Somehow they were doing this while having audited financials, passing due diligence from major investors, etc.? And Sam was supposedly a great fundraiser but was circulating a balance sheet with a $8B line item for “hidden poorly labeled account”? I would find it pretty helpful for someone to explain what actually happened here because this violates my models of how the world works.

Mine too, so I went digging. All in all, one can argue (and lawyers are) that there were a lot of enablers. Certainly, people trying to actively dodge being noticed as they violate standard models, is a predictable (but not necessarily pin-pointable at the time) way our models end up failing us. 

For talk about audits specifically, there's this and this. Essentially, "the firm's auditors weren't tapped to look into internal controls at FTX, and auditing the internal workings of a company isn't a [legal] requisite for private corporations." Of course plenty of people feel that doesn't hold water, and a lawsuit by FTX customers is pending.
[Edit: A suit may be reasonable because audit firms know well they are commissioned to literally prove financial safety, and the audit was used in FTX's self-promotion. That FTX was still very unsafe might prove there is negligence in the firm's business model. If I try to make this fit my model of the world, I get a thought like "corporate greed incentivizes taking on clients that want useless/partial audits that end up being no better than shams, and you look the other way as you assist them in their likely sham". I reflect more on this in the footnote which you don't have to read but>>^[1]]

For talk about investors, there is this Feb 23rd piece on a major lawsuit against a few different VC banks who helped out FTX. That piece is frickin nuts just by virtue of the amount of info they fit into a mere 5 paragraphs. Here's one quote to inspire a read:

The suit alleges that some of world’s largest venture capital firms, including Sequoia Capital, SoftBank Group, and Thoma Bravo, learned through due diligence that FTX was a fraudulent scheme, but nevertheless incited the Fraud with billions in necessary capital, provided guidance and other support critical to the Fraud, and publicly promoted Bankman-Fried and FTX to keep the Fraud concealed until FTX could go public or cash out in a private sale

And of course there was internal assistance. I'd bet there were both (1) employees who knew what they were doing and (2) employees just following direction without realizing they were committing crimes or aiding in them. 

When it comes to improving models of how the world works, Zvi's piece had some good discussion of this (and much more!). It's long, but very worth reading even months later. Here's a section on VC:

If you are a VC investor or taking VC money, the optimal amount of fraud, from your perspective, is not zero. You are more excited to invest if you suspect a fraud, those kinds of founders make good and make dreams real for you. So what if sometimes it all blows up? This is a game of hits for you, and you are much more worried about being asked why you didn’t invest in FTX than you should worry about people asking why you were. This goes double for crypto. 

Notice this VC ready to invest in SBF again if he asked. Which, from a pure EV perspective, sure why not, same as they invested in Adam Neumann. 

Therefore, I do not view ‘the VCs didn’t catch this’ as much of a justification. They are not supposed to catch it. It is not their job to catch it. I mean, they are supposed to do some things to catch this level of fraud, demanding voting shares and a company board in which they have a seat and doing proper audits, but they got none of that, because [SBF] needed to not allow it and the pitch was so good otherwise they went along (or, they took this to mean ‘this is a fraud’ and invested anyway thinking they were not the sucker, also plausible). [If] SBF said ‘you can’t check for fraud, invest or don’t’ then they are doing what they do, as much as we might hate that. Better to make that common knowledge. [emphasis mine]

The institutional traders are different. They face a different risk profile. If the exchange blows up in 10% of years that is a real drag on returns, whereas a VC expects 80% or more of their investments to go to zero, fraud or otherwise. Why did they trade?

Some of them Did Not Do the Research, no doubt. Others likely decided it was worth the risk. If FTX is an easy place to make money, because trading is very good against Alameda and generally they treat customers great, and they pay interest on USD and BTC, it is not difficult to imagine a decision that the blowup risk is worth taking, at least for some portion of one’s bankroll. Or one can say that if FTX goes down everything is terrible anyway, it’s already systemic risk, so assume it won’t fail. 

Another play is to hedge the risk with a short position elsewhere, and put your leveraged longs at FTX since if FTX goes broke you would have gotten liquidated at Binance anyway.

[Note: There could also be a section about lack of regulation here. As commented on here. From a "how the world works" POV, it is the mother of all permissiveness that allowed the rest, especially the useless audits. Global heuristic = Pretty nuts how much can go wrong with a regulation gap. But FTX also maybe would have found  away around/already did break regulations so idk] 

Anyway, just thought that all might interest you. Thank you for sharing your insights. Really useful stuff.

1. ^{^}

   Interestingly, now the company has stopped offering crypto audits due to "changing market conditions". And I was going to say "good of them to notice that the bare legal minimum is not enough for one of the most volatile, least regulated assets the world has ever seen, eyeroll." But actually that auditor firm is starting up crypto audits again under a different name, sigh. It appears that they only stopped offering crypto audits because some non-crypto clients of the audit firm put pressure on them to do so. Those non-crypto clients felt that the auditor being known to audit crypto, might reduce the trust their potential clients/users end up having in their own commissioned audits. So it appears that, to make sure they can catch the most non-crypto and crypto audit contracts without one segment compromising the other, the auditors are just splitting them under two companies. I didn't see any mention of raising the crypto audit standards.

   Additionally, through this process. I found mention a couple times that there are other auditing firms who do a much better job, "The big 4", and it is sort-of business wisdom to downgrade trust in audits that aren't from them. I was very surprised at this! There are auditors that business-people know to trust less? Then why do they exist? I guess because most consumers don't know enough to downgrade trust? One has to wonder if the big 4 would have put their stamp of approval on FTX or even many of this audit firm's non-FTX-clients. Probably not, right? And it makes you wonder why companies would go to these known-worse-auditors, especially if they can afford the best auditing like FTX should have been able to, if they don't have something to hide. If the goal is consumer trust, and a company doesn't have something to hide, that company should go to the best auditors, those that in-the-know-consumers trust the most, right? And surely a "worse" audit firm like this one would realize that is how the selection effect cookie crumbles. So lesser-known auditors should expect they will likely get a slew of clients who are nowhere near as reputable as those who hire the big 4 audit firms. 

   Sooo I think it's easy to argue that the minor audit firm(s) are negligent or intentionally turning a blind eye somewhere in their business model. But it's more a problem of incentives of corporate America and low federal standards for private corporations allowing those incentives to play out in auditing contracts, than it is a problem of a single actor. Even though the single actor/auditor might know damn well that they will end up giving a scammer cover eventually, maybe even frequently among their really wealthy clients like FTX who could have afforded better-known services. It appears to be part of the business model, chronic not acute. And as long as the private corporation and auditor are following the law in reviewing the bare minimum, oh well?

Thanks for sharing your first-hand experience!

FTX’s new CEO has slammed their accounting practices, and I don’t understand why he would be incentivized to lie here

This is minor, but the more he paints a picture of FTX as a mess the harder a job it looks like he's taken on, the more slack people give him, and the better his efforts are likely to be judged in hindsight. I doubt he would lie as in "say things he knows are untrue" but it's very common for people to end up with somewhat self-serving beliefs.

EDIT: not saying their accounting practices were good! Just that I expect them to be less bad than if I took the CEO's statements literally.

Ben - thanks for this helpful information. It adds useful context to some of the FTX news.

One clarification question: in your Background section 5c, you suggested that '“EA leaders”... did not take enough preventative action and are therefore (partly) responsible for FTX’s collapse'

I agree that EA leaders might, in hindsight, have done a better job of distancing the EA movement from FTX and SBF, to protect EA's public reputation. However, I'm not sure how much leverage EA leaders could have had in preventing or delaying FTX's collapse. 

If EA leaders had privately challenged Sam's bad accounting, fraudulent behavior, etc, back before fall2022, would he really have listened and behaved any differently?  Would other FTX leaders or employees have behaved differently?

If a few EAs had come out as public whistleblowers questioning FTX's legitimacy, would any VCs, crypto influencers, crypto investors, major FTX depositors, or regulators have paid any attention? (Bearing in mind all crypto exchanges, protocols, and companies are subject to a relentless barrage of strategic or tactical 'fear, uncertainty, & doubt' (FUD) from rival organizations, short-sellers, 'mainstream' (anti-crypto) financial journalism, and 'legacy' (anti-crypto) financial institutions.)

These are honest questions; I really don't know the answers, and I'd value any comments from people with more insider knowledge than I have.

Your summary of the article's thesis doesn't seem right to me:

b. Even though those EAs (including myself) quit before FTX was founded and therefore could not have had any first-hand knowledge of this improper relationship between AR and FTX, they knew things (like information about Sam’s character) which would have enabled them to predict that something bad would happen

c. This information was passed on to “EA leaders”, who did not take enough preventative action and are therefore (partly) responsible for FTX’s collapse

I interpreted the article as arguing more that EA leaders should not have promoted FTX / Sam as a model to look up to, or aligned themselves with him, rather than that they should have somehow prevented the fraud.

The article has this to say about the knowledge and responsibility of early employees:

None of the early Alameda employees who witnessed Bankman-Fried’s behavior years earlier say they anticipated this level of alleged criminal fraud. There was no “smoking gun,” as one put it, that revealed specific examples of lawbreaking. Even if they knew Bankman-Fried was dishonest and unethical, they say, none of them could have foreseen a fraud of this scope.

... which really doesn't sound to me like it's blaming those early employees for what happened. If anything, they come across as the heroes of the story!

In contrast, what seems to be particularly highlighted in the article is Will MacAskill's association with Sam:

Even after Bankman-Fried left the board of CEA, he retained MacAskill’s support, both in public and private. In a 2022 interview on the 80,000 Hours podcast, MacAskill describes himself as “remarkably aligned with Sam,” and said the FTX Future Fund could be a “an enormous inflection point for EA.” FTX advertisements used the language of effective altruism. “I’m on crypto because I want to make the biggest global impact for good,” read one FTX ad, which featured a photo of Bankman-Fried.

So the thesis of the article seems to me more like, "EA leaders (esp. Will) should have known this guy was sketchy and stayed away." rather than "EA leaders should have prevented the FTX fraud."

I'm sorry to hear to join Alameda under the impression that it would be the opposite of what it became to be, like happened to so many others, is the reason you quit the company you had founded. I didn't know you stopped working at the company you founded to work at Alameda.

At the time, I thought you had maybe sold your stake in it or something so you'd have a lot of cash to donate while moving onto an opportunity to do way more good in some other job at the advice of 80k or whoever. I thought it seemed strange you had left the company you founded then, given that it seemed unlikely you could find that much of a higher-impact job that would outweigh the value of the money you could gain to donate if you stuck at Health eFilings for a while longer. I was sad you left the company at that point because it seemed to me you could've gotten more good done there. I was glad to hear you were hired at the CEA, though I felt like it was strange to learn about your exciting new job a few months after you stopped working at Health eFilings, when I thought it's something you'd want to tell the rest of us about right away.

In a way, I was right about all of that. I wish I had read this post when you first published it last year, though it's still interesting to be someone who has also participated in the EA community for that long and to know the fuller story now.