- Bitcoin price fell on Tuesday on news that US regulators are investigating companies behind cryptocurrency Tether.
- Rumours have been circulating that Tether, a crypto pegged to the dollar, does not have the currency reserves to back it up.
- The company behind Tether strongly denies allegations.
- Fears that if they are true, Tether crash could tank bitcoin and crypto exchanges due to the central role it plays in the market.
LONDON — The price of bitcoin dived late on Tuesday night after news that two companies, Bitfinex and Tether, had been subpoenaed by the US Commodity Futures Trading Commission (CFTC).
Concerns have been swirling in the cryptocurrency market for months about the status of Tether, a cryptocurrency issued by Tether Limited. It plays a central role in the operation of many leading cryptocurrency exchanges, including Bitfinex, but there is speculation that the company behind it may not hold the dollar reserves it claims.
If this theory is true, it has the potential to crash the price of bitcoin and potentially hobble the operations of many exchanges. Here’s what you need to know:
What is Tether?
Tether is a cryptocurrency that’s meant to be backed one-for-one by the US dollar. The idea is to have the price stability of the dollar combined with the operational ability of a cryptocurrency. It’s what people in the crypto world call a «stable coin.»
The cryptocurrency was created in 2015, originally called Realcoin, and there is $2 billion-worth of so-called USDT in circulation today, according to industry data source CoinMarketCap.com. It was hit by a $31 million hack last November.
Who is behind it?
Tether tokens are issued by Tether Limited, a company based in the British Virgin Islands according to the New York Times. Tether’s website says it is incorporated in Hong Kong, with offices in the US.
The company has many of the same management team as Bitfinex, the Hong Kong-based cryptocurrency exchange that is one of the biggest in the world. Jan Ludovicus van der Velde is CEO of both Bitfinex and Tether, and Philip Potter is chief strategy officer for both businesses, for example.
Who uses Tether?
«Anybody who’s trading on some of the major exchanges [holds Tethers],» Mati Greenspan, a market analyst with eToro, told Business Insider. «What exchanges like Bitfinex do is, rather than having a client’s balance held in dollars, they hold them in USDT. So if somebody’s got their money on an exchange such as Bitfinex and they don’t have any current open positions, they’re actually probably in Tether.»
Many cryptocurrency exchanges have difficulty working with traditional banks, who are wary of working with crypto businesses. Tether offers a stable alternative, offering the low volatility of the dollar to both exchanges and users.
An industry source who didn’t want to be quoted told BI: «Tether is used by crypto-to-crypto exchanges as it allows them to price crypto assets in USD without having to maintain/own USD-denominated bank accounts – this is of particular interest to many platforms due to the difficulties involved in maintaining banking relationships in the crypto space.»
Tether’s website says that it «allows you to store, send and receive digital tokens person-to-person, globally, instantly, and securely for a fraction of the cost of alternatives.» Holding client funds as Tether means exchanges can cut down on transaction costs until a client wants to redeem their funds as dollars. Then, Tether can be exchanged for those dollars.
Traders also use USDT to lock in returns during times of volatility and also transfer funds from one platform to another.
Why are people worried?
The company that controls and issues Tether is meant to hold US dollar reserves to back up all of the Tethers that have been issued — a little like the Federal Reserve backstops dollars with gold. In theory, Tether holders can sell one USDT back to Tether Limited for $1.
But fears have emerged in the cryptocurrency community that Tether Limited doesn’t hold sufficient currency reserves to back all the Tethers in circulation.
«The claim is — and the claim has been growing lately — that they’re not holding those reserves,» Greenspan told BI. «They haven’t been incredibly transparent about where they’re holding them and how much they’re holding in different places.»
The New York Times reported in November: «One persistent online critic, going by the screen name Bitfinex’ed, has written several very detailed essays on Medium arguing that Bitfinex appears to be creating Tether coins out of thin air and then using them to buy Bitcoin and push the price up.»
A recent anonymous statistical analysis of Tether published online and circulated in the crypto community made the same claim, saying: «It is highly unlikely that Tether is growing through any organic business process, rather that they are printing in response to market conditions.»
The report claims that the printing of Tethers tends to coincide with a dip in the price of bitcoin, suggesting it may be being used to buy up cheap bitcoin. «Tether printing moves the market appreciably; 48.8% of BTC’s price rise in the period studied occurred in the two-hour periods following the arrival of 91 different Tether grants to the Bitfinex wallet,» the analysis said.
$850 million worth of new Tethers have been printed in January alone and many market participants are worried about the pace at which new Tethers are being minted without proper documentation showing their backing.
Tether published an accounting document last September meant to verify its holdings but a lawyer told the New York Times that the phrasing of the document «did not prove that the Tether coins are backed by dollars.»
Accountants Friedman LLP prepared that document and were auditing Tether’s books fully, but news emerged earlier this week that the relationship has «dissolved.» This has further fuelled concerns.
What could it mean for crypto markets?
If there is a problem with Tether, it could have wider knock-on effects for the cryptocurrency market as a whole due to its central role in many exchanges.
«The issue is that the volumes against Tether have been growing lately,» Greenspan said. «They’ve been above 10% of total volumes on bitcoin for a few weeks already.
«If there aren’t sufficient reserves in US dollars, then the price of Tether should not then be pegged to the US dollar and it’ll just be decided by the market.»
The fear is that a collapse in the price of Tether could also bring about a collapse in the price of bitcoin and other crypto assets that people have been trading with USDT.
The Daily Express predicted a price drop of as much as 80%, calling it a «bloodbath.» Bitcoin fell modestly on the news Tuesday that the CFTC has subpoenaed Tether and Bitfinex.
If Tether becomes untethered from the dollar then it will also cause problems for exchanges that use it as a proxy for client funds. This could potentially create liquidity issues and, in a worst-case scenario, force them to seek extra capital. Wired wrote this week: «If traders lose faith in tether, they could end up triggering the crypto version of a bank run.»
What does the company behind it say?
Tether Limited has strongly denied all the accusations against it, insisting that it has the dollar reserves to back up all Tethers in circulation and saying it is using its funds properly.
The company said in a statement in December that it is aware of «questions and doubts throughout the community» but said it «cannot disclose much about ongoing investigations,» related to the hack in November.
It said that accusations it does not hold dollars to back up its cryptocurrency are «uninformed and baseless» but admitted that it «cannot create or redeem tether for any U.S.-based customers at this time.» The company has hired a law firm to take legal action against the person behind the anonymous Bitfinex’ed Twitter account.
Tether told Business Insider this week in an emailed response to questions about its audit:
«We confirm that the relationship with Friedman is dissolved. Given the excruciatingly detailed procedures Friedman was undertaking for the relatively simple balance sheet of Tether, it became clear that an audit would be unattainable in a reasonable time frame. As Tether is the first company in the space to undergo this process and pursue this level of transparency, there is no precedent set to guide the process nor any benchmark against which to measure its success.
«We remain committed to the process and, as we’ve consistently done, we will continue to provide material updates at the appropriate times.»
The company told Bloomberg in an email responding to the CFTC subpoena: «We routinely receive legal process from law enforcement agents and regulators conducting investigations. It is our policy not to comment on any such requests.»
What happens next?
«I hope that this whole thing gets shaken out as soon as possible,» Greenspan told BI. «The uncertainty isn’t very good for the market.»
After a huge price run-up before Christmas, the price of bitcoin has collapsed by around 40% in January. Other cryptocurrencies have seen similar retractions. While this slump is not driven by Tether fears, the issue comes at a jittery time for cryptocurrencies.
The next steps for Tether are somewhat unclear at this stage. Possible scenarios include further action from US regulators or Tether Limited engaging a new auditor to look over its books.
Nolan Bauerle, director of research at CoinDesk, told Business Insider he’s optimistic because Tether has issued new USDT since the CFTC’s subpoena in early December.
He said: «That means Bitfinex has issued Tether under the eye of the CFTC since then, which in important ways suggests the coin is indeed backed by USD. If Bitfinex has been issuing Tether not sufficiently backed by USD, despite being under CFTC monitoring, it’ll be one of the most brazen acts we’ve seen from an exchange in this space.»
Whatever happens, Greenspan is optimistic that cryptocurrency markets can survive it.
«Look, this market survived a blanket ban from China,» he said. «It can survive anything.»