Over the past few days, I’ve been revisiting the story of the massive 2016-2018 crypto scam BitConnect for an upcoming project. One of my surprising takeaways is that, though BitConnect was a shady global network organized by anonymous masterminds and without any formal legal structure, in many ways it operated similarly to Celsius Network, the U.S.-domiciled corporate lending platform that recently froze customer withdrawals and then declared bankruptcy.
BitConnect was a global pyramid scheme that stole more than $4 billion through a network of “promoters” in nearly every country on Earth, and it did it by promising more or less the same thing as Celsius. BitConnect users sent bitcoin (BTC) to BitConnect, which then supposedly used sophisticated trading strategies to generate immense returns on those deposits – up to 365% a year. As should be obvious from that promised rate of return, it was a fraud, and both BitConnect’s creator (now known to be Satish Kumbani) and various lower-level promoters have been criminally charged.
This article is excerpted from The Node, CoinDesk's daily roundup of the most pivotal stories in blockchain and crypto news. You can subscribe to get the full newsletter here.
I’ll leave it up to the courts to decide whether the similarities between BitConnect and Celsius justify a similar legal response. But whether or not they were substantively criminal in their implementation, the shared elements unquestionably contributed to Celsius’ fragility and its ultimately predatory relationship to its “customers.”
Taking a closer look at those elements is critical for regulators who want to prevent similar cons, and for users who want to avoid getting robbed – whether intentionally or merely through incompetence.
The ‘risk-free trading’ myth
Above all, Celsius and BitConnect are comparable because they were promising effectively the same service to depositors. Both said they would use advanced market strategies to generate returns on customers’ behalf that were both outsized and, wonder of wonders, risk free.
BitConnect’s promise was certainly the more cartoonish and criminally deceptive of the two. In marketing materials, BitConnect claimed that its immense yields were generated by a “proprietary trading bot” that was so good it could time market volatility. There was never any suggestion that this trading strategy was subject to any risk that might cost depositors’ funds.
For even moderately savvy observers this was an obvious con, if nothing else because if such a strategy existed, inviting millions of strangers along for the ride would actually make it less effective – an almost tautological consequence of efficient markets. That’s what has happened to the real-world inspiration for BitConnect’s fictional trading bot, high-frequency trading (HFT) strategies. Those rely on volumes vastly in excess of what the crypto market could offer at the time, and a frenetic technological arms race that probably can’t be recreated in a crypto context. But even HFT returns have trended back down to earth as more traders use the strategy, highlighting the fundamental illogic of BitConnect’s pitch.
See also: 5 Social Media Crypto Scams to Avoid
Celsius’ promises were more realistic on the surface but similarly fragile under scrutiny. The platform promised depositors returns of up to 20% on deposits, and 8.8% on stablecoins like Tether’s USDT, while CEO Alex Mashinsky constantly downplayed any risk entailed by these strategies. Celsius initially claimed it could generate outsized yields by simply lending customer funds to institutions. Later, Celsius shifted strategy towards more plays on decentralized finance (DeFi) platforms, which led to repeated catastrophes and ultimately to the recently disclosed $1.2 billion shortfall in Celsius’ balance sheet.
The difference between BitConnect and Celsius here is clear, and hilarious: BitConnect knew it was making unrealistic promises and appears to have simply funneled the bulk of its victims’ deposits directly into organizers’ pockets. Celsius behaved as if it actually believed its own outsized claims, executed real trades to try to achieve them and imploded.
Celsius’ approach seems clearly less criminal than BitConnect’s – but also vastly more stupid.
Not your coins, not your yield
The second obvious similarity between Celsius and BitConnect is that both required depositors to hand custody over their assets to a third party, and let that third party do effectively whatever it wanted with those assets. Celsius used that carte blanche to make a series of terrible bets on customers’ behalf, while BitConnect simply walked away with the cash – but for victims that difference probably doesn’t feel too significant.
Because a cryptocurrency like bitcoin is effectively impossible to freeze, handing it over on trust is a great way to lose it. It’s also a sharp contrast to today’s DeFi lending and liquidity protocols, which allow users to “trustlessly” retain control of the tokens they earn yield on, including withdrawing or reassigning them at their discretion.
Roll your own token
Both Celsius and BitConnect issued their own token, and both leveraged their token to mislead users about the returns they were receiving.
BitConnect victims were required to first trade their BTC for BitConnect’s token, BCC. They could then deposit the BCC with BitConnect to receive yield. This yield was also received in BCC, and to realize their gains users had to sell that BCC on the market.
Incredibly, Celsius engaged in very similar behavior with its own CEL token. Though it was only one option for receiving yield, Celsius offered users higher average percentage yields (APY) if they accepted it denominated in the in-house currency.
Printing their own token made it practically free for both Celsius and BitConnect to pay out what looked like “yield.” Also in both cases, the rising U.S. dollar value of the CEL and BCC tokens motivated users to both accept payments in those tokens and hold the tokens rather than selling them off for BTC or another hard currency.
But that’s the essence of the trick here: Both CEL and BCC were rising in value because of rising customer interest in high returns. But those returns were at least partly paid in those tokens themselves. In other words, fundamentally illusory token value in both cases incentivized deposit demand that wouldn’t have otherwise existed.
See also: How Crypto Lender Celsius Overheated
That Celsius was allowed to do this, as a U.S.-domiciled corporate entity, may be the biggest sign that regulators were negligently asleep at the wheel during its expansion.
It wasn’t about crypto
The most counterintuitive takeaway from both Celsius and BitConnect is that neither was fundamentally a “crypto scam” in the most common sense. The risk in both cases was exaggerated not by the involvement of blockchains, but by their absence.
Both Celsius and BitConnect claimed their trading activities couldn’t be made transparent for essentially strategic reasons. BitConnect’s “proprietary” trading bot certainly would have been worth stealing if it had ever actually existed. Celsius’ veil of secrecy, similarly, wouldn’t be unusual in the worlds of hedge funds or money management – a profitable trade, particularly a profitable arbitrage, usually needs to be concealed so that other traders don’t copy it and erode or eliminate returns.
But neither entity was actually concealing genius trading innovations. BitConnect was hiding outright theft, while Celsius was merely obfuscating rank incompetence. For instance, in what now looks like an active disinformation campaign, Celsius ran its latter-day DeFi trading through a social media front known as 0xb1. Based on its volume, the 0xB1 wallet and identity was presumed to be a massively wealthy individual “whale,” and was only revealed as a proxy for Celsius funds after the platform’s collapse. And, surprise surprise, 0xb1’s activities appear to have effectively lost hundreds of millions of dollars in customer funds.
If the Celsius case finds its way to any sort of criminal action, it feels more likely to be related to unexplained individual acts, such as CEO Alex Mashinsky’s transfers of CEL tokens and other assets to his wife, than to the system’s overall design and misleading marketing. In part, Celsius’ confusing structure and rhetoric may actually help shield scrutiny, simply because it might take too much effort to convey to a jury.
But regulators who really want to protect savers from hidden risk or outright fraud should learn to pay better attention to obvious red flags. Maybe they’ll actually be able to stop it the third time around.
Or the fourth. Or the fifth.
We can only hope.
The leader in news and information on cryptocurrency, digital assets and the future of money, CoinDesk is a media outlet that strives for the highest journalistic standards and abides by a strict set of editorial policies. CoinDesk is an independent operating subsidiary of Digital Currency Group, which invests in cryptocurrencies and blockchain startups. As part of their compensation, certain CoinDesk employees, including editorial employees, may receive exposure to DCG equity in the form of stock appreciation rights, which vest over a multi-year period. CoinDesk journalists are not allowed to purchase stock outright in DCG.