Unreliable Person: How the Head of FTX Lost $16 Billion in a Matter of Days
The head of the FTX crypto exchange, Sam Bankman-Fried, has gained fame as the “savior of the industry”, helping other market players on the verge of collapse. Now his own firm has filed for bankruptcy, and the billionaire has lost $16 billion. Here’s how it happened and what awaits the cryptosphere now
FTX, one of the world’s largest centralized cryptocurrency exchanges, was valued at $32 billion in early 2022. The company was backed by well-known investors including US giants BlackRock and Tiger Global, Japanese investment bank SoftBank, and Canada’s largest pension fund, Ontario Teachers’ Pension Plan.
At its peak, FTX founder Sam Bankman-Fried was worth an estimated $26 billion. He earned a reputation as a “crypto savior” in the digital asset market. In the summer of 2022, after the collapse of the cryptocurrency market, Bankman-Fried actively supported crypto companies that found themselves in a difficult financial situation. He was even compared with the founder of the largest US bank JPMorgan Chase, John Pierpont Morgan, who at the beginning of the 20th century, along with other financiers, saved the American banking system from collapse.
Both the FTX crypto exchange and the Bankman-Fried trading company Alameda Research were considered the “stars” and “pillars” of the industry. However, in November 2022, investors in crypto assets were shocked by the news that FTX was on the verge of collapse and was trying to make a deal with the main competitor, Binance, and then filed for bankruptcy. In just a few days, FTX has gone from being a favorite of investors to arguably the biggest flop in the crypto industry, and has caused panic in the $1 trillion digital asset market.
Impressive start
Bankman-Fried founded Alameda Research in 2017 while still at trading firm Jane Street and doing arbitrage trading (buying an asset at a lower price in one market and selling it for a higher price in another). The company was created for arbitrage trading in the nascent crypto asset market.
According to Bloomberg, at its peak, Alameda Research was trading $15 million worth of bitcoin daily, buying it on the US market and selling it on the Japanese market at a 10% higher price. As a result, the company made a profit of $1.5 million, and in a short time, until the difference in the price of bitcoin in the markets of the two countries disappeared, the company earned about $20 million.
In the spring of 2019, the co-founders of Alameda Research launched the FTX crypto exchange and the FTT token on the Ethereum blockchain.
FTX catered to large traders by offering dozens of different digital coins to wager. In addition, clients could use complex derivatives, such as leveraged tokens or index futures, and receive margin loans. Traders could borrow 101 times their collateral and deposit cash as collateral (something FTX’s competitors didn’t allow).
By July 2019, two months after launch, FTX had reached $300 million in daily trading volume, up from an average of $1 billion in 2020. According to Bankman-Fried, the exchange’s revenue rose to $1.1 billion in 2021, and profits up to $350 million.
In October 2021, FTX announced that it had raised $420 million in its latest round of investments and was valued at $25 billion, although the company was worth $18 billion three months earlier. Representatives of the investment elite invested in the firm: BlackRock , the Ontario Teachers’ Pension Fund with $170 billion in assets, and Singapore’s Temasek sovereign wealth fund.
Interest in FTX increased amid growing excitement around crypto startups. Funds willingly invested in these companies as the demand for digital currency from private investors grew.
Thunder struck
At the beginning of November 2022, FTX faced problems that provoked a significant liquidity crisis in the company. It all started with the fact that on November 2, 2022, an investigation about Alameda and FTX was published on the website of the analytical platform CoinDesk.
The document stated that as of June 30, 2022, the majority of Alameda’s assets ($14.6 billion) were FTT tokens. As it turns out, Alameda is backed to a large extent by a digital coin issued by its own subsidiary (instead of well-backed independent assets such as fiat currencies or other digital money).
“It is strange to see that most of the net assets in the Alameda business are actually their own centrally controlled and printed out of thin air FTX token,” said Corey Clippsten, CEO of Swan Bitcoin investment platform.
After the publication appeared, worried investors began to massively withdraw money, fearing that any large sale of FTT could collapse the entire “crypto empire”.
Binance won’t help
On November 6, 2022, Changpeng Zhao (CZ), the head of Binance, the largest crypto exchange by trading volume, wrote on Twitter (the social network is blocked in Russia) that his company decided to sell all its remaining FTT tokens within a few months “due to recent revelations that have become known."
After this message, investors began to massively withdraw funds, the FTT token rate collapsed by 23%. According to Bankman-Fried himself, about $6 billion in various cryptocurrencies was withdrawn from the platform in 72 hours. Zhao himself later noted that he did not expect that his words would become “a straw that broke the camel’s back.”
As a result of a significant outflow of funds, the crypto exchange experienced a lack of liquidity, and Bankman-Fried was forced to turn to Binance for help. Zhao’s company on November 8, 2022, announced its intention to support FTX customers and acquire a troubled competitor.
With this deal, Binance would have become the undisputed market leader. By the evening of the same day, the value of the FTT exchange token had fallen from about $22 to $5 in 24 hours, that is, by more than 70%.
However, already on November 9, 2022, after a comprehensive corporate audit, Binance considered that they “could not help” the brainchild of Bankman-Fried - the company refused to purchase. Zhao’s firm also took notice of media reports of “misappropriation of customer funds” at FTX and alleged regulatory investigations into the crypto exchange.
People with knowledge of the matter told Bloomberg that the inquiries from the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission related to the liquidity crisis facing FTX. At the same time, the SEC review began a few months ago.
Following the news that Binance was pulling out of the deal, the FTT token, which had already dropped significantly in recent days, dropped another 32% in price to around $2.41. The American crypto exchange Kraken also refused to buy FTX. A similar answer was given by the founder of the Tron blockchain and one of the leaders of the Huobi exchange, Justin Sun.
The trap slammed shut
According to Reuters, FTX covered the losses of the Alameda trading company with client funds. Informed sources claim that Bankman-Fried secretly transferred at least $4 billion from the funds of the crypto exchange to the firm. These funds were backed by FTT tokens and shares of the Robinhood Markets trading platform.
Later it became known that FTX lent Alameda $10 billion of the $16 billion of crypto assets that clients entrusted to it, and the trading firm used these funds for risky bets.
FTX provided financial statements to investors on November 10, 2022. According to Bloomberg, the documents stated that the “crypto-savior” company had almost $9 billion in liabilities at that time and only $900 million in liquid assets. Most of the funds on the balance sheet consisted of illiquid tokens that fell in price. So, FTX held $2.2 billion in Serum tokens (decreased by 50%), $982 million in Solana (decreased by 16% in price), $616 million in MAPS cryptocurrency and $554 million in native FTX tokens (dipped by 40% and 67% respectively).
FTX announced the bankruptcy filing on Twitter (the social network is blocked in Russia) on November 11, 2022.
According to the announcement, FTX Trading Ltd., Alameda Research and 130 other affiliated companies initiated this procedure in accordance with Chapter 11 of the US Bankruptcy Code. This procedure will allow firms to obtain protection from claims from creditors during business reorganization and debt restructuring.
It was also announced that John Ray III was appointed as the new head of the crypto platform, and Bankman-Fried, who was considered “one of the most reliable people in the unreliable industry”, is leaving the post of CEO.
Bankman-Fried himself lost his entire fortune in a matter of days. According to Bloomberg, the volume of its assets has collapsed from $16 billion in the first decade of November 2022 to almost zero. Based on the Bloomberg Billionaires Index, the value of FTX’s US business is currently estimated at $1 (Bankman-Fried owns about 70%), up from $8 billion in January 2022. At the same time, it is possible that the entrepreneur owns other assets that are not tracked by the index.
Disaster for everyone
Following the bankruptcy announcement, FTX temporarily suspended operations from another crypto exchange, Hong Kong-based AAX. “Due to an outage by our third party partner, some users’ balance data was found to be incorrectly recorded in our system,” the company said in a press release.
According to AAX Vice President Ben Caselin, the FTX situation has put enormous pressure on exchanges around the world, as users are nervous about exchange assets. “Restoring market confidence could take months,” he warned.
Industry insiders have compared FTX’s crash to the “Lehman moment” in 2008, when the collapse of an investment bank triggered “shock waves” around the world. The consequences of the catastrophe in the crypto industry are obvious, notes CNN. The prices of digital currencies fell again as the crisis gripping the market only intensified on November 12 and 13, 2022. Bitcoin, the most popular cryptocurrency in the world, has fallen in price by about 65% in 2022. According to CoinDesk, on November 14, it is trading at about $16.5 thousand. Analysts do not exclude that the price may drop below the $10 thousand mark.
The situation is a little better for another popular cryptocurrency, Ethereum, which is trading at around $1230 on November 14, 2022. Due to the collapse of FTX, one of the largest and most influential players in the industry, the price of Ethereum fell by more than 20% in just a week (data from the CoinDesk platform).
From November 11 to November 13, 2022, the capitalization of the global crypto asset market decreased by 3%, from $856 billion to $831 billion. According to Coinmarketcap, since November 1, 2022, it has fallen by 18% from just over $1 trillion.
“The relative stability that has been observed in the crypto market in recent months has been broken,” says David Duong, head of institutional research at the Coinbase platform. “We see a lot of market volatility despite some positive macroeconomic developments for risky assets overall.” He recalled that while it turns out which counterparties could provide loans or interact with FTX or Alameda, and what are the exact amounts of debt. According to Duong, further developments in the crypto market will lead to a drop in the price of bitcoin to $13.5 thousand.
The head of the Swedish fintech Klarna, Sebastian Semyatkovsky, fears that the collapse of FTX could lead to excessive tightening of regulation in the financial industry and this will make it difficult for fintech firms to compete with traditional lenders.
The situation with FTX not only may prompt regulators around the world to tighten the screws, writes CNN. Some businessmen have already said they would welcome a thorough investigation if it helps restore faith in the industry.
“We have seen some real madness in the industry in the last week, so we really need some rules,” Zhao said. In his opinion, comparing the current crypto panic to the 2008 global financial crisis “is probably an accurate analogy.”
“Everyone is a bit in shock,” says Shang Zhong Fok, co-founder of Hong Kong-based crypto investment firm Moonvault Partners. “A lot of people trusted FTX as the gold standard.” He compared the collapse of FTX to the financial manipulation scandal that led to the bankruptcy of US energy company Enron in 2001.
According to Fock, the collapse of FTX will alienate institutional investors from the cryptocurrency space. Although some people will continue to work on interesting projects in this area, it may take years to restore faith in the sector’s future. In addition, the FTX story is likely to encourage regulators to tighten the screws. This will increase costs for crypto firms that manage to survive the current crisis.
“This reinforces the idea that any financial enterprise needs to be carefully regulated,” adds James Malcolm, head of currency strategy and crypto research at UBS. “Probably by 2024 the whole world will look much more orderly and secure.”
Meanwhile, Binance is launching a fund to recover crypto projects facing a liquidity crisis. According to Zhao, this will help prevent the domino effect that the FTX collapse threatens the industry. More details are expected to be provided in the coming days. The fund is open to industry co-investors, said the head of Binance.
Tron crypto platform founder Justin Sun promised that Tron, crypto exchanges Huobi Global and Poloniex will support Binance in its initiative.
Sources: Bloomberg, The Financial Times, CoinDesk, Reuters, The Economist, CNBC, СNN