WSJ: FTX Had a Backdoor for Alameda Research Worth $65 Billion

Several months before the collapse of FTX, a group of employees discovered a backdoor in the exchange’s code that allowed the Alameda Research trading subsidiary to have a negative balance of $65 billion. The story is reported by WSJ.

According to sources, the team reported the discovery to their management, which discussed the issue with one of founder SBF’s aides. The backdoor was not eliminated, and one of the concerned managers was fired.

It is anticipated that during the ongoing trial of SBF, favorable terms for Alameda will be discussed. Among the charges, prosecutors say the former head of FTX stole client funds by ordering “special features” in the software that gave the trading firm the ability to use the exchange as a credit facility.

According to court documents, investigators found a deeply hidden string in FTX’s code that allowed Alameda to have a negative balance. Ordinary users’ positions in such a scenario were liquidated automatically.

Who found the backdoor and what happened as a result

In spring 2022, a small group of employees discovered these software features. They worked for LedgerX — a platform for trading crypto derivatives, which the US unit of FTX acquired in August 2021.

The team studied the possibility of using the code of the main international exchange, registered in the Bahamas, in the United States, where regulatory rules are much stricter.

«Just wanted to note that there are currently a few places in the codebase where Alameda is, in one way or another, receiving special attention», — the publication quotes LedgerX employee Jim Oten from May 5.

Her supervisor, LedgerX’s chief risk officer Julie Shoning, responded that “on the offshore exchange there are looser rules”.

«But yes, we must tidy up such things», she added.

Earlier, a physicist with a PhD worked at the US Commodity Futures Trading Commission, where she analysed high-frequency trading and market manipulation.

According to WSJ sources, the team found a number of issues in risk-management and liquidation practices, including leniencies for Alameda.

Shoning reported the findings to her immediate supervisor — LedgerX’s head Zach Dexter. He discussed the liquidation issue with SBF’s inner-circle FTX CTO Nishad Singh. After the latter removed part of the code, Dexter deemed the situation resolved.

In early August, Shoning was fired. The stated reason was allegedly inappropriate messages she sent to other employees. Documents with their screenshots circulated among some FTX executives.

Sources say the posts were forged or taken out of context. They suggest Shoning irritated management by raising concerns about risk management.

In June, the FTX bankruptcy team said the company sometimes paid “informants who threatened to reveal the true fraudulent nature of the enterprise”.

According to WSJ, Shoning hired a lawyer and threatened to sue over the firing. The parties allegedly agreed to settle the dispute for $5 million. However, the deal could not be finalised before FTX’s collapse in November.

Singh pleaded guilty to fraud and is, as expected, to testify against SBF in court. Prosecutors say the former CTO knew about FTX’s special relationship with Alameda and helped implement the loophole in the exchange’s software.

What Bankman-Fried Might Admit

SBF denies all charges. Former head of institutional sales at FTX Zane Takket, in an interview with The Block suggested a possible line of defense for the founder on one of the main questions: whether he had unlawful access to customer funds or whether the collapse was caused by mismanagement.

He believes SBF will try to dazzle jurors with intricate technical details.

«I think he will argue that this was simply a spot margin loan — FTX clearly permitted such a practice. Then he will delve into the details of how that process operated, and how Alameda could borrow, given they had substantial collateral, throwing around figures like $100 billion,» Takket said.

He argues that SBF may also admit that “the margining systems were not as robust as they should have been”.

However Takket believes these statements will run into obvious contradictions. The exchange operated a system of discounts to prevent risk on any particular asset.

«Clearly, he knew what he was doing», Takket concluded.

During the third day of the trial, former exchange developer and SBF’s close friend Adam Yedidia testified, The Block reports. He described the automated system fiat@ftx.com for tracking client deposits at FTX. In fact, funds were held by Alameda in the bank account of its subsidiary North Dimension.

«I thought the firm simply held the money», he said.

Yedidia said that at some point after playing paddle tennis with SBF he asked if everything was all right.

«Last year we were incredibly reliable; this year, that’s not the case», he said, citing the founder.

The programmer added that SBF sought additional funding from Saudi Arabia or the UAE.

For the record, ForkLog told about the early days of the trial of the founder and former CEO of FTX.