‘A Massive, Years-Long Fraud’: SEC Makes Case Against Bankman-Fried

“From at least May 2019 through November 2022, Bankman-Fried engaged in a scheme to defraud equity investors in FTX Trading Ltd… at the same time that he was also defrauding the platform’s customers,” the SEC said, in a civil complaint against Sam Bankman-Fried.

Bankman-Fried was arrested on Monday evening in the Bahamas at the request of the US. Appearing in court for the first time since being detained, he said he wouldn’t waive his right to an extradition hearing. His attorneys said he should be released on bail.

The SEC alleged that while raising almost $2 billion from investors, Bankman-Fried “was orchestrating a massive, years-long fraud, diverting billions of dollars of the trading platform’s customer funds for his own personal benefit and to help grow his crypto empire.”

If last month was “bad” for Sam (as he put it), this month seems very likely to be worse. John J. Ray III, who’s overseeing the excavation effort at the site of FTX’s collapsed pyramid, was set to figuratively indict the company’s management in testimony on Capitol Hill.

“Although our investigation is ongoing and detailed findings will have to await its conclusion, the FTX Group’s collapse appears to stem from the absolute concentration of control in the hands of a very small group of grossly inexperienced and unsophisticated individuals who failed to implement virtually any of the systems or controls that are necessary for a company that is entrusted with other people’s money or assets,” Ray said, in prepared remarks for the House Financial Services Committee. Ray, along with James Bromley, a restructuring attorney at Sullivan & Cromwell, delivered a scathing assessment of FTX in bankruptcy court last month.

On Tuesday, the SEC painted a picture of a conman, and a gambler. “Bankman-Fried portrayed himself as a responsible leader… tout[ing] the importance of regulation and accountability,” the complaint said. “Customers around the world believed his lies.”

The US is prepared to suggest FTX was a con from the outset. Bankman-Fried improperly diverted customer assets to Alameda “from the start,” the SEC alleged, accusing Bankman-Fried of using customer funds to “make undisclosed venture investments, lavish real estate purchases and large political donations.” Bankman-Fried, the SEC said, treated FTX customer funds as “a virtually unlimited ‘line of credit'” to Alameda.

The SEC detailed the Alameda end-around. “From the start of FTX’s operations in or around May 2019 until at least 2021,” customer deposits went to Alameda-controlled bank accounts, including one belonging to a subsidiary called “North Dimension Inc.,” which maintained a website that made no mention of Alameda. “Bankman-Fried directed FTX to have customers send funds to North Dimension in an effort to hide the fact that the funds were being sent to an account controlled by Alameda,” the complaint said, adding that,

This multi-billion-dollar liability was reflected in an internal account in the FTX database that was not tied to Alameda but was instead called “[email protected].” Characterizing the amount of customer funds sent to Alameda as an internal FTX account had the effect of concealing Alameda’s liability in FTX’s internal systems.In quarterly balance sheets that Alameda provided to its third-party lenders, Alameda tracked this liability as a “loan,” but did not specify that the “loan” was from FTX. Instead, Alameda combined this liability with loans it had received from third-party lenders. Alameda was not required to pay interest on the liability reflected in the “[email protected]” account. In 2022, FTX began trying to separate Alameda’s portion of the liability in the “[email protected]” account from the portion that was attributable to FTX (i.e., to separate out customer deposits sent to Alameda-controlled bank accounts from deposits sent to FTXcontrolled bank accounts). Alameda’s portion—which amounted to more than $8 billion in FTX customer assets that had been deposited into Alameda-controlled bank accounts—was initially moved to a different account in the FTX database. However, because this change caused FTX’s internal systems to automatically charge Alameda interest on the more than $8 billion liability, Bankman-Fried directed that the Alameda liability be moved to an account that would not be charged interest. This account was associated with an individual that 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 “[email protected]” was the infamous “hidden, poorly internally labeled ‘fiat@ account'” from FTX’s balance sheet, circulated to investors early last month and leaked to the press.

There was more. So much more. In August of 2019, Bankman-Fried allegedly had code written that allowed Alameda to maintain a negative balance in its FTX customer account. He raised the limit on that negative amount “on multiple occasions,” leading to a de facto limitless line of credit, according to the SEC.

Do note: That setup, wherein Alameda ran an increasingly large negative balance with FTX, meant that it was effectively siphoning FTX customer balances, something the SEC made clear. In addition, Bankman-Fried exempted Alameda from margin calls and collateral requirements.

In May of 2022, following the implosion of the Terra-Luna ecosystem (which Manhattan prosecutors were reportedly investigating for links to Bankman-Fried), lenders to Alameda demanded repayment on loans originated starting in 2021. Alameda didn’t have the money, so it drew “on its ‘line of credit’ from FTX,” as the SEC put it. That amounted to FTX customers funding Alameda’s loan repayments.

“Because Alameda now had billions of dollars more in liability to FTX (on top of the billions of dollars reflected in the [email protected] account) Bankman-Fried — concerned that this enormous liability would alarm Alameda’s lenders — directed Alameda to hide this ‘line of credit’ in Alameda’s balance sheet,” the complaint alleged. He kept drawing on that de facto credit line to fund, among other things, “hundreds of millions of dollars” in loans to himself and other FTX executives.

The SEC pointed to FTX’s terms of service and representations to investors which, obviously, didn’t reflect what was going on behind the scenes. In addition, the complaint cited tweets from Bankman-Fried, as well as remarks he made to the Wall Street Journal and Bloomberg.

The complaint walked through Alameda’s collateral, which “consist[ed] largely of enormous positions in illiquid crypto assets issued by FTX and Bankman-Fried.” Long story short, “even if FTX had liquidated Alameda’s portfolio, the sales of those thinly traded tokens would not have generated sufficient funds to cover the amount Alameda borrowed from FTX.” Again, those “borrowings” were customer funds.

The SEC cited Bankman-Fried’s own tweets to suggest he was fully aware of the potential pitfalls associated with illiquid tokens. Bottom line: “Alameda was drawing down a virtually unlimited line of credit from FTX, collateralized by a large illiquid position” comprised in part of tokens FTX and Bankman-Fried created.

The complaint said that in late summer of 2021, Bankman-Fried told a potential US investor that FTX didn’t hold FTT (FTX’s utility token) and that therefore, the investor wouldn’t be exposed to it. That, the SEC said, was “false and misleading” because “any investment in FTX carried significant exposure to FTT” given that the token was “posted as collateral for billions of dollars that FTX had loaned to Alameda.” (That investor ended up giving Bankman-Fried $30 million.)

Over more than two years, the SEC alleged, Bankman-Fried took out loans from Alameda which ultimately summed to almost $1.34 billion. In two cases, he “was both the borrower in his individual capacity and the lender in his capacity as CEO of Alameda.” In late July, he loaned himself $136 million, despite the perilous state of crypto markets. The funds were channeled to investments, political donations and purchases of “Bahamian real estate for himself.”

Other executives borrowed at least three-quarters of a billion from Alameda, the SEC said. In some cases, there was no documentation “at all” of the loans, according to the complaint.

The SEC seems to doubt Bankman-Fried can be reformed. “Unless Defendant is permanently restrained and enjoined, he will continue to engage in the acts, practices, transactions and courses of business set forth in this Complaint and in acts, practices, transactions and courses of business of similar type and object,” the complaint warned.

Read the full complaint below