Thread by @AnthonyLeeZhang

Here's a set of questions. It seems a large % of people believe Tether is insolvent, which I define as: Tether does not actually have enough USD to pay $1 for each USDT, if everyone redeemed at once

Questions:

1. Why is a USDT still worth $1, if Tether is insolvent? Why isn't it worth like $0.9, or the market's best guess at how much USD assets Tether actually holds?
2. Couldn't a hedge fund or someone "attack" Tether to exploit the fact that Tether is insolvent?

Here is what I think about 1. The key is that USDT cannot trade below $1, _as long as Tether allows you to redeem 1 USDT for $1_. The argument is super simple! If ever someone was willing to sell a USDT for like, $0.99, you could just buy it from them and redeem it for $1!

Thus, it's totally irrational, from a holder's perspective, to sell a USDT for less than $1. You literally have the option to redeem it for $1!

It's of course true that if _everyone_ does this at once, not everyone will get their dollars. But if only a fraction of people are worried about Tether, they would either redeem, or sell to others who are willing to hold at $1. Anything below $1 represents an arb opportunity

This is only true if USDT can actually be redeemed for $1! Once Tether actually suspends redemptions, then USDT's can trade at below $1, because you have no idea how much your USDT is eventually doing to be worth

Now, suppose you are a hedge fund and you think USDT is insolvent. Isn't there some way for you to attack Tether, the same way that say, Soros broke the Bank of England?

I don't see an easy way to do this.

- You could short USDT. But this is a very risky and uncertain-horizon trade. You have no idea when Tether is actually going to "break the buck" so it's entirely unclear when your bet pays off. Not a good bet for an HF

In particular, it's not entirely clear to me that that bet puts any pressure on Tether's solvency. Perhaps if you sell to ppl who then redeem USDs. I guess the best version of this bet is to borrow a bunch of Tethers, redeem them, and promise to pay the USDT's back later

OK, this strat probably generates some redemption pressure on Tether. You need to be able to source enough of these USDTs to borrow though, in order to do this. I have no idea how liquid the market for borrowing USDT's is

Simply buying and redeeming USDT's doesn't get you anywhere! You buy for $1 and redeem for $1. Maybe you eventually run Tether out of ability to redeem, but you don't make any money from doing so

Tether also doesn't have publicly traded equity, AFAIK, so a direct bet on the solvency of the equity layer also isn't available to anyone. Like, you can't short Tether the company rather than USDT's

Looking slightly more into the "borrow a bunch of USDT's and redeem" trade. I guess you'd have to borrow sufficiently many to redeem that you actually break Tether's redemption capability, which... well, Tether is $60bil and presumably has a nontrivial % in reserves

Also, I guess they could just say... no. At that point you're kind of solving a bargaining problem with them. Your profit relies on a nontrivial % of the redemptions actually going through, which ultimately logistically is in the hands of Tether to decide

So it's a tricky situation. Ultimately it seems to me that the thing breaks when a critical mass of USDT holders lose sufficient confidence that they en-masse want to redeem

It doesn't seem to me super easy for any motivated fund, even a fairly big one, to do much to accelerate the process...

I should have been much more precise about this definition admittedly

https://twitter.com/MaxResnick1/status/1418595380762140674

Probably a better definition has to do with the extent of the insolvency. Very silly mistake on my part, thx to @MaxResnick1 for noticing that

I'm not going to delete the thread as I think the point stands, besides my rather idiotic definition in the first tweet

Thinking about this a bit more, thx to others' comments: this kind of attack actually works not only on an _insolvent_ bank. It's actually sufficient that the bank is _illiquid_ i.e. has difficulting meeting a large amount of redemptions in a small time frame

Suppose a bank's deposits are tradable (and in particular can be borrowed and shorted). One could similarly attack a bank as follows

1. Borrow $1bil in deposit certs
2. Short sell $500mil for $500mil
3. Attempt to redeem the other $500mil with the bank for $500mil

The goal with 3. would be to "clog redemptions", causing the price of deposits to possibly go beneath $1

Then one could buy $500mil face value of deposit certs, at say, $0.9 each, for $450mil, return the borrowed certs, and make around $50mil. This potentially works even if the bank is solvent! Just by clogging redemptions and causing the face value of certs to decouple from $1

Core thing which makes this not happen for regular banks, I guess, is A. deposit insurance, B. hard to trade deposits of individual banks, and C. not a lawyer, but I think this kind of attack is potentially illegal?

Uh, obligatory, tweets are all hypotheticals/speculation, not investing or legal or other advice, etc etc