No Blessing Despite The Loop Hole

If a person steals unspun wool and spins it into threads for use as tzitzis, the threads are invalid for use as tzitzis: they are stolen property and do not belong to the robber at all. He did not acquire them by changing them from unspun wool into threads, because the change is reversible - from thread back to wool.

This is not the case if the owner despaired of its return or even if he did not despair, e.g. he bleached it with sulfur as explained in Choshen Mishpat 360:5-6. In this case the robber acquires the wool entirely. For even if the wool is still intact and is in his possession, he is required to return only its monetary value to the original owner. It may be considered as entirely his in every respect, and tzitzis made from it are therefore valid.

Nevertheless, he should not recite a blessing over such tzitzis, for he is not blessing Hashem, but blaspheming Him, because the tzitzis come into his possession through robbery.

(Shulchan Aruch HaRav, Orach Chaim 11:12)