As of August 31, 2023, FDUSD is predominantly backed by cash deposits (79%) and short-dated US T-Bills (20%) in segregated accounts.
A significant portion of FDUSD reserves is held as cash deposits. This is a concern as First Digital Labs does not disclose the names of the banks holding cash and we have no way to ascertain the financial strength of these banks, nor do we know if these deposits are insured against a bank default. Even if unlikely, a bank collapse could result in FDUSD becoming significantly undercollateralized.
Bluechip has made several attempts to seek more information from First Digital Labs but we are yet to receive a response.
For off-chain collateral, we rank storage methods as follows (highest to lowest):
With regulated custodians in reputable jurisdictions
With regulated custodians not in reputable jurisdictions (e.g, BVI, Bahamas)
Others / Undisclosed
FDUSD's reserves are held at regulated banks/financial institutions in Switzerland, Hong Kong, and Australia. However, without knowing the identities of these institutions, we have no way to assess their financial strength.
FDUSD reserves are held in segregated bank accounts held in the name of First Digital Labs through a custodian, First Digital Trust (a Hong Kong-registered trust service provider, and related entity).
Although the reserve assets held by the trust are segregated from the trust service provider’s assets and protected from its bankruptcy, the reserve assets may not be protected from the bankruptcy of the issuer or its holding company.
We draw attention to the following clauses from FDUSD’s Terms of Service:
Clause 3.8 – “FDD* Reserves are owned beneficially by FD121. While FD121^ may hold the FDD Reserves in interest-bearing accounts or other yield-generating instruments, you acknowledge that you are not entitled, whether by way of contract, trust or otherwise, to such assets or any interest or other returns whatsoever earned by FD121 or its custodian on FDD Reserves. As set out in Section 2 above, FDD is backed by an equivalent amount of assets held by FD121. For each FDD issued by FD121 and remaining in circulation, FD121 will hold either one Dollar or an equivalent amount of assets denominated in either USD or the currency in which the FDD is denominated in.”
Clause 3.9 – “FDD does not itself generate any profits, income, interests, payments or returns for holders of FDD and only represents your right to sell FDD for an equivalent amount of fiat currency which the FDD is denominated in through your account with FD121.”
The language used in the clauses above suggests that FDUSD reserves are not held for the benefit of FDUSD holders, but for the benefit of First Digital Labs (FD121). This is further corroborated by the FDUSD Reserves attestation report issued by Prescient Assurance.
According to their report “This Reserve Accounts Report refers to the account held and managed by a related party, being a public trust company registered in Hong Kong and a custodian for the Company (the “Custodian”, and the account being the “Custody Account”). The USD balance is custodied in the Custody Account for the benefit of the Company. In addition to the Custody Account,the Custodian has opened distinct accounts with separate institutions held under the Custodian’s name for the benefit of the Company”.
In our opinion, in the event of a liquidation process arising from insolvency of First Digital Labs or its holding company, the FDUSD reserves will likely not be isolated from other assets subject to liquidation and FDUSD holders would be treated as ordinary creditors of First Digital Labs.
We also believe that First Digital Labs’ use of a trust structure for custody of FDUSD reserves only protects the FDUSD reserves from the bankruptcy of First Digital Trust, the entity providing trust services, for the benefit of First Digital Labs. Therefore, we do not believe FDUSD is bankruptcy-remote from the perspective of FDUSD holders. Bluechip has reached out to First Digital Labs to seek information for justification of their claims but we are yet to receive a response.
*FDUSD is referred to as FDD in First Digital Labs' legal terms.
^First Digital Labs is referred to as FD121 in First Digital Labs' legal terms.