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After the fall of what was once one of the

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largest crypto exchanges in the world fx other exchanges starting

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to feel the wrath of panic withdrawals,

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coin based crack and and other exchanges are showing their reserves

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and liabilities to instill some calm confidence back into the markets.

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Some industry leaders are calling for proof of reserves

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or requirement that exchanges show they have assets to match

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their liabilities.

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Yesterday,

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I spoke with Castle Island Ventures partner Nick Carter about

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his new opinion piece for coin as supporting proof of reserves

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and how it would work. Take a listen,

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the basic of a proof of reserve is cryptographically attesting to assets held.

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That part is very simple. So you

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uh sign a transaction showing that you have, you know,

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X amount of Bitcoin other assets.

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Um There's a number of ways you can achieve that that part is trivial.

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And then the other side of the balance sheet is the liability.

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So you just add up all the outstanding

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user balances on the exchange and you let those

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users verify that they're included in the liability set.

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And uh if both sort of numbers match,

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then you can have relatively good assurances that

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the exchange is fully reserved.

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Uh So, you know, exchanges, you know, if they're operating, normally,

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they should be able to do this without any trouble really.

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And so I, I think it's

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an absolute must at

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this point basically.

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So in reading your article, I noticed, you know,

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there was talk of proof of reserves after

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the fall of Mount Gox and other catastrophes.

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So do you think this is the one that could possibly push

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it over the edge and get crypto exchanges to do it?

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Yeah, I mean, it's been a history of false starts, stops and starts. So in 2014, a

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half dozen exchanges did proof of reserve.

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The technology hadn't,

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there wasn't a single procedure that people had sort of decided on back then

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and it fizzled out cracking. Did one. OK. Coin actually c he was CTO of OK.

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Coin at the time he did one

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uh believe it or not, a number of other exchanges did totally fizzled out then in 2021

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bit,

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brought it back crack and brought it back.

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Um Now I think there's basically no choice and you know,

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certain exchanges like coin based will say, well, we're audited,

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we don't need this.

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That's fine. Most exchanges are not audited public companies.

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Um I, I think basically to win back user trust,

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they are absolutely gonna have to do this and follow through on their promises.

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If not, I actually think there will be a regulatory push for it either way.

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So it can either come from the bottom up, it can come from the exchanges

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themselves, come from the industry or it can come from the state.

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Right. It can be a mandate.

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Uh I would much rather that it be done organically and spontaneously

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could proof of reserves have stopped the collapse of FTX.

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It doesn't stop fraud. Right.

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I mean, all the accounting in the world, uh, you know,

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Arthur Anderson accounted Enron, there's still fraud, right.

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So,

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if, um, if fraudsters are determined to commit fraud, they'll find a way to do it.

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Right.

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Uh However,

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FTX never really had obvious cold wallets that on chain.

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Uh, you know, forensic types could determine that this was always an issue with FTX,

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ask any, uh on chain analytics company or researcher,

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we could never identify the FTX wallets that was always a red flag.

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Um,

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FTX wouldn't have been able to do a proof reserve, right?

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Because they didn't have the reserves, they were lending them out to Alameda.

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Um And so that audit would have shown that. So they just wouldn't have done it.

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Uh, that would have been the same with Corier

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cord

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would not have, they wouldn't have been able to pass a proof reserve.

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Mount Gox would not have been able to pass a proof of reserve.

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So the way you find these things out is everybody that's honest does it

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and everyone that's dishonest doesn't do it.

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And so that way, you know, via negativa,

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uh, you know, by subtraction who is being dishonest basically.

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Uh, but no, I mean, it, it doesn't guarantee that you find the fraud,

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but it's very indicative if, you know, in a proof of reserve world,

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they're the only ones not doing it.

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I found it interesting that you talked about silver linings in all of this.

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And this is a, you know, we still have yet to

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feel the pain of what this class means for the crypto industry.

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At large 1 million creditors have been listed for FTX.

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But if we talk about silver linings, you know,

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SPF Sam

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Confed,

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the former CEO of FX was a very prominent presence in Washington DC

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trying to create a framework for crypto regulation.

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And you see this as perhaps something

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good

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in that he wasn't a good representative for the crypto industry

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for crafting regulation.

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And,

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but I do wonder could the regulation that he

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was trying to craft the especially the DC CP?

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Could that have prevented fx's implosion?

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Yeah, that's a great question.

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Um From my understanding of that regulation, it didn't say much about

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uh segregating client balances, uh ensuring reserves,

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maintaining uh deposit or seniority and liquidation.

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It didn't really have much of that common sense component to it.

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It was mostly about esoteric

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uh derivatives market structure. And

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so I don't think that would have been the

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regulatory rule that would have actually stopped this,

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what kind of regulation if any might have prevented this collapse,

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some of the legislation that's potentially on the table,

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let's say in the Republican House, who knows what's going to happen?

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The Digital Commodities Act.

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Uh There's other proposals out there to maybe

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give the CFTC direct oversight of spot markets

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to allow these exchanges to be onshore and competitive.

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Um You could even look at some of the state

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level legislation like the Wyoming Special Purpose Depositor Institution.

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That is a great template which actually includes a

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mention of proof of reserve by the way.

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Um So

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there are a few folks out there on the hill that are pushing this narrative. I

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happen to know that there is enthusiasm

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now in Washington to potentially even include

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proof reserve in some of this legislation as we enter the next session.

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So

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these ideas exist, they're out there. Hopefully we can move away from the DC CPA

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and move more towards actual consumer protection regulation.

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So

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the New York Times published an article about Sam Bakeman

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Fried after hours long interview on Sunday night past midnight,

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it's being criticized with some calling the interview a puff piece.

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What do you make of the media's role in all of this?

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I believe that the media is totally complicit in elevating Sam Banque Fried.

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I never saw an entrepreneur get

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a tech entrepreneur get as glowing a treatment in the corporate press.

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Um Sam was probably the most profiled entrepreneur

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in the mainstream press uh over the last couple of years

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and I think his uh you know, political activity and donations

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um and the fact that he was very different from most crypto folks that really helped.

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Um of course, we, we have our fair share of blame in the industry.

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You know, folks that were knew maybe a thing or two about FT I and

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uh you know, didn't criticize them harshly enough.

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I mean, obviously, most of the blame lies with the FTX leadership themselves.

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But I think the press is also to blame. They, they were derelict in their duty.

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They wrote mostly geographies.

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Um basically, just puff beef is about the guy now,

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even after the collapse and um didn't

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really do any real investigative work to determine

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uh where the money came from.

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Uh how they were able to grow so quickly and achieved so much prominence in DC. So

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uh the New York Times, maybe most of all is guilty. And um I'd love to see some,

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some reflection or some acknowledgement of that fact.

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Yes,

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I definitely think that there was some hero worshiping going on.

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I will say for coin's

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part that we,

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when we did write the articles critical of ALA research

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and FX such as the one revealing the balance sheet,

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we got huge pushback from the industry saying this was a hit piece.

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This was something planted by Binance, et cetera. When I asked, you know, him during

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our consent conference if he was front running traders

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through elementary research and you know, also going to his social policies.

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I also got a lot of blowback saying it was inappropriate to ask him these questions,

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et cetera.

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He's an invited guest. When I most of all, when I criticized do Quan

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and the sustainability of algorithmic stable coins.

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I got

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the lunatics after me en masse for daring to question the

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sustainability of the token mechanism.

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So I will just say that, you know, when the media does try

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to question

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the crypto industry,

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those who have an incentive to keep the tokens

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or keep their investments up really go after us.

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But

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Nick

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now that

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we have seen the fall of FTX, I mean,

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there are other exchanges out there that also have crypto native tokens.

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Do you predict further contagion either from other exchanges and

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the crypto lenders that

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FTX was in Alameda were trying to bail out?

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Yeah, the lender is certainly, I think we'll see a further wash out.

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I think it will be a continuation of what happened in the summer.

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I do expect further collapses there.

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Alameda was one of the biggest borrowers period

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among the exchanges.

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I think FTX was kind of unique in that they had this proprietary trading firm

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that was such a big portion of FTX.

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Really, they were co mingled, they were effectively one and the same

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and they were backed up by their own

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token which they printed out of thin air.

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Um, I don't see that exact scenario anywhere else,

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but I do see this issue with these exchange tokens where

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you have

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two cap tables, you have the exchange is own equity and then you have the token which,

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uh, is a dubious merit and value.

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And

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so I, I have always questioned the,

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the worth and the purpose of those exchange tokens

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regarding the solvency of other exchanges.

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I don't think FTX was the only one that was engaged in

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behavior, lending out user funds.

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Uh, the onshore us domiciled more regulated exchanges.

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I don't have any doubts about their solvency but the offshore ones that are

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in incorporating these tax havens where clearly

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the rule of law doesn't function well,

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where there's very little governance, little oversight.

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I would be skeptical of all of them.

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Uh, and I don't think FTX was the only one that was,

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uh, engaging in sketchy behavior.

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I'd be shocked to see all these exchanges pass a proof of reserve.

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Uh, I know they've all claimed that they're gonna do it.

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Uh, I don't know if they're gonna be able to follow through frankly.

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So I, I very much look forward to seeing the results there.