Last week, we reported that 700 Binance users are taking the crypto exchange to court in Hong Kong. On 19th May, the platform suffered from major technical flaws that resulted in potentially thousands of people being unable to take profits, close their positions, or trade in any way. As the markets plunged, largely in response to news from China that the authorities were to tighten restrictions on crypto services, Binance users collectively lost hundreds of millions – perhaps billions – of dollars. Accounts were liquidated and balances large and small were reduced to zero.
Binance’s terms and conditions, however, make pursuing recompense in the courts of law very difficult. According to the agreement that all Binance users sign upon opening their accounts, no single country in the world has jurisdiction over the company. The only place where it is possible to take Binance to court is the Hong Kong International Arbitration Center, where it costs $65,000 just to have a case heard. Binance also caps the amount of damages they can ever pay a client for any loss they incur. The company claims that the only client money that is recoverable is the small commission taken on each trade. A group of Binance users, backed financially by Liti Capital, are taking Binance to court in an attempt to recover their losses. They are seeking to challenge the terms of – what they see as – an unfair and legally impermissible contract that is designed to facilitate the evasion of responsibility.
This week at DisruptionBanking we spoke to some of the people behind this claim, to hear their stories and motivations for joining this campaign.
Nicholas is a twenty-two year old studying Management at York University in Toronto. He is a relative new-comer to the crypto markets, having only started trading in March this year. Nicholas was using Binance to educate himself on how the markets worked. He had been trading Binance Leveraged Tokens (BLVTs), an asset available on the Binance spot market. Each BLVT “represents a basket of open positions on the perpetual futures market” and is “essentially a tokenised version of leveraged futures positions.” They are advertised by Binance as a means of generating leveraged gains should the price of Bitcoin go up or down; a way of taking full advantage of potential gains whilst reducing the risk of liquidation when the price falls. This did not stop Nicholas from losing his tokens, though, when the Binance platform stopped working and his balance ended up at zero:
“I’m a BLVT token claimant. That was my area. I was only trading very small amounts, I ended up losing around $100. Mainly I was just trying to learn about it [the crypto markets] and figure out how it all worked. I was speculating on products like BLVTs to figure out how they work. It wasn’t something super major, but it was a very big surprise when they stopped working.”
For Nicholas, the (relatively small) amount of money he lost is not the primary reason for his involvement in this litigation. It is more his outrage at how a company can behave like this, the way he believes they are hiding behind legal obfuscation and expensive arbitration processes to avoid responsibility for its failures. Because of this, Nicholas has played an integral role in the organisation of affected Binance users, which was initially done via social media platforms Reddit and Discord. As he explains:
“Looking back now, the Reddit and Discord work we did might sound simple but it took a lot of work before we got any properly funded legal backing.
“Text channels on Reddit and Discord were set up to help affected claimants brainstorm their ideas. Discussion groups were hosted and phone calls to different claimants were made. During meetings with the Admin Group, I was responsible for taking notes and we worked on a strategy every time.
“To coordinate everybody better, I sent a weekly or bi-weekly email to serve as a running task agenda. Different people had different areas to focus on. At this stage I was mostly working internally between different time zones, different legal strategies and points of contact, and different investigative leads. We had a lot of information to deal with and it was important that everybody’s ideas were heard.
“At this early point there was a group of around ten to twelve of us. Since the start of July this has been whittled down to a core team of five or six. We worked, and are working, to make sure the group was focused and had a common strategy; balancing everybody’s different perspectives and contributions. This was probably the trickiest part. But by the end of June, we had between 500 and 600 members across Reddit and Discord.”
This is another fascinating example – following on from the GameStop saga earlier in the year – of individual traders using platforms such as Reddit to organise collectively. Individuals around the world, formerly isolated but now brought together by social media, are increasingly able to take on some of the biggest global institutions; hedge funds and crypto exchanges among them. The consequences of this shift in the power dynamic between consumers and corporations could be stark.
Nicholas is “just so passionate” about this claim that he has delayed finishing his university courses to work on the case. “Seeing everybody with their losses,” Nicholas says, “makes you realise that you’ve got to help out.” He remains certain that the technologies on which decentralised finance (DeFi) is based – like the blockchain – can “bring real value” to the world. But there are nonetheless “problems coming out of centralised exchanges like Binance that have nothing to do with the crypto markets themselves or the technologies” that Nicholas wishes to play a part in fixing.
In terms of the losses incurred, Fawaz is on the other end of the spectrum to Nicholas. He lost $6 million. A thirty-three year old working in the Canadian technology sector, Fawaz had built up this balance over years. It was liquidated completely by Binance as he watched on powerless. Fawaz explained to us what happened to him on 19th May:
“I’ve been in crypto for three years now and I’ve been trading for about two years. Whenever I trade I take very little risk and I build big positions. My trading style is not very active: I watch my positions like a hawk but I will sit on them for months. This particular position I had was open since January or February time and it was a pretty big one.
“19th May was obviously a very volatile day. When I first looked, the price of Ethereum had already gone down from, I think, the $3000s into the $2900s. $2700 is a big support level; it initially bounced from around that area but then that $2700 level was lost. I knew then that it was going to get very ugly.
“Open interest also went up as we lost that support level. I have been in crypto for a few years now and I know how this game works. Whenever open interest goes up, on a support level like this after a huge crash, it usually means that the crash is not done yet. And so I wanted to cut my positions right away as soon as I saw that.
“Long-story short, I was in the app from 12.00 UTC to about 12.50UTC and was not able to close my position. I tried pressing the close button, I don’t know, dozens of times. I couldn’t even put a stop loss in or take profit. I was completely locked down and couldn’t do anything to manage my risk or hedge positions. Eventually I saw myself get liquidated.”
Binance’s liquidation of accounts is a particularly controversial part of this claim. Fawaz was trading in futures, and in this market, positions are liquidated if the traded asset hits a certain level. This is of course a common feature of trading on any market. When a trader loses a large amount of their initial margin, and when the trade concerns a contract whose price is derived from an asset (not directly with an asset itself), brokers and exchanges will close the position entirely. But, Fawaz asks, how can it be right that his position was closed when he was taking active steps to prevent that from happening? How can Binance legitimately walk away with an account balance of $6 million when he had instructed sensible measures, in good time, to hedge his position?
Fawaz was one of the initial Reddit organisers of this group alongside Nicholas. One of the initial strategies the group decided to pursue was to contact regulators, the media and litigation firms in order to pursue Binance in the courts:
“We started by reaching out to regulators and the media. We tried the class action path but then we learned that we couldn’t do that because of the terms we signed up to. We thought that we were out of luck; we were confused for a few weeks and didn’t know what to do. But we knew that arbitration was a possibility given the contract with Binance. So I had to go out and find some investors for our arbitration and found Liti Capital.”
Like Nicholas, Fawaz makes a clear distinction between the principles that underpin decentralised protocols, and the rules that should govern for-profit companies such as Binance. Crypto exchanges have often relied upon the libertarian principles that many market participants in this space share. Fawaz suggests that they have taken these philosophies, which are wary of government or regulatory intervention, beyond their logical conclusions; using them as a means to avoid oversight whilst pursuing profit-making activities. In his own words:
“Decentralised protocols, like Uniswap for example, have governance structures. There are community governance principles. Binance is not a decentralised platform, it is a centralised company. There is no governance structure here, it is just the executives and their teams that are making the decisions. Whilst I don’t think that a decentralised protocol should be regulated – the community and community regulators should have the freedom to regulate themselves – a centralised company should be regulated, 100%. Assets like Bitcoin and Ethereum should not be touched by the regulators because their communities are self-governing. But for-profit companies must be regulated.”
Finally, we spoke to Kate in Sydney. Kate had been trading on Binance as a way out of some financial difficulties she found herself in. She has had an entire career working in technology, has been exposed to the blockchain for a few years, and considers herself to be naturally at ease with DeFi products. All her gains, however, were lost because of this technical glitch:
“I’ve been trading for probably a year and a half. To begin with I lost a bit of money but, as I began to learn more and do more research, I started to do very well. I’ve got a real thing for technology as I’ve worked in tech for a long time. I originally dabbled a few years ago when I first learned about blockchain technologies in 2017 but I bought in at the top. Anyway, I had a little bit left-over and then I lost my job. I didn’t just lose my job but had a major financial disaster. I had a start-up in the digital health area but I lost everything.
“I thought “what am I going to do?” I couldn’t get the same kind of work because of a whole range of stuff that was going on. So I decided to start trading, and began to teach myself technical analysis. I invested quite well and performed strongly with swing trading. I borrowed A$25,000 in the last financial year to grow my portfolio which ended up being quite significant.
“I started using Binance because I wanted to do some leverage trading and it is one of the only platforms that offers inverse perpetuals. I had a few hairy moments but developed a methodology that worked really well. By 19th May I had about $200,000. On that day I noticed that the market was getting more and more volatile.
“I had a DCA [Dollar Cost Averaging] in place which I thought would reduce the risk and cover any risk of liquidation. Being in Australia, the outages for me happened at the end of the day. Just before I went to bed, around 21.30 my time, I could see that it was starting to get a bit volatile. I noticed the platform on my app was behaving unusually – I didn’t think too much of it though because nothing had changed and the liquidation terms hadn’t changed. No warning messages came through. So I went to bed. Something woke me up a bit later; I checked my account and I had been wiped out. They liquidated my account and bought up my DCAs at the same time, something that had never happened to me even in previous flash crashes.”
Given her personal situation, this event has understandably had a big impact on Kate and her wellbeing. “You blame yourself”, Kate noted, “And it’s very hard. A lot of the people I’ve spoken to blame themselves. But abusive companies rely on people like me not standing up to them.”
Kate believes that companies like Binance have a responsibility to their clients, a responsibility that should be asserted in law. For many, trading on the crypto markets is their way of attempting to find financial security and prosperity for the future. For Kate it essentially became her job. To an extent, companies rely on such motivations to make money. The moral and legal questions this raises are profound. “There’s a lot of really disadvantaged people that are getting done in here,” Kate says. “For me this was my absolute future. I’ve been a single mother, I’ve been an entrepreneur and often I haven’t had much money. This was going to be my retirement plan because I don’t have a pension as such. This is the second time I’ve lost everything.”
Liti Capital’s case against Binance will be a landmark for the industry. Many believe that sound regulation is required to ensure that exchanges like Binance are overseen in a sensible way, and that their clients are properly protected. Of course, trading on the financial markets will always attract a degree of risk – the crypto markets more than most – but Liti will argue that transparent and reasonable mechanisms should be in place to avoid a repeat of 19th May. Regulatory oversight is uncomfortable for many people in this space, who believe instinctively that the DeFi community should be self-governed with minimal interference from government bodies or central agencies. But as Nicholas, Fawaz and Kate all argued, this is very different from regulating the actions of profit-making entities that use community resources for their own corporate purposes.
Regulation has not yet caught up with innovation in this space. Liti Capital, and the 700 people taking on Binance in Hong Kong, will now try to clarify and assert the legal responsibilities that for-profit companies such as Binance owe to their customers.
Author: Harry Clynch