Galaxy’s Alex Thorn Says Liquid’s Approved-Address Rule Didn’t Stop the Bitcoin Thieves

Liquid is a Bitcoin sidechain run by a federation of exchanges and companies that hold real bitcoin in a shared wallet, backing the L-BTC token that circulates on the network. On Sept. 6, according to an analysis by security firm CertiK, someone exploited a bug in Liquid’s software to create roughly 4,000 L-BTC that no bitcoin backed, then converted them into real bitcoin through the network’s own withdrawal system. The withdrawal took about 95% of the bitcoin pegged into Liquid, Unchained reported, and the sidechain was frozen the same day. Liquid said the parties responsible describe themselves as white-hat hackers.

Liquid does not let just anyone move bitcoin off the sidechain. Getting out means handing back L-BTC so the federation releases the matching bitcoin on the Bitcoin network, a swap Liquid calls a peg-out, and the network’s developer documentation says it requires a Peg-out Authorization Key: “Only users with registered PAK entries can peg out.” The stated purpose is to ensure that even if federation operators were compromised, “they couldn’t redirect user funds to attacker controlled addresses.”

The coins still reached an address controlled by the people who took them. Alex Thorn, head of firmwide research at Galaxy Digital, said on Unchained’s Uneasy Money podcast that the restriction never bound them.

Liquid’s documentation says most users cannot make that swap themselves, and that the general public goes through a federation member or an exchange instead. It names SideSwap and Bitfinex as examples: “The exchange handles the PAK and executes the actual peg out.” The customer hands over L-BTC and a destination address, and the documentation’s workflow table describes what they get back as “BTC to any Bitcoin address” after the next batch.

That is the route Thorn described on the show. SideSwap, he said, will “just let anyone show up with an address and withdraw from Liquid and just auto-forward it” to whatever address the customer supplies. He called it “doing an end run around the allow list,” and hedged: “I don’t know why or why this was allowed.”

CertiK attributed the inflation to “an ambiguous cache-key encoding in the rangeproof verification cache, allowing two different validation inputs to produce the same cached entry.” Its analysis says that let an attacker prime the cache and then spend against a proof the nodes never rechecked, creating “approximately 3,998.5 L-BTC, valued at $318.7 million at the time of the exploit.”

Both companies have said the withdrawal system itself held. Liquid said no key was compromised, including SideSwap’s, and SideSwap said the tokens were burned against a valid authorization and that its service had no way to tell those coins from any other L-BTC. The attackers have since returned 3,400 BTC and kept 598.5.

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