The hype and mysterious disappearances of funds in cryptocurrency exchanges sound familiar. They echo of the lawless investment days in South Florida that resulted in people losing fortunes and schemers going to prison. Can we prevent a repeat?
Investors have seen more than $700 million erased from hard drives this year at two major cryptocurrency exchanges that said they were hacked. Total losses since 2014 are twice that figure, according to a Wall Street Journal analysis.
Because the companies and their computer-generated tokens are unregulated, there’s no way of knowing what happened to the currencies. Did thieves unlock virtual vaults with digital keys? Did exchange owners somehow lose the funds or commit malfeasance? The lines of civil and criminal responsibility are dimly lit in this peer-to-peer world.
This scenario should come as no surprise to those who lived in any one of the heydays of investor fraud in South Florida. A decade ago, nearly four dozen shops offered to buy and safely store precious metals for clients. The industry was lightly regulated, which attracted unscrupulous operators who generated $91 million in losses for customers. The most famous Ponzi scheme was Global Bullion Exchange, which accounted for a third of that amount.
Look back to the ’80s and you’ll find nearly the same scam with nearly the same name. International Gold Bullion Exchange, which became the largest retail gold dealer in America, stole $44 million from investors before it was shut down. To help perpetuate the fraud, organizers showed customers the glistening inside of a vault which appeared to hold their gold ingots. The fraud victims didn’t know they were looking at painted wood blocks.
We may be seeing a digital reprise of those schemes. Cryptocurrency takes many forms and has many names such as bitcoin, ethereum, komodo and, recently, KodakCoin from the camera company. Simply put, those digital coins are used in transactions and to verify the transfer of assets. These alternative currencies operate outside the control of any central bank or sovereign treasury department. Their exchanges store the coins.
Despite the warnings, people are still rushing to invest, just as they did in earlier decades when warning signs of trouble appeared. The number of users has increased fivefold to tenfold, depending on estimates, to 3 million or more. The rocket rise of Bitcoin late last year to nearly $20,000 from $800 helped boost interest.
The Securities & Exchange Commission appears leery of the exploding market. It is investigating initial coin offerings, according to a Feb. 28 Wall Street Journal article. Sarah Tavel, a general partner at the well-respected capital venture firm Benchmark, is also skeptical.
“A lot of these projects are going to collapse,” she told the online news organization Recode. “A lot of them have been complete scams.”
Anyone who joins the horde should proceed with caution. There is no FDIC, FINRA, SEC or other federal agency to protect account holders. Users of Blockchain.info, which started in 2011, were recently robbed of $50 million when Ukrainian hackers used Google ads to lead them to copycat websites. Youbit in Seoul collapsed in December reporting that a second cyberattack had drained it of reserves and its parent company filed for bankruptcy.
What happens when cryptocurrency coin holdings vanish into the internet? Some investors sue exchanges such as BitConnect and Coinbase. That’s not a panacea. Popular exchanges such as Japan’s Coincheck and Italy-based BitGrail lie outside the reach of American regulators and prosecutors. Litigation is expensive, time-consuming and rarely is legal action moved to U.S. bankruptcy courts.
People unfortunate or unwise enough to put money into a cryptocurrency exchange that fails may suffer the same fate as those who bought into the metals craze. They discovered that their dreams of riches were based on the illusion that what glittered was gold.
Joseph J. Luzinski is senior managing director and Alexandra Youngman is an associate of the South Florida office of Development Specialists Inc., a provider of management consulting, financial advisory and business restructuring services. They can be reached at email@example.com or firstname.lastname@example.org.
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