FTX Collapse Renews Microscope on Tether Backing

Tether, an asset-backed cryptocurrency stablecoin, has been lending its coins to customers.

That’s according to a new report by the Wall Street Journal (WSJ) today (Dec. 1).

Tether, which is also known as USDT, is a stablecoin, or a cryptocurrency that, rather than fluctuating in value, is “pegged” to the U.S. Dollar (USD) stablecoin, meaning that each Tether is supposedly backed in value 1:1 with one USD or the equivalent.

If cryptocurrencies are assumed to be the speculative and volatile equivalent to small-cap growth stocks, then stablecoins would be that category’s reliable equivalent of treasury bonds.

There are several stablecoins pegged to the USD, but Tether is the most popular with its $65 billion market value, making it the third largest cryptocurrency behind Bitcoin ($325 B) and Ethereum ($150 B).


That’s what makes the WSJ’s report, that the company is lending out its own tokens to customers, so surprising — and worrying.

As of this writing, Tether has not responded to PYMNTS’ request for comment.

A Big No-No

Because of their implied stability, alongside the remarkable volatility of their unpegged peers, stablecoins have emerged as essential tools, none more than Tether, which facilitates transactions across the entire crypto ecosystem.

Because Tether is an anchor in the crypto system, the lending of its own tokens represents a broad, if hopefully unrealized, risk. The promise and premise of Tether is that customers will always and forever be able to redeem one coin for $1, and issuers like Tether are required to have enough liquidity to cover this.

If, and according to the WSJ, this appears to be the case, Tether has been increasingly lending its own coins and not selling them instead for equivalent fiat, this adds to the risk that the company may not have enough liquid assets to weather a large redemption event.

After all, if the value of Tether “breaks the buck,” so to speak — and it has fallen below the $1 level several times in the past — and the company has a sizable book of loans that can be repaid in Tether, which has shed value, then by definition USDT is not fully backed up by dollars. That means, the thinking goes, that the company could be susceptible to a liquidity crunch, delivering another solvency shock that the entire crypto marketplace is likely ill-prepared to weather.

Sound Familiar?

A bank run exposing liquidity issues is exactly what caused the implosion of cryptocurrency exchange FTX just a few weeks ago, in what has since cast a contagious pall over the entire industry.

Leading up to its failure, FTX was widely viewed as stable and solvent itself, a responsible actor in an emergent marketplace. 

This would, of course, be revealed not to be the case at all — as FTX was found out to have been self-dealing with its own FTT tokens and subsequently obliterated by its lack of liquidity when this exposure came to light. 

Incorporated in another tax-friendly island haven, this time the British Virgin Islands vis-à-vis FTX’s Bahamian stronghold, Tether has historically been plagued by questions surrounding its accounting balance sheet and financial health.

 The hard-proof makeup of Tether’s asset reserves supporting the stablecoin’s inner workings have yet to be disclosed in clear enough detail that unquestionably justifies its $1:$1 value.

 In fact, the New York Attorney General found the opposite — that despite the company’s repeated claims, Tether was not always fully backed by fiat currency. The company reached a settlement with the NYAG office, which found that “Tether deceived clients and market by overstating reserves [and] hiding approximately $850 million in losses around the globe.”

The company paid $18.5 million in penalties and has been banned from continuing its trading activities in New York. However, the fine and settlement did not expose how Tether works underneath the market-speak, nor did it force the company to change its methods or reveal its finances regularly to the public.

If, in fact, Tether is creating new tokens without taking in an equal amount of USD, then some say it is doing the same thing FTX did with its FTT tokens and acting as a closed-system money printer.

As reported by the WSJ, “Tether Holdings Ltd. says it lends only to eligible customers and requires that borrowers post lots of “extremely liquid” collateral, which could be sold for dollars if borrowers default.” As of the end of September, these loans represented just under a tenth of the company’s total assets.

Sweeping declines in the crypto markets could mean that some of this “extremely liquid” collateral may not be nearly as liquid as presumed, and assuming some of these loans are backed by other cryptocurrencies, the collateral supporting the loans could be worth much, much less than the face value of the loans. By comparison, Bitcoin has fallen around 70% this year.

While it remains to be seen what this all means and how it will play out, one thing is certain — the existential crisis the crypto industry finds itself in after FTX’s collapse does not appear to be going away any time soon.

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