Digital Déjà Vu – FTX and Refco

refco fx

It is a bit more of a challenge to find a historical analogy for the very recent FTX vs Binance saga. The United States markets of the nineteenth century had plenty of examples of industrialists putting one another out of business. For example, Cornelius Vanderbilt ordering his son to close the Albany Bridge, which meant that he controlled the only bridge into New York city, home of the busiest port in the country, to put his competitors out of business.

Unfortunately, these examples do not really include one where one party, FTX, was assisted with its launch by the other, Binance.

The FTT token, which among other things allows for discounts on trading fees and OTC rebates has the trappings of a commercial loyalty programme, such as Starbucks Rewards. While these reward the consumer, they do also benefit the retailer through access to data (look at Tesco and Dunnhumby in the UK), providing access to cheap funding and making clients stickier.

A better example though, is the Refco collapse in 2005. Refco was a New York-based financial services company, mainly focusing on commodities broking. It boasted over $75bn in assets with thousands of customer accounts and was the largest broker in the CME. In August of that year it had run an IPO that ironically had the same sale price of $22 a share, the same price Alameda offered to Binance for its FTT tokens.

In October of that year the CEO, Phil Bennett, announced he was taking a leave of absence after he had been found to be in control of an entity that owed Refco a sum of $430m. He had been hiding millions of bad debts in a wholly owned and unregulated subsidiary that he controlled, which was based in Bermuda (FTX is based in the Bahamas). The cause of the losses is unclear, although leaks have pointed to losses by large clients as well as an offshore entity with $525m in fake bonds. What was clear was that at the end of each quarter the CEO had arranged for Refco to lend to a hedge fund called Liberty Corner Capital Strategy, which in turn lent to the Bermudan company Bennett controlled, Refco Group Holdings, which then paid the money back to Refco.

According to Reuters articles, a similar move took place between FTX and Alameda. In May and June Alameda suffered losses, so Sam Bankman-Fried sought to prop them up with a $4bn transfer of FTX funds secured by assets including FTT and shares in Robinhood. He did not tell FTX executives about the move, as was the case with Bennett.

In the bankruptcy proceedings, Refco’s large creditors managed to convince the bankruptcy court that its customers were unsecured creditors because of Refco’s failure to segregate the customer accounts from their general funds. This left Refco’s thousands of trading account customers with 23-37 cents on the dollar. Reuters reports that a portion of the bailout of Alameda by FTX included customer funds, which were presumably also not segregated.

Refco joined the top 20 bankruptcies in US history and Bennett was imprisoned for eight years and was released from prison in 2020, at the age of 71, on health grounds. The FTX story has some way to go.

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