Major competitor stablecoins USDC and Binance USD hold all backing assets in cash and government-backed treasuries, but Tether only invests half of its funds in this low risk manner, with the balance earning a yield that goes to the issuer, not the stablecoin holders that bear the risk.
Fir Tree, a $4 billion hedge fund, began looking at shorting Tether in July last year. It reportedly developed a way to short the coin while minimizing downside risk and maintaining a high payoff potential. It sees Tether’s $24 billion in commercial paper as the coin’s main vulnerability, believing much of it is connected to Chinese real estate developers.
Chinese property developer Evergrande has over $300 billion in liabilities and is undergoing the biggest state-led restructuring in China’s history. Tether claims it does not hold Evergrande commercial paper. However, it could own paper from other vulnerable Chinese real estate companies. Bloomberg’s Businessweek previously published a feature questioning the quality of Tether’s backing assets and struggled to find U.S. market players that had traded commercial paper with it. Fir Tree expects some of Tether’s paper to decline in value, causing a fall in its reserves. It believes its short position will pay off within 12 months.
As the largest stablecoin by market capitalization, there are concerns that it could negatively impact the entire crypto sector if Tether collapsed.
In February last year, Tether was banned from operating in New York state, and in October it received a $41 million fine from the Commodity Futures Trading Commission (CFTC). The penalty was imposed on Tether for making untrue or misleading statements about the reserves that back the stablecoin. Tether had claimed that its stablecoin reserves were backed by the “equivalent amount of corresponding fiat currency” held by Tether and “safely deposited” in its bank accounts. The CFTC discovered that Tether’s statement was only valid for 27.6% of the days over a 26-month sample period.
Tether is also involved in an ongoing legal battle involving data held by the New York Attorney General to keep the details of its backing assets private.