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Virtual Currency

SEC Alleges Texas Man Ran $4.5 Million Bitcoin Ponzi Scheme

 The Securities and Exchange Commission has filed civil fraud charges against a Texas man, accusing him of masterminding a Ponzi scheme using the virtual currency known as Bitcoin that promised annual returns exceeding 300%.  Trendon T. Shavers, 30, was charged with violations of federal securities laws for operating a digital hedge fund that offered and sold Bitcoin-denominated investments to thousands of investors.  Bitcoin is a peer-to-peer payment system created in 2009 that is popular among certain groups due to its promises of security and anonymity.  The Commission is seeking injunctive relief, disgorgement of illicit profits, and civil penalties.

According to the Commission, Shavers, known as Pirateat40 on popular Bitcoin Forum, began soliciting investors to park their Bitcoins ("BTC") in a digital hedge fund named Bitcoin Savings & Trust ("BTCST") in 2011.  Investors were required to "park" at least 50 BTC with BTCST, and in return were promised exorbitant returns of 1% daily with no minimum holding requirements.  When asked how he was able to achieve such lucrative returns, Shavers intimated that he was acting as a middleman for individuals who wished to purchase large quantities of BTC "off the radar."  Shavers later expanded on this explanation, saying

“If my business is illegal then anyone trading coins for cash and back to coins is doing something illegal. :)”  

When further asked about his profit margins, Shavers indicated that he achieved gross returns of nearly 11% per week, while paying out approximately 6%.  As the operation progressed, the minimum investment amount was raised to 100 BTC, and investors were permitted to re-invest their profits.  

In July 2012, the scheme was estimated to have raised hundreds of thousands of BTC, which then had an average price of approximately $7 per BTC.  However, Shavers announced in a post that the interest rate would decrease to 3.9% weekly beginning August 1, 2012, and began making preferential payouts to friends and longtime investors.  Later that month, Shavers declared default:

As much as I've tried to meet the deadlines within the community, there're conditions beyond my control which have escalated the process to the point it is today.  Bitcoin Savings & Trust has hereby given notice of default to its account holders.

The decision was based on the general size and overall time required to manage the transactions. As the fund grew there were larger and larger coin movements which put strain on my reserve accounts and ultimately caused delays on withdraws and the inability to fund orders within my system. On the 14th I made a final attempt to relieve pressure off the system by reducing the rates I offered for deposits. In a perfect world this would allow me to hold more coins in reserve outside the system, but instead it only exponentially increased the amount of withdrawals overnight causing mass panic from many of my lenders.

However, according to the Commission, Bitcoin Savings and Trust was nothing more than an elaborate scam that Shavers used to take in millions of dollars in BTC.  Shavers took in more than 700,000 BTC, returning approximately 500,000 BTC to investors through purported returns of interest or principal.  Of the remainder, Shavers transferred approximately 150,000 BTC - approximately $1 million based on the average price during that time period - to his personal account, which he used for a variety of unauthorized personal expenses including rent, car-related purchases, and gambling.  Shavers also attempted his hand at arbitrage, selling the BTC's for dollars and vice-versa, but suffered losses.

To date, the Commission has identified at least 66 "investors" that contributed BTC's to BTCST.  That number is almost certain to rise, perhaps exponentially, based on both the enormity of the scheme and the attention the operation attracted in Bitcoin Talk (see here).  While the total amount of losses have not been identified, it is assumed that those who received profits in excess of their original investment could face "clawback" lawsuits designed to recoup those excess profits to be distributed to investors who were not as fortunate.  

A copy of the Commission's Complaint is here.

For more news and analysis of Ponzi schemes, visit Ponzitracker, a blog by Jordan Maglich, an attorney at Wiand Guerra King P.L.

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