Gathering storm batters bitcoin

After months of sensational growth, bitcoin has, at last, faltered. An increasingly hostile regulatory environment has caused its price, which nudged $20,000 in December, to collapse to around $9,000.

  • By Lewis McLellan
  • 01 Feb 2018
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The bloodbath in the cryptocurrency has, according to traders, a single main cause: the global tightening of regulatory conditions. 

In the US, regulators are cracking down on unscrupulous actors with increasing efficiency and, this week, the reliability of a major piece of cryptocurrency market infrastructure was called into question. 

Should the allegations be proved, bitcoin could lose another 50%-60% of its market cap, according to Kyle Wang, a senior consultant at IBM on blockchain, and a cryptocurrency investor. 

The uncertainty has already contributed to what he called “the bloodbath” taking place in bitcoin.

Bitfinex, the largest cryptocurrency exchange in the world, was reported to have been subpoenaed by the CFTC in December, along with Tether, a cryptocurrency affiliated with the exchange. 

When asked to confirm that the subpoenas had been sent, the CFTF declined to comment, per a CFTC spokesman. Neither Bitfinex nor Tether, which share senior staff, responded to a request for comment.

While neither Bitfinex nor Tether has been accused or convicted of any wrongdoing, the allegations against the companies have “caused the market a bit of a fright”, according to Mati Greenspan, senior market analyst at broker eToro.

How stable is the stablecoin?

Tether is a so-called “stablecoin”. Its value is pegged to the dollar. While this means that investors do not buy it to speculate on price movements, it is an important provider of liquidity and stability in a market short of both qualities. 

Because cryptocurrency trading occurs continuously, not just in designated market hours, traders often park money in Tether overnight to reduce exposure.

Should the allegations against Bitfinex and Tether be proved, confidence in the cryptocurrency market would suffer tremendous damage. 

Tether is offered as a pairing with dollar on other exchanges, including Kraken — one of the four exchanges which provides the pricing data on which the Chicago Mercantile Exchange bases its bitcoin futures contracts.

“If the CFTC were to utterly denounce Tether, it could cause a flight across exchanges,” said Wang. “And how many exchanges are sufficiently well capitalised to handle an outcome like that?”

Converting to dollars

While each Tether coin purports to be exchangeable for a dollar, as of December, its terms and conditions included the line “We do not guarantee any right of redemption or exchange of Tethers by us for money.” 

This line is no longer part of its purchase agreement.

However, as of January 3, Tether’s purchase agreement says: “The right to have Tethers redeemed or issued is a contractual right personal to you.” 

US persons may not redeem Tether tokens, since Tether announced in December that they were too expensive to do business with.

Tether claims that each of the 2.2bn tether it has issued is collateralised by dollars held at a bank. However, it has not submitted to an audit in order to prove this. In fact, Tether recently dissolved its relationship with auditor Friedman LLP.

Tether’s statement on the dissolution of the relationship cited the “excruciatingly detailed procedures Friedman LLP was undertaking” and said that it would not be possible to complete the audit in “a reasonable timeframe.”

Quite why this would be the case is unclear. The only explanation Tether’s statement offers is that “there is no precedent set to guide the process”.

The allegations against Tether and Bitfinex go deeper than the absence of collateralisation. 

Artificial inflation

The fall in the price of bitcoin, according to traders, is partially caused by the belief that the bitcoin price has been artificially inflated by wash trading in both bitcoin and tether, a practice that Bitfinex has not acted to prevent. “If these allegations are true, you would expect to see bitcoin’s price fall significantly,” said Wang.

In any case, “It’s not a good thing when a US regulator sends you a subpoena,” said Stephen Palley, a lawyer at Anderson Kill. He added that “quelling suspicion would be easy” and that it was difficult to think of a reason why Tether had not done so.

This is far from the first of Tether’s troubles. Wells Fargo withdrew its banking services from the exchange in 2017. Bitfinex filed suit against Wells Fargo but withdrew the case. Its current banking arrangements are unclear. 

While Bitfinex is domiciled outside the US, if it does business with banks that do business with US clients, it may not be outside US jurisdiction, according to Palley.

Bringing clarity

It should be noted that many in the cryptocurrency world have been aware of allegations against Tether and Bitfinex for some time. 

Greenspan of eToro said: “I’m happy the CFTC is investigating. It will bring more clarity to the market.”

Clarity could be still be some time coming. Palley said that, although it is claimed the subpoena was sent in December, there may have been a response challenging its scope and requesting more time. “It could be a couple of months before we see any clarity, if at all,” said Palley. “Any response to the subpoena will be private.”

The reported subpoena comes on the heels of an SEC enforcement action against AriseBank, a self-described "decentralised bank".

The US Securities and Exchange Commission halted the initial coin offering of the AriseBank, which claimed to have raised $600m of its $1bn target.

The SEC froze the assets connected with AriseBank, which reportedly include “bitcoin, litecoin, bitshares, dogecoin and bitUSD”.

The SEC said that the AriseBank ICO was “an illegal offering of securities because there is no registration filed or in effect with the SEC, nor is there an applicable exemption from registration. Many initial coin offerings have made use of Regulation D 506, which exempts securities from registration if they are sold only to accredited investors.

This week, Facebook banned cryptocurrency adverts.

Regulators around the world worry investors

While the Bitfinex and Tether situation is concerning investors, the bulk of the latest price moves, according to investors, was caused by announcements from national regulators. Three countries are at the centre of the regulatory uncertainty: China, South Korea and India.

Rumours of a crackdown on cryptocurrency in China are nothing new. Wang, of IBM, jocularly remarked: “China has banned bitcoin five or six times.”

The confusion stems from a number of different steps that Chinese regulators have taken to control bitcoin activity.

In early January, it emerged that China would move to close down bitcoin mining operations within China. Bitcoin mines are server farms dedicated entirely to finding hash functions — a process that ensures transactions remain secure and for which miners are rewarded with new bitcoins and transaction fees. 

Bitcoin mining is an energy intensive process, requiring vast amounts of electricity. The availability of cheap hydroelectric power in China led to around 70% of bitcoin mining to take place in the country, and in turn prompted China to move to restrict the activity.

Earlier this year China also restricted initial coin offerings (ICOs) — launches of new cryptocurrencies that took off in 2017 as a means of raising capital for start-ups. Many initial coin offerings have turned out to be less than scrupulous, prompting enforcement actions from the US Securities and Exchange Commission. 

According to Wang, the problem is even worse in China. “As a layperson in China, you can have a rough go of it investing in ICOs because of corruption and scams.”

The People’s Bank of China labelled 90% of ICOs in China fraudulent. As a result of the crackdown, many cryptocurrency exchanges in the country have shut down.

Capital flight and crypto

China is generally regarded as hostile to cryptocurrency and bitcoin because of its potential in aiding capital flight. However, as Wang points out: “To attribute that attitude to the whole of the Chinese government would be misleading. There are factions within the government who have profited from the cryptocurrency market immensely and want to continue to do so.”

Comments from the regulator in South Korea, a hub for cryptocurrency trading, also hit the bitcoin price. However, the finance minister confirmed on Wednesday that they intend merely to introduce regulations to curb criminal activity in cryptocurrencies, rather than to ban trading outright.

A similar reaction took place in the wake of a speech from Indian finance minister Arun Jaitley. While his comments were initially reported as having “killed India’s cryptocurrency party” — a line which Wang blames for bringing bitcoin to $9,000 on Thursday — it emerged once again that India’s regulatory efforts will be confined to curtailing cryptocurrency as a tool for financing illegitimate activity.

While no national regulator yet looks likely to introduce an outright ban on bitcoin or cryptocurrency, the scale of the response to misinterpretations and threats highlights the importance of the issue. 

“The cryptocurrency world is in a state of perpetual anxiety over regulation,” said Wang. “It would likely be the single most devastating event for the cryptocurrency market.”

Bitcoin’s troubles may not be over, but many still have faith in the cryptocurrency’s resilience. “I’ve seen several crashes in the past five years,” said Adrian Braithwaite, a cryptocurrency trader, and founder of SellBloc Inc. “It always bounces back.”

  • By Lewis McLellan
  • 01 Feb 2018

All International Bonds

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1 Citi 238,370.95 916 8.14%
2 JPMorgan 221,587.27 991 7.57%
3 Bank of America Merrill Lynch 214,543.42 717 7.33%
4 Barclays 184,024.85 666 6.29%
5 HSBC 157,697.44 732 5.39%

Bookrunners of All Syndicated Loans EMEA

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3 UniCredit 26,992.47 123 5.46%
4 SG Corporate & Investment Banking 26,569.73 97 5.37%
5 Credit Agricole CIB 23,807.36 111 4.81%

Bookrunners of all EMEA ECM Issuance

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1 Goldman Sachs 10,167.68 46 8.82%
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3 Citi 8,202.25 45 7.11%
4 UBS 6,098.17 23 5.29%
5 Credit Suisse 5,236.02 28 4.54%