Walled Garden and Bad Neighbours
Last month, Stefan Qin, the enigmatic founder of Virgil Capital, pleaded guilty to fraud in federal court in New York.
Qin had moved to the U.S from Australia in 2016 to launch Virgil Capital, which ran two cryptocurrency funds; the VQR MultiStrategy Fund, and the Sigma Fund (which the SEC ultimately confirmed was just Qin).
Over the years, he lured more than 100 investors out of $90m by claiming Sigma was using an arbitrage trading algorithm that took advantage of Bitcoin price differences across various crypto exchanges.
Instead of trading across the 40 different exchanges as he had claimed, Qin was siphoning investor money to fund his lavish lifestyle.
Warning lights started to flash for investors last summer when Qin was slow to redeem their withdrawal requests. Those who asked for their money back were rebuffed with e-mail replies claiming that the bank had delayed transactions between the two funds. Qin was also becoming increasingly difficult to reach.
By the week of Christmas 2020, the US Securities and Exchange Commission finally got wind of Qin’s actions and hit Virgil with fraud changes, as well as an emergency asset freeze.
Learning from failure
The Virgil Capital scandal is the latest in a string of elaborate cryptocurrency frauds to erupt, echoing events such as QuadrigaCX (2019) and BitConnect (2018).
For Boris Bohrer-Bilowitzki, Copper’s Chief Revenue Officer, Qin’s indictment begs an important question: “How many other similar frauds are currently playing out under the radar?”
He highlights that downturns in the economy often bring to light ongoing fraudulent activity (as investors seek access to cash in times of hardship) — or give rise to new frauds by those who come under intense pressure.
“Historically, the level of fraud and wrongdoing almost always increases during times of economic hardship. An industry like crypto, which still remains widely unregulated, has often become a hotbed for serious financial crime and mismanagement by bad actors. However, there are now solutions out there that would render a Virgil Capital-style fraud near impossible.”
One such solution is the Copper Walled Garden.
Since it was launched in 2018, the Walled Garden has been hailed as something close to a panacea for counterparty risk.
The Copper Walled Garden is the first independent end-to-end custody solution for funds that trade on multiple exchanges. It works by creating a wall that surrounds the custody and the exchanges on which an investment fund trades. Within the Walled Garden, transfers can be made frequently, rapidly and safely between custody and the intra-mural exchanges. Individually, neither the investment manager, the custodian, nor administrator could be forced by a criminal party to transfer the fund’s crypto assets from the exchanges, nor could any one party act on their own.
Circling back to Virgil Capital, Boris addressed that although the event is a scandal of mammoth proportions that shakes confidence in the industry at a pivotal time when institutional interest is at an all time high, there is a huge lesson to be learned.
“As a limited partner, I think it’s worth remembering that when assessing a fund manager, strategy and returns are secondary. The first question should always be to find out what infrastructure, systems and controls are in place to curb the misappropriation of funds. If there’s no walled garden, run away immediately.”