In 2019, after years of following along, I described Tether as “the internal accounting system for the largest fraud since Madoff.” This remains true. I made many very specific claims in that essay, which have been borne out in detail in the NYAG settlement and CFTC settlement. I won’t rehash all of them here.

I have one tiny update.

Tether, as part of their settlement with the NYAG (see NYAG Settlement Agreement Paragraph 59 b 2), goes through the motions of lying about their reserve backing once a quarter. On May 19th 2022 they published an attestation (archived here) from their accountants, which they purport confirms the accuracy of their Consolidated Reserves Report as of March 31st, 2022.

Tether was (again) undercollateralized in May 2022

The attestation and Consolidated Reserves Report conclusively demonstrate that Tether became undercollateralized and required recapitalization in May 2022 during the crypto selloff. I anticipate Tether will lie about this fact, as they have done many times before. (See CFTC Settlement; Tether admits to the finding “[T]he Tether Reserves were ‘fully-backed’ by fiat currency reserves held in the Tether Bank Accounts only 27.6% of the time [for the time period of September 2, 2016 through November 1, 2018].”)

The Consolidated Reserves Report alleges assets of $82,424,821,101 and liabilities of $82,262,430,079. This implies approximately $162 million in equity, via standard balance sheet math. You can think of $162 million as the overcollateralization cushion of Tether. If the value of its assets declines by more than $162 million, it requires recapitalization or will, with mathematical certainty, become undercollateralized.

Note that redemptions cannot materially increase collateralization because Tether promises to perform redemptions at par (less a fee of the greater of $1k or 10 bps). Tether does not earn sufficient interest from its reserves, which it alleges are in Treasury Bills and very secure commercial paper, to build its capital buffer by itself if it is stressed.

Tether originally promised to back the reserves with cash in a bank account. This was a lie. It was a well-chosen lie, because the value of cash does not routinely fluctuate. Backing a fixed liability with volatile assets and a wafer-thin equity cushion would have the predictable result of causing the liabilities to become unbacked in many stressful situations for any of the backing assets.

Tether’s cryptocurrency and investment holdings declined in value

The Consolidated Reserves Report alleges that Tether’s reserves included, as of March 2022, $4,959,634,446 of “Other Investments (including digital tokens).” A 3.27% decrease in the value of these investments wipes out all Tether equity and causes their tokens to be undercollateralized. (Tether alleges a mix of assets outside this line item which, if one takes their words at face value, should have had flat-to-decreasing value over the course of the prevailing interest rate environment. Short duration Treasury bills don’t change in value much even in volatile markets; that is precisely why one buys short duration Treasury bills.)

Cryptocurrency suffered a broad-based decline in May 2022, during which Tether lost the peg not later than May 12th. As of this writing, on May 20th, it has yet to regain the peg. Bitcoin, the most blue-chip of all cryptocurrency investments, declined by approximately 36% between March 2022 and today.

As an example of an asset which is certainly impaired: Tether has invested $62.8 million of the reserves into Celsius Network, including $52.8 million into their Series B of October 2021. (I am indebted to Intel Jakal for some legwork here.)

Celsius is in free-fall due to the current market dislocation; the value of their native token is down by over 86% since their Series B. Clearly, that investment has suffered more than $20 million in impairment. Impairment of 1% of one line item on their balance sheet ate more than 10% of their equity, under assumptions which are extremely generous to Tether.

Tether should have repeated a similar analysis for each of their equity and token holdings. That analysis would have, certainly, suggested that their liabilities exceeded their reserves at multiple points in May. This is an occupational hazard of attempting to back a money market fund with almost no equity cushion with VC investments and other risky assets.

There is no embedded equity cushion in the digital tokens

Tether alleges that management’s policy is that “Intangible digital assets are valued at cost less any impairment.” Tether defenders might allege that, because Tether recognizes impairment but does not recognize gains, that it’s undercollateralization is merely an artifact of (their own) accounting choice rather than real.

This defense is false.

Tether’s attestation of June 2021 (archived here) reports $2.05 billion in Other Investments. Since Tether purports to value their investments at the lesser of cost or impaired value, they mathematically must have made approximately $3 billion in marginal investments between July 1st 2021 and March 31st 2022. A ~5% decline in the value of those marginal investments alone would wipe out their equity cushion.

I will reproduce the price history of Bitcoin over this interval below:

BTC price graph July 2021 through May 2022

The average price of Bitcoin over the interval is, by eyeball, well above $40,000; it currently trades near $30,000. Tether would have needed near omniscient prediction of the future to avoid a substantial drawdown in the value of any BTC which entered its reserves in this interval. It would be ludicrously favorable to Tether to suggest that they were taking only as much risk in these $3 billion of marginal assets as putting it all on Bitcoin; almost anything else they would have picked got hit harder, like their Celsius investment did.

It could be argued that Tether’s marginal $3 billion of Other Investments were primarily stablecoins. An advocate arguing that would probably hasten to add “Stablecoins that did not just get vaporized.” This argument is simply false; Tether factually does not hold $3 billion dollars of e.g. USDC.

Tether will lie about this again

Tether’s history of deceit and prevarication is very well documented, including in the NYAG and CFTC settlements. They have moved the goalposts many times regarding the composition and sufficiency of their reserves, and may attempt to do so again, such as saying that they have sufficient liquidity to meet redemptions. (In an interview with CNBC, Tether bragged that they had more than 24 hours of liquidity, which occasioned disbelief from financial commentators. Similar to a memorable scene in The Big Short, that’s bragging one’s way into a confession.)

I expect that they will again repurpose language like this, from their release not two days ago of the March numbers: “This latest attestation further highlights that Tether is fully backed and that the composition of its reserves is strong, conservative, and liquid.”

This language has been a now-admitted lie many times when they trotted it out in the past. It will be a lie again when they make it in Q2, as demonstrated in this essay. They will avoid disclosing a thing they absolutely must disclose, which is that the reserves were undercollateralized due to a reckless decision to back them with risk-on assets, and that they needed to recapitalize Tether as a result.

Does that even matter?

It is well-understood in the cryptocurrency community that Tether’s reserves are a polite fiction. If pushed on this, clueful members of the community, such as their co-conspirators, will (quietly) admit that Tether depends on a de facto guarantee of support from members of its consolidated group, such as Bitfinex, which can inject more equity at will. The community believes, based on prior experience, that there is appetite within the crypto community to conduct “private bailouts” to rescue their central bank if it comes under stress.

They would point to, for example, Bitfinex’s equity offering of 2019 which it used to bail out Tether after reserves which Tether had purported to have in the banking system were seized by authorities in several nations because Tether had custodied them with a money launderer. Reggie Fowler, who organized that money launderer, has plead guilty. I anticipate that the many hundreds of millions seized will be forfeited, though Bitfinex holds out hope that they will get “their” money back.

I agree with clueful cryptocurrency watchers that there is likely appetite to attempt to rescue Tether again if necessary, since it is systemically important infrastructure. That is… an argument. It’s a different argument than the one they make in public. It says, essentially, “Yep, we print money on demand and lie about this fact. It has worked out pretty well for us so far.”

Do you believe Tether regarding the rest of the report?

I have no reason to believe Tether/Bitfinex wouldn’t lie about important things and many reasons to believe they would. Again, I believe them to have perpetuated what is now the largest fraud in history. They are a criminal enterprise and have been for years.

I am just saying that, even if we believe Tether’s reserves report for the sake of argument, and we grant them very favorable assumptions as to their asset mixes and sagacity as traders, we still arrive at the result that they required recapitalization of the reserves. Their own numbers indict them.

Why bother writing this?

My feelings regarding Tether are open and notorious to many people who follow me. However, there is a tactical difference between “Random Internet commenter says stuff on Hacker News and Twitter” and “Professional financial commentator releases well-sourced essay on topic at a citable URL.”

I wrote this essay today with attached supporting documentation for the benefit of present journalists and future lawyers.

What do you have to gain here?

Perhaps I am a good citizen and want to continue pointing at the largest fraud in history saying “That is the largest fraud in history. Maybe someone in a position of authority should do something about it. Perhaps people who aspire to integration into the grown-up financial ecosystem shouldn’t do business with it.”

But, on self-reflection, I’m mostly in it for the Internet points.

I am not materially exposed to Tether or cryptocurrency financially.

I think if all cryptocurrency went to zero tomorrow that would result in a gain of something like 10bps for me, as a result of e.g. puts on Microstrategy and immaterial wagers I made for entertainment value. That hypothetical outcome would produce enough chaos in passive investments that it isn’t even guaranteed to be positive on net. This is a silly disclosure already but I anticipate getting “You clearly have financial motivations here, statist shill” thrown in my face. As always, opinions on my site are my own and do not reflect those of any other person or entity.

A bit of cryptographic geekery

You can find a copy of the original markdown corresponding to this essay here; it has not been edited except to clean up some typoes. I will shortly drop a hash of it on Twitter. This essay makes some confident claims about the future and I wish to have cryptographic proof that I did not edit those claims between now and when they inevitably come to pass.