventative measure against money laundering, theft, and other illicit activities.” GUSD is the “native” currency within BlockFi, though users can easily exchange it for other coins. At this point I am holding just GUSD, though if I put in more funds, I would plan to partially diversify into USDC. Besides being much bigger, USDC now runs on multiple platforms, whereas GUSD is limited to Ethereum; if Ethereum finally does switch from proof-of-work to proof-of-stake, it may be more subject to outages or hacking, so it would be nice to not be totally dependent on Ethereum.
For these two stablecoins, BlockFi currently pays 9% interest on holdings up to $40,000, and a respectable 8% on larger holdings:
A complete list of BlockFi interest rates (which change from time to time) is here.
The alert reader may at this point object, “Hey, you are losing most of the purported benefits of blockchain cryptocurrencies – – without holding the coins in your own wallet, you don’t actually own them, so you are back dependent on The System. Moreover, those stablecoins are centrally managed, not deliberately decentralized like Bitcoin and Ethereum. You are treating this like a plain bank account!”
My reply is, “Yes, I am treating it like a plain bank account – – but an account that pays me 9% interest, with no drama.” That is exactly what I wanted.
UPDATE MARCH 2022 – – BLOCKFI INTEREST ACCOUNT NO LONGER AVAILABLE. For some time now, state and federal government authorities have been hassling crypto exchanges that offer interest on crypto holdings. In February, the SEC fined BlockFi $100 million for allegedly violating securities laws, and shut them down from taking in any new funds for interest-bearing accounts. BlockFi hopes someday to provide a regulation-compliant interest product, but don’t hold your breath.
Zealous state and federal regulators have been attacking other crypto firms offering interest, such as Celsius and Voyager. The main player still standing that I am aware of is Gemini. Gemini is very conscientious about audits and has always tried to work closely with regulators. It is offering about 6.5% interest on stablecoins (which is still way better than money markets or CDs), and a measly 1-1.25% on Bitcoin and Ethereum.
I finally got around to opening an account at BlockFi where I can buy cryptocurrencies directly. Later I will discuss why I chose BlockFi and what I plan to do there. For now I’d like to mention one roadblock I hit in starting it up.
Signing up for the BlockFi account itself was pretty straightforward. But when it came to actually funding it, I was required to use Plaid to handle transfers of funds to and from my bank accounts – – and Plaid wanted me to tell them my full username and password that I use to log into my bank account. “No,” I said to myself, “they can’t really mean that.” But yes, they do mean that.
Armed with these credentials Plaid is able to not only pull money out of my account (like, for instance, PayPal does), but they can also login as me and have access to every financial transaction I have ever done, every check I have ever written. It’s not that I have anything interesting to hide, but this level of privacy invasion creeps me out. Also, the sad truth is that any company, including Plaid and its partners, are vulnerable to hacking, so I am not thrilled at having my bank login information floating out there in cyberspace.
On their website, Plaid is nice enough to disclose the scope of its snooping:
We collect the following types of identifiers, commercial information, and other personal information from your financial product and service providers:
Information about an account balance, including current and available balance;
Information about credit accounts, including due dates, balances owed, payment amounts and dates, transaction history, credit limit, repayment status, and interest rate;
Information about loan accounts, including due dates, repayment status, balances, payment amounts and dates, interest rate, guarantor, loan type, payment plan, and terms;
Information about investment accounts, including transaction information, type of asset, identifying details about the asset, quantity, price, fees, and cost basis;
Identifiers and information about the account owner(s), including name, email address, phone number, date of birth, and address information;
Information about account transactions, including amount, date, payee, type, quantity, price, location, involved securities, and a description of the transaction; and
Professional information, including information about your employer, in limited cases where you’ve connected your payroll accounts or provided us with your pay stub information.
The data collected from your financial accounts includes information from all accounts (e.g., checking, savings, and credit card) accessible through a single set of account credentials.
Plaid promises not to sell or rent this personal data. Fine. But even if they don’t formally sell it, they may simply give it away widely. In their words:
We share your End User Information for a number of business purposes:
With the developer of the application you are using and as directed by that developer (such as with another third party if directed by you);
To enforce any contract with you;
With our data processors and other service providers, partners, or contractors in connection with the services they perform for us or developers;
With your connected financial institution(s) to help establish or maintain a connection you’ve chosen to make;
If we believe in good faith that disclosure is appropriate to comply with applicable law, regulation, or legal process (such as a court order or subpoena);
In connection with a change in ownership or control of all or a part of our business (such as a merger, acquisition, reorganization, or bankruptcy);
Between and among Plaid and our current and future parents, affiliates, subsidiaries and other companies under common control or ownership;
[etc., etc.]
Yeesh.
I’m sure Plaid means well, but I just didn’t like the sound of all that. So, I came up with a plan: I would start up a second account at my bank, with a slightly different name and a different account number, and just give Plaid access to that one account. The only thing I would do with that account is to fund my BlockFi account, so it would not have years and years of my other financial transactions embedded in it.
In the end, that worked, but it took a more time and phone calls than I expected. Opening the new account was a surprising pain, for reasons I won’t go into here. Then, it turns out that the bank doesn’t have a category for one person having two accounts with two different logins. There was nothing I could do about it online, so I had to talk to someone at the bank who had the power to limit my login authority to my new account. This meant that I now have to use my wife’s login to access my/our old account, which is OK. But it probably would have been cleaner simply to start my new account at some different (online) bank.
Anyway, just in time for the current crypto meltdown (Bitcoin is down more than 20% from its high a month ago), my account is active and funded. More on that in future installments.
Economist Writing Every Day 