A Billion Bananas

#27: The quickest way to become a billionaire in 2022.

If you want to become a billionaire, there are a couple of ways to do it.

One way might be to open a business. You could open a fruit stand, selling apples and pineapples or whatever. If you made $1.00 of profit for each item sold and saved it all in a bank account or under a giant mattress, you could become a billionaire by selling 1,000,000,000 bananas.

But this takes a really long time and frankly is a little old fashioned.

An easier way to become a fruit-mogul is to set up a stand and sell a couple peaches, then open Microsoft Excel and build yourself a model of FruitCo. Start with your current sales, then apply a growth rate that shows FruitCo will eventually sell 5 billion pieces of fruit. Then, you sell your shares of FruitCo for $1 billion dollars today to someone who expects to make $5 billion dollars by selling fruit in the future.

This isn’t a slam dunk either. First, you have to convince others to believe your projections. Second, there isn’t an active market for $1 billion private produce transactions. Instead, you probably have to take money from a small pool of private investors and expand the pool as the business grows. Eventually, you can take FruitCo public in an IPO. Then FruitCo shares can be bought and sold at market-listed prices on a regulated exchange, and you can sell (or borrow against) your shares for a $1 billion.

While much faster than selling a billion bananas, it still takes at least a couple of years to go through this whole process. Plus, it requires buy-in from institutional investors, compliance with securities laws, legal and banking fees etc.

The quickest way to become a “billionaire” is to create a billion FruitTokens (FTK), and list the token on an unregistered offshore crypto exchange. Then, make a FTK/USD market by selling yourself one FTK token for one US dollar, and voilà, you are a mark-to-market crypto-fruit-billionaire. Now, sell as many FTK tokens to new investors for as many real US dollars as you can.

All three of these approaches create a paper billionaire, but not all paper is created equal.

A fruit stand that accumulated a billion dollars in profits has a billion dollars¹.

FruitCo has a claim on future profits, with a valuation that fluctuates based on the outlook of the business and broader market conditions. This stock is less liquid than physical cash or bank deposits, but there are also plenty of safeguards for future buyers. The company must have a reputable auditor, received approval from the SEC, and file detailed financials on a quarterly basis. It’s unlikely the CEO of the company would be able to raid the company’s treasury and head to the nearest non-extradition oasis.

Then there is tokenization. FTK is merely a cheap illusion of a billion dollars, created by extrapolating a "market price" across the entire illiquid supply of FTK tokens using quotes from an unregulated exchange, which can be easily manipulated by self-dealing². By itself, no value has been created or transferred. In order for the FTK creators to get rich, they must use their fabricated paper wealth to attract other people willing to exchange (or lend) dollars for FTK tokens. The creator may never actually see a billion dollars, but they may get enough to buy a villa in Dubai and a one-way plane ticket.

This isn’t a cynical take of a no-coiner, this is exactly how it was explained by the most famous crypto billionaire, Sam Bankman-Fried (SBF), in a now infamous episode of the Odd Lots podcast back in April.

Monetizing Magic

SBF’s appearance on Odd Lots made headlines because it explained the inside game out loud. When questioned about yield farming - the most obvious ponzi-structure of the cryptosphere - SBF responded in blunt terms.

First, SBF describes the trick to the initial wealth “creation”.

In like five minutes with an internet connection, you could create such a box and a token… that's gonna appear on Twitter and it’ll have a $20 million market cap.

And of course, one thing that you could do is you could like make the float very low and whatever, you know, maybe there haven't been $20 million dollars that have flowed into it yet. Maybe that's sort of like, you know, mark to market fully diluted valuation or something, but I acknowledge that it's not totally clear that this thing should have market cap…

And obviously already we're sort of hiding some of the magic impact, right? Like some of the magic is in like, how do you get that market cap to start with, but, you know, whatever we're gonna move on from that for a second.

Despite belatedly attempting to hide the magic, he already explained the process pretty clearly. Float a tiny portion of the tokens for insiders to self-deal, and extrapolate the price to the vast illiquid supply to create a large valuation or market cap.

Then, let the animal spirits drive the price up, borrow against it.

This box is worth zero obviously… But on the other hand, if everyone kind of now thinks that this box token is worth about a billion dollar market cap, that's what people are pricing it at and sort of has that market cap. Everyone's gonna mark to market. In fact, you can even finance this, right? You put X token in a borrow lending protocol and borrow dollars with it… Never, you know, give the dollars back… And it is sort of like real monetizable stuff in some sense.

This is how a FruitToken becomes “real monetizable stuff”.

In the weeks following this interview, we saw the dark side of expedient value creation.

At the heart of the issue was the Terra/Luna ecosystem, which at the time included the third largest stablecoin, Terra (UST) and its related coin LUNA. Combined, the two coins commanded $60 billion of market value at their peak. After the unbacked stablecoin de-pegged, both UST and LUNA collapsed to zero in short order.

The implosion left hundreds of thousands of token holders empty handed. Meanwhile, founder Do Kwon allegedly absconded with 3313 BTC, worth ~$67 million as South Korean authorities issued a warrant for his arrest.

Next, 3 Arrows Capital (3AC), which claimed assets of $18 billion at its peak, defaulted on over $3.5 billion in loans, due in part to losses on Luna. The firm’s founders have not cooperated with the bankruptcy court and allegedly plan to move to recently purchased compounds in the United Arab Emirates - a non-extradition jurisdiction for both Singapore and the United States. Creditors have so far recovered just $40 million.

In both cases, celebrated crypto billionaires were revealed as criminal frauds, though not before becoming very rich fugitives in the process.

The next dominos to fall were the lenders, Celsius ($12 billion AUM) and Voyager ($6 billion AUM) which are both now in bankruptcy proceedings. Top executives of Celsius pulled $17 million out of the company in May and June shortly before halting withdrawals from users.

During this chaos, SBF ironically emerged as a balance-sheet backstop, winning a bid to buy Voyager’s assets and making a similar offer for Celsius. In this light, perhaps SBF’s April interview was merely an indictment of his weaker competitors that he bought for scraps.

Or maybe, SBF’s billions look awfully similar.

Alameda’s Assets

SBF’s crypto empire is split between Alameda Research, his trading group, and FTX, his massive offshore crypto exchange³. This week, Coindesk reported the breakdown of assets and liabilities of Alameda Research, based on private financial statements.

As of June 30, 2022, the firm reportedly had $14.6 billion in assets, and $8 billion in liabilities. At a glance, this implies significant net equity value, but the composition of assets is troubling.

The company’s assets included⁴:

• $3.7 billion of unlocked FTX Coin (FTT) issued by sister company, FTX and controlled nearly entirely by insiders

• $3.4 billion of other crypto assets, including over $1 billion of locked and unlocked Solana (SOL), of which SBF was an early investor

• $2.2 billion of “FTT collateral”

• $2.0 billion in “equity securities”

• $0.1 billion of cash and equivalents

Alameda’s largest asset is the market cap of a thinly traded altcoin FTT⁵, nearly entirely owned and controlled by SBF, which happens to be down 70% from its all-time highs⁶. Sound familiar?

Alameda’s next biggest assets are other volatile cryptos that include SBF as an insider like Solana and Serum. Solana, despite SBF’s public pumping, is down 90% off its highs, and Serum, which is the airdrop reward token for FTT, is down even further.

If you are uncomfortable with those assets as collateral, undisclosed equity investments are your next recourse. But if it’s US dollars you are looking for, you may be out luck. Less than 1% of Alameda’s assets are in fiat cash.

Meanwhile, the company’s $8.0 billion of liabilities are largely comprised of $7.4 billion in loans. While we don’t have detail into the nature of those loans, we know at least $375 million was owed to Voyager, making Almeda the second largest borrower behind than 3AC. To the extent that these loans are primarily fixed in US Dollar quantities, Alameda could suffer a similar fate to 3AC, absent a broader crypto revival.

If Alameda is forced to liquidate assets to repay loans, it could cause a downward spiral in the price of these coins, crashing Alameda’s own balance sheet in the process. Even a continuation of the current crypto winter could push Alameda to insolvency. Such an event could have even greater repercussions for the broader industry than the Luna debacle, to the extent that it involves a major exchange.

Without a detailed accounting of Alameda and FTX, it is impossible to have a complete understanding of the financial standing and risks of either firm. To be clear, nothing here is particularly unique to SBF, Alameda or FTX, rather it is indicative of the industry practice at large. That shouldn’t be reassuring. Other large traders may have even worse positioning with shallower pockets and therefore more likely to fail first.

But Coindesk’s reporting reveals a scheme eerily similar to the one described on Odd Lots. First, make yourself a crypto billionaire, then see how much real money people will hand you.

Conclusions

In a bubbling stock market, you can become a paper billionaire long before your company generates a profit. In a bubbling crypto market, you can become a paper billionaire without a company. In fact, becoming a paper billionaire is a key step towards making real money.

But over the long run, unsubstantiated valuations revert and perpetual motion machines stop. When this happens, the illusion of wealth bursts and the inside game is revealed. Some people end up with dollars, others end up with tokens. Choose wisely.

---

As always, thank you for reading. If you enjoy The Last Bear Standing, tell a friend! And please, let me know your thoughts in the comments - I respond to all of them.

-TLBS

1. Assuming it was still a going concern, the fruit stand itself would also have value based on its potential to generate future profits.

2. Especially if you happen to own an offshore unregulated crypto exchange.

3. Put aside, for the time being, the obvious conflict of interest.

4. Coindesk’s breakdown does not equal the stated $14.6 billion total, and it is unclear what is omitted.

5. FTT is a better token than many pure pump-and-dump altcoins. FTT’s market capitalization is supported in part by FTX’s trading revenue, as a third of FTX commissions go to buy and burn FTT. In that sense, FTT is one of the few coins that derive value from a revenue-generating product or service. That being said, daily trading volume represents ~1% of market cap, compared to ~10% for Bitcoin recently.

6. Oh and by the way, the prices used to calculate these marks are taken from the FTX exchange.