DOJ, SEC and CFTC Charge FTX and Founder with Fraud
Commentary by Steven Lofchie
The DOJ, the SEC and the CFTC filed actions against FTX and its founder Samuel Bankman-Fried for defrauding U.S.-based and foreign investors, which resulted in billions of dollars in losses and missing customer funds.
In a criminal Indictment, filed in the Southern District of New York, the DOJ charged Mr. Bankman-Fried with wire fraud and conspiracy to commit (i) wire fraud, (ii) commodities and securities fraud, (iii) money laundering and (iv) violations of campaign finance laws. The DOJ alleged that Mr. Bankman-Fried and others misappropriated customer deposits and used such deposits to finance expenses and debts of its affiliated hedge fund Alameda Research to make other investments and to make political contributions. The DOJ also alleged that Mr. Bankman-Fried conspired to disguise unlawful transactions and defraud lenders by providing misleading information regarding Alameda's financial condition.
The SEC filed a civil Complaint in the Southern District of New York charging Mr. Bankman-Fried with fraud. In the Complaint, the SEC alleged that Mr. Bankman-Fried orchestrated a fraud scheme to conceal FTX's operations from investors by directing FTX to comingle customer and firm assets through Alameda in order to finance undisclosed private venture investments, political contributions and real estate expenditures. The SEC also accused Mr. Bankman-Fried of soliciting additional investments by making misleading statements to the public about (i) FTX's use of customer funds, (ii) the safety of FTX's custodial services, (iii) FTX's risk management protocols and (iv) the exposure of FTX to Alameda and other crypto-asset firms. The SEC charged Mr. Bankman-Fried with violating Securities Act Section 17(a) ("Fraudulent interstate transactions"), Exchange Act Section 10(b) ("Regulation of the Use of manipulative and deceptive devices") and Exchange Act Rule 10b-5 ("Employment of manipulative and deceptive devices").
Separately, the CFTC filed a civil Complaint, also in the Southern District of New York, alleging that Alameda was not subject to the same rules as other accounts on FTX because Alameda had (i) an exemption from FTX's "auto-liquidation" risk management function, which allowed Alameda to carry a negative balance, (ii) the ability to withdraw unlimited funds, (iii) order execution priority and (iv) an exclusion from FTX's account verification process. The CFTC charged FTX, Alameda and Mr. Bankman-Fried with violating CEA Section 6(c)(1) ("Prohibition regarding manipulation and false information") and CFTC Rules Part 180.1(a)(1)-(3) ("Prohibition on the employment, or attempted employment, of manipulative and deceptive devices").
Commentary
Most of the securities law and CEA charges were consistent with previously reported information. The campaign finance allegations are new.
The authorities charged Mr. Bankman-Fried with giving political contributions in a manner that disguised the fact that he was the donor. This raises the question of whether the recipients of the contributions were deceived. Presumably Mr. Bankman-Fried would have wanted recipients to know that he was the source of the money. Also, as has been widely reported in the news, he had not been particularly careful about covering-up the fact that he gave millions of dollars in political contributions.
All of this is taking place in the context of Congress' deliberations on structuring a framework for digital assets. While the allegations regarding political donations are most interesting, the more important financial regulatory question is whether the attention that Mr. Bankman-Fried has brought to digital assets will discourage Congress from adopting a workable regulatory scheme or force them to do so.