FTX trial update

0:06Pushkin. Hey, listeners. It's Ethan. Normally, we record these episodes of Unhedged the morning we release them. But today, we're doing something a little different. It is Wednesday in the afternoon. And the FTX court case that's been going on for several weeks now in New York has wrapped up for today. And we have Joshua Oliver, FT correspondent, who is fresh, less than an hour, I believe, from the courtroom steps to right here in the New York podcasting studio. Yes, I walked very fast up from the federal courthouse down by Brooklyn Bridge, and it's great to be here. Josh, this has been just one of the most high-profile trials I can remember in the financial world and beyond the financial world.

0:49It's being made into books. I've heard talk of movies on the way in years to come. It's so big, and I think part of that is all the characters, right? And you've been seeing them firsthand. You've got Sam Bankman-Fried and the hair everyone talks about, bushy hair, CEO of FTX and then you have Caroline Ellison his girlfriend Gary Wong Nishad Singh I mean talk us through the cast of characters you're seeing in this courtroom yeah I mean the hair by the way is gone he shaved right he had a haircut we're told performed by another inmate in the New York jail where he is spending his days and it did feel like when he walked into the courtroom not just because of the haircut but his whole kind of vibe had changed and he was not the kind of buoyant character that I spent far more hours than I care to admit talking to.

1:37He looks skinny. He looks less confident. And you can kind of feel like finally the weight of the US Justice Department is starting to actually weigh on someone. You know, it's been a crazy trial. This is my first federal trial. Everybody told me court is actually really boring. There's going to be loads of, you know, really dull testimony. that has not been my experience this is like court made for tv and part of that is like you said it's just thinking about the interpersonal tension of these moments you know all of these people are basically the roommates from the bahamas penthouse which we've heard a lot about we've seen pictures of it the prosecutors really love the penthouse because it makes sam look like he was living the high life and basically they've gone through his list of roommates his oldest friends his ex-girlfriend his childhood and university friends who have all come into the courtroom, walked within two meters of him up to the witness stand, and basically said he committed federal crimes.

2:29These are all the people that we at the EFT and all the other journalists sitting in the courtroom have been covering relentlessly for a year as we tried to figure out what the hell happened to this company. So to kind of have them take the stand, just sit there and sing like a bird is a totally incredible moment. Yeah. And you had been talking to Sam Begman-Fried yourself a year or so ago. Yeah. You were with him in the Bahamas. Yeah, I was in the Bahamas, met him in the Bahamas, and we spoke regularly, and we were speaking right up until shortly before he was put in jail. His bail was revoked a couple months before the trial.

3:00So it is remarkable to see how different he looks, how different he seems. And then I start to hear from the other people, because Sam has told the story many times, many different ways, and we're hearing for the first time from some of the other key actors in the drama. Yeah. Let's walk through some of the big moments that have happened so far. The trial's not over. It's underway. But kind of like a mid-term progress report on how this trial is going. I mean, the impression I've got from reading the coverage is the basic accusation is FTX used some kind of financial chicanery to effectively, through this system of borrowing and lending, take customer funds and have them end up in political donations, FTX venture capital investments, Miami Stadium naming rights, flats and penthouses and so forth.

3:46That seems to be the allegation. And the defense seems to be, no, it's really more complicated than that. It was really just a series of mistakes and the prosecution's making it look worse than it actually is. Yeah, I mean, so midway through progress report, we've basically had the thrust of the government case so far. I mean, we've had all their big witnesses. They have a few more loose ends to tie up in the next couple of days of the court sitting. But most of the government's case we have heard. And so at this stage, we've heard one side of the argument. And we don't know what the defense is going to do.

4:18We don't know if Sam is going to testify. We don't know what kind of defense they can put on if Sam doesn't testify. But there's a line in the government opening statement where they said there's only one verdict that matches common sense in this case. And I think they've really gone for that. They've tried to simplify. And, you know, if you simplify and if you appeal to the kind of common sense of the jury, look, when the customers asked for their money back, the money wasn't there. It wasn't there. Yeah. And the guy has spent all this money on other stuff. stuff and you can show lots of pictures of his penthouse in the Bahamas and that sort of makes it seem as though he took the money and spent it on stuff, right?

4:52So the more sophisticated version that you pick out from the testimony is there were hard dollars, like actual money coming into these enterprises, FTX Alameda, and it belonged to the customers, or at least the customers expected that it was going to be custodied for them. Then they were spending that money and then that was represented as a debt owed by Alameda to FTX that was collateralized with a bunch of different stuff, but basically in large part with FTT, which is FTX's own native crypto token that they created. So you have real dollars in, real dollars spent, and then theoretically the entities are still solvent and they're able to match their liabilities to the customer because they're holding collateral in made up crypto tokens.

5:40And then when the made-up crypto tokens go away in the market crash, suddenly everything is insolvent and there's no money to pay the customers. I mean, for listeners, explain kind of the role of FTT and these financial shenanigans in the way FTX collapsed. FTT is an exchange token. It was created by SAM slash FTX. An exchange token just being like if you use it on FTX, you get like preferential terms. Yeah, you get other preferential terms. And then also it has a kind of function that's a little bit like a buyback where the exchange sort of pledges when they launch this thing that they're going to devote a certain portion of the earnings from the business will go to buying back FTT and sort of memory holing it.

6:21So it takes it out of circulation, which supports the price. So in theory, it has a kind of relationship to the revenues of the company. So, you know, it's not totally nonsense that it could have some value, but it was certainly the way that the value ended up moving suggested that a lot of the value that was in there during the crypto bubble was nonsense. And when you had this kind of huge stock of tokens that are suddenly endowed by the crypto bubble with billions and billions of theoretical market value, it just allows you to play a lot of games as if you have all of these billions of dollars and treat it as collateral for third party lenders, which for some reason they accepted.

7:00you know treated as collateral for your own borrowing from yourself and tell yourself that you're solvent and produce balance sheets that make it kind of look like you're solvent and you know it doesn't pass the sniff test right where if that goes away you know tomorrow suddenly you have a huge problem you know and i think the other thing it's important to mention this context is like you can have various debates about was alamide a solvent at this time or that time and you know the defense will try and make some of these points and other people are also making them in the internet chat about this, but the basic expectation was pretty reasonable on the part of customers is that none of this was happening.

7:36If you gave FTX your money, it was just there. So sometimes I think we get into a conversation where it's like, well, maybe Sam wasn't quite that bad or FTX wasn't quite that bad. But it's like, if it turned out that FTX had lost$100 million of customer money this time last year, everyone would have thought that that was a huge deal, right? Yeah. And the fact that we're now debating, you know, did they take the$9 billion and invest it in stupid stuff or did they take$9 billion and invest it in smart stuff is somewhat beside the point of like the customer's money should have been there when they asked for it back.

8:08And it's hard to get around that question. That's absolutely right. Right. How much of the trial so far in your experience has been about the financial mechanics of though they issued FTT and then Alameda borrowed against it, all that kind of stuff versus the common sense framing you were going for earlier of the customers put the money in and when they asked for it back, it was not there. Where was it? It was in politicians' pockets and paying for penthouses and blah, blah, blah. They do have to explain a lot of details of FTX's accounting system that the jury is probably, some of them are probably falling asleep through, but I think that the emotional stuff, the relationships between the people and every opportunity they get, they introduce pictures of Sam standing next to celebrities, pictures of luxurious homes, all this kind of stuff that just adds to that sort of common sense factor for when the jury goes in to deliberate.

8:59So one of the most, I think, extraordinary pieces of evidence to me that I've just seen reading the press coverage of this is the seven balance sheets, the seven alternative balance sheets of FTX. And this is allegedly from the prosecution. There was a Google Sheets, like straight up, you go to drive.google.com and you open your spreadsheets folder. And in that, there is the main spreadsheet of the major crypto exchange FTX. And there are the seven alternatives that go to various partners and collaborators of Sam Bankman, Fried and FTX. That is not how most companies do their balance sheet accounting, is it?

9:35No, no, this is probably high on the list of top 10 worst pieces of evidence for the defense. Speaking of, you know, Google dot sheets, we had the man from Google in court today who was logging us through the metadata on that particular document, right? But crucially to try and back up testimony that showed that, you know, Caroline Ellison had testified that she shared this document with Sam Bangor-Fried. Technically speaking, we only have her word for it until you hear from the metadata guy who then says that, you know, there's evidence in the metadata that maybe Sam looked at this document. So they are trying to really go for connecting him to his knowledge of this financial information early on so that he can't say, oh, I only learned about it at the very end.

10:13So the Google expert, this is a person that worked at Google. They had a guy from Google who flown from Texas and spent about 25 minutes on the witness stand talking about metadata and Google Sheets and explaining to the jury what a Google Doc is. But going back to your seven alternative balance sheets spreadsheet, it is pretty hard to come up with an innocent explanation for that, particularly when you compare the version that they apparently sent and the version that was apparently the one that they used internally. Yeah. And so this has been part of the fairly effective effort to produce documents, have the cooperating witnesses who are Sam's closest associates describe when they produce these documents, what they show, which is basically Alameda, you know, owing huge amounts of money to FTX, the customer funds being used, and then talk about how they show them to Sam, they discuss them with Sam, Sam was aware of them.

11:02And this is all trying to preempt the line of defense that they're, I think, expecting based on all the media interviews that Sam gave before he was arrested, where he was sort of trying to say, I didn't know that any of this was going on. They were poorly labeled accounts. Sort of, you know, the implication was, I was as surprised as anybody that we've misplaced this money. It goes from poorly labeled to I mislabeled the accounts. Yeah. Or at least it looks that way. Well, possibly even, you know, and I'm not saying this is necessarily true, but possibly even I deliberately labeled them something obscure to put them out of the way.

11:32And to be clear, like the alternative balance sheets take the main balance sheet and then get rid of the stuff that doesn't look good on the main balance sheet. Yeah, they massage. It's about what they choose to represent. These are unaudited statements. They can write whatever they want in the spreadsheet. And it's interesting, you know, they weren't kind of necessarily making up numbers. It was just how do you describe things? And one of the crucial things is that they kind of shifted liabilities that were owed to FTX customers effectively and kind of lumped them under other categories. So there wasn't a line item that said the amount of money we borrowed from FTX, you know, X very large number of billions of dollars.

12:11It was included in a different category. So the lender is not going to go, oh, holy shit. Yeah. And if I'm not mistaken, there was one alternative balance sheet where they just took out the money that FTX employees had borrowed from FTX itself because it didn't look particularly good. Yes. Again, a couple, what was nearly five billions in related party loans, better to sort of like, they included that in some other category, some other liability. So it wasn't independently labeled on the balance sheet where people were going to go, oh, what the hell is this? $5 billion, where did that go? Yeah.

12:41Talk about the role of CZ. This is Chung Peng Zhao. He's the CEO of Binance, which is at this point the last crypto exchange really standing, maybe other than Coinbase. And he was critical in the fall of FTX itself by kind of sparking a crisis of confidence on FTT, this critical exchange token that FTX used to prop up Alameda's balance sheet. And he has come up a lot in this case as well. Yeah, he's been sort of a figure looming in the background. He comes up and it's interesting to wonder what members of the jury who were sort of selected for not knowing too much about this case are thinking when they hear about this person who kind of gets mentioned at random.

13:18But he really is a key actor in the drama if you're trying to tell the story of how FTX fell apart. One of the interesting things for me as someone who's followed this closely is there was a document that was introduced into evidence that apparently Sam Bankman-Fried had written where he basically drafted a series of messages that he was going to send out where he actually accused CZ of deliberately leaking financial information to the press and then using that to attack FTX. If this is true, bear in mind, this is an accusation from someone who's now accused of fraud and is in federal court on those charges.

13:51But the accusation he was making is this is like the most amazing corporate raid ever, right? Where not only did they seize on the opportunity of the leaked financial information to weaken their competitor, they actually leaked the financial information to create the environment that they could then exploit. And then they made an offer to buy out FTX to show that FTX was desperate. And then they walk away from that. So this is like the sort of Sam Bankman-Fried conspiracy theory version of what CZ was doing. CZ denies this. And notably, Sam in one tweet kind of toward the end of the FTX saga said, you win to CZ on Twitter.

14:23You win, right. And CZ, again, without mentioning Sam, had this tweet where he was like, we won't support people who lobby against us behind our backs. Yeah, yeah, yeah. And again, we sort of heard about that. We heard Caroline Ellison testifying that this was a priority for Sam. And her testimony is that Sam was actively trying to get US regulators, other regulators to crack down on Binance. And then he'd been promised by regulators that they were going to crack down on Binance. These are the two kind of arch rival crypto exchanges, FTX and Binance. And they were both, at least to judge from the trial, kind of up to dirty tricks.

14:52And as Sam put it in his tweet, CZ won. Yeah. One other actor who has, at least to me from the outside, has seemed to loom over this trial is Michael Lewis, the famed financial author who has just written a book about FTX where he shadowed Sam Bankman-Fried and kind of got into Sam's background and his psychology. And he has said in interviews that he intended his book, Going Infinite, to be a, quote, letter to the jury in this case, effectively making the case for Sam's innocence or at least negligence rather than maliciousness. Has Lewis come up at all in this trial. Is his letter to the jury being received by the jury?

15:33Well, the judge would very much hope not. Obviously, the jury's not supposed to read stuff about the case. They were told not to, and they're expected not to. And the judge was clearly, you know, to judge for every indication, not happy about this whole Lewis media circus. You had Michael Lewis on 60 Minutes the Sunday before the trial opened, and they're doing jury selection. And the judge explicitly asked, did any of you watch 60 Minutes when he was trying to do the jury selection. And it is unusual, I'm told, that the judge would call it a specific piece of media coverage rather than just say, have you read anything about this case in the media?

16:06So the judge is clearly paying attention to this. He does not want people reading the letter from Michael Lewis to the jury. He wants jurors who are coming to their conclusions based only on what they see in court. There is this sort of line around FTX that it's apparently this super successful company and, you know, maybe it is more the kind of startup that flew too close to the sun and then when everything gets looked at in a super prosecutorial light by every U.S. law enforcement agency you could name, suddenly they can find a bunch of charges to bring against Sam. It's tricky having seen all the evidence that we've seen in court to totally buy that argument.

16:42I think one of the key things is how did that company achieve success, right? It is true that FTX was a real business. It had a real product. It's not a total Ponzi scheme where the product is fake. They made a billion dollars in 2021. They're printing licenses to print money running a crypto exchange. It's great business. But how did they achieve that position in the crypto market as a relatively new exchange that was late to the party? It has a lot to do with dealings that were going on behind the scenes with Alameda that were not being fully disclosed. We've learned a lot that in the trial.

17:15One very clear example is we heard a couple of witnesses talking about this situation where basically someone exploited an error in the design of the FTX exchange that resulted in a huge loss for the exchange in the order of hundreds of millions to a billion dollars. And Sam directed this loss be moved over to Alameda's books. So then it's not on the books when FTX is talking to its investors. So the ability to do that makes it much easier to raise all that nice venture capital money and to look like a super smart, you know, amazing exchange. If they'd had to go to their investors and say, we had this error and we lost all this money, not so good.

17:51Yeah, yeah. There's other more, you know, less clear cut examples in terms of how Alameda helped with liquidity, right? Helped with liquidity and stuff that nobody else wanted to market make for, how Alameda was backstopping, you know, big market swings. So there's all these ways in which, you know, I don't think you would have seen the FTX that we know in our minds from the peak of its fame if they hadn't been doing all this stuff in the background with Alameda. I think that can kind of confuse the issue. It's not just a successful company that failed and now everyone's looking back with hindsight.

18:20The fact that they've achieved that success depends to some extent on the stuff they were doing behind the scenes and not telling people. That's such an important point. It's that Alameda preceded FTX, Alameda backstopped FTX all the way. And I think initially when FTX collapsed, there was an element of, well, why would a crypto exchange collapse? It's a very simple business. You sit there and you collect fees for running trading infrastructure. And that's what Coinbase does. Not to say Coinbase is a particularly good business, but it is a real business. Yeah. Don't lose the customer's money. Very important rule.

18:50Very simple. Where's the money, Sam? All right. Thanks, Josh. We'll be back in a moment with Long short.

19:08Now, Josh, customarily on Unhedged, we conclude with long short, a segment where we go long a thing we love and short a thing we hate. Usually the guest gives one and I give one, but I want to ask you for two today, both a long and a short, and maybe we can make it related to this trial, you know, one figure you think has emerged, you know, embiggened by this experience and one that maybe emerges diminished. I'm going to take a twist, if I may. I'm going to go long the chances that Sam Beckman-Fried is actually going to testify on his own behalf. And I will go short the chances that he's acquitted.

19:41Say more. You know, just knowing Sam and his personality, I think he will be desperate to testify, to tell his own side of the story, to try and convince the jury. And it's tricky to see who else they have as a witness. We've not had any hints. And, you know, Sam is a captivating person. He convinced a lot of people over time. Convinced Michael Lewis. Yeah. And if he can convince one juror that he didn't have criminal intent, then it's all back to the drawing board for the prosecution. So I think it's increasingly likely that that's what he's going to do. I think there was always a decent chance.

20:13But you don't think it works. That's your short. We're just at the end of the prosecution case. But no, I don't think it works. I mean, there's so much stuff here that's so hard to answer. And the way that Sam will take kind of say, well, when I said this statement, what I meant was that it's not necessarily going to read well with the jury, I don't think. And at the end of the day, the customer's money is gone. It's very hard to escape that common sense prosecution. All right, Josh, thank you so much for swinging by the podcast studio just less than an hour after the trial today. Really appreciate having you here and we'll have you back soon.

20:48And listeners, we'll be back in your feed with another episode of Unhedged on Tuesday. Catch you then. Unhedged is produced by Jake Harper and edited by Brian Erstad. Our executive producer is Jacob Goldstein. We had additional help from Topher Forhez. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Jacob Weisberg, and Jess Trulia. FT Premium subscribers can get the Unhedged newsletter for free. A 30-day free trial is available to everyone else. Just go to ft.com slash unhedged offer. I'm Ethan Wu. Thanks for listening.