A recent paper by a pseudonymous author has re-kindled speculation that Tether is either operating or facilitating a fractional reserve Ponzi scheme, on a massive scale.
The paper, entitled 'Quantifying the Effects of Tether,' employs a number of statistical tests to demonstrate the following assertions, namely that:
a) The issuance of new Tether tokens is directly tied to the price of Bitcoin;
b) Close to 50% of Bitcoin's price increase happens within the two-hour window after each batch of freshly printed USDT tokens reaches the Bitfinex exchange (which has been shown to be operated by the same people behind Tether Limited, the company responsible for issuing Tether tokens);
c) Deposit and withdrawal records from the major exchanges show that the flurry of Tether transactions taking place on Bitfinex, Poloniex and Kraken do not conform to Benford's Law (a tool commonly used in forensic accounting to detect manipulation and fraud), and are thus most likely not the product of real customer activity.
Interestingly enough, the only exchange that appears to exhibit some markers of organic transactional activity is Bittrex.
This is an interesting bit of information, because Jackson Palmer -- creator of Dogecoin -- has hinted at rumors that Bittrex might be running on a fractional reserve, and buying tokens from Tether Limited to fulfill investor demand for USDT on their own exchange.
Bittrex accepts US dollar wires, which it uses to credit a USDT balance on their users' accounts. So, it is at least conceivable that Bittrex could be crediting customer accounts with the full amount in Tether, while actually purchasing only a fraction of the tokens and pocketing the difference.
Most banks have been operating this way for centuries, effectively lending out $9 for each dollar in reserves, but this practice is widely frowned upon in the world of cryptocurrencies.
From a legal standpoint, as well, it would constitute a breach of fiduciary duty, and most likely result in regulatory and criminal action being taken against any exchanges engaging in this practice.
Fractional reserve, however, would be an elegant explaination for the frantic buying often observed during periods of heavy market turbulence.
It could very well be a large exchange like Bittrex requesting Tether Limited to issue new tokens, in a desperate attempt to acquire enough liquidity to cover flight-to-safety demand for USDT.
At the end of the day, and without access to Tether/Bitfinex's books, the theories outlined above are pure conjecture.
However, with more and more people, including journalist and author Nathaniel Popper, and economist Nouriel Roubini starting to sound the alarm, investors should brace themselves for periods of intense volatility over the next six months or so.
Personally, this whole situation makes me feel tremendously uneasy, as I don't know whom, or what to believe anymore.
If these allegations are true, then not just does this showcase an unprecendeted level of collusion between a number of prominent exchanges, but also could mean a market meltdown the likes of which the world has never seen.
