EXCLUSIVE How FTX bought its way to become the ‘most regulated’ crypto exchange

Nov 18 (Reuters) – Before it collapsed this month, FTX stood apart from many rivals in the largely unsupervised crypto industry by boasting it was the “most regulated” exchange on the planet and inviting closer scrutiny from authorities.

Now, company documents seen by Reuters reveal the strategy and tactics behind founder Sam Bankman-Fried’s regulatory agenda, including the previously unreported terms of a deal announced earlier this year with IEX Group, the U.S. stock trading platform featured in Michael Lewis’s book “Flash Boys” about fast, computer-driven trading.

As part of that deal, Bankman-Fried bought a 10% stake in IEX, with an option to buy it out completely in the next two and half years, according to a June 7 document. The partnership gave the 30-year-old executive the opportunity to lobby IEX’s regulator, the U.S. Securities and Exchange Commission, on crypto regulation.

That deal and others referenced in the documents, which include business updates, meeting minutes and strategy papers, illuminate one of FTX’s broader goals: quickly crafting a congenial regulatory framework for itself by acquiring stakes in companies that already had licenses from authorities, shortcutting the often drawn-out approval process.

FTX spent some $2 billion on “acquisitions for regulatory purposes,” the FTX documents seen by Reuters from a Sept 19 meeting show. Last year, for example, it bought LedgerX LLC, a futures exchange, which gave it three Commodity Futures Trading Commission licenses in one swoop. The licenses gave FTX access to U.S. commodities derivatives markets as a regulated exchange. Derivatives are securities that derive their value from another asset.

FTX also saw its regulatory status as a way of luring new capital from major investors, the documents show. In documents to support its ask for hundreds of millions of dollars in funds, it held out its licenses as a key competitive advantage. The “regulatory moats,” it said, created barriers for rivals and would give it access to lucrative new markets and partnerships beyond the reach of unregulated entities.

“FTX has the cleanest brand in crypto,” the exchange proclaimed in a June document presented to investors.

Bankman-Fried did not respond to a request for comment on questions about FTX’s regulatory strategy. FTX did not respond to requests for comment.

An SEC spokesperson declined to comment for this article. The CFTC also declined to comment.

In a text exchange this week with Vox, Bankman-Fried made an about-face on regulatory matters. Asked if his prior praise of regulations was “just PR,” he said in a sequence of texts: “yeah, just PR… fuck regulators… they make everything worse… they don’t protect customers at all.”

An IEX spokesperson declined to confirm details of the transaction with FTX, except to say that FTX’s “small minority stake” in IEX cannot be sold to a third party without its consent. “We are currently evaluating our legal options with respect to the prior transaction,” the spokesperson said.

PATCHWORK OF REGULATORS

FTX collapsed last week after a futile bid by Bankman-Fried to raise emergency funds. It had come under some regulatory oversight through the dozens of licenses it picked up via its many acquisitions. But that didn’t protect its customers and investors, who now face losses totaling billions of dollars. As Reuters reported, FTX had been secretly taking risks with customer funds, using $10 billion in deposits to prop up a trading firm owned by Bankman-Fried.

Four lawyers said the fact that Bankman-Fried was courting regulators while taking massive risks with customer funds without anyone noticing exposes a yawning regulatory gap in the cryptocurrency industry. “It’s a patchwork of global regulators — and even domestically there are huge gaps,” said Aitan Goelman, an attorney with Zuckerman Spaeder and former prosecutor and CFTC enforcement director. “That’s the fault of a regulatory system that has taken too long to adjust to the advent of crypto.”

A person familiar with the SEC’s thinking on crypto regulation said the agency believes crypto firms are illegally operating outside of U.S. securities laws and instead lean on other licenses that provide minimal consumer protection. “Those representations, while nominally true, don’t cover their activity,” the person said.

‘STEP 1: LICENSES’

Bankman-Fried had big ambitions for FTX, which by this year had grown to more than $1 billion in revenues and accounted for about 10% of trading in the global crypto market, from a standing start in 2019. He wanted to build a financial app, where users could trade stocks and tokens, transfer money and bank, according to an undated document…