Could you imagine a 32-billion-worth company going bankrupt within a week? I guess no one could really see this coming, but it happened earlier this month, with the world’s second-largest crypto exchange–FTX–losing at least $1 billion of crypto funds from investors. (Our hearts go out to those affected.)
This story isn’t over. Some suspect that the worst has yet to come. But why did that happen? What went wrong? Here is what we’ve found for you!
The Rise of FTX: “The Crypto Saviour”
A Graduate of MIT, Sam Bankman-Fried (also known as SBF on Twitter) founded FTX in 2019, following the massive success of entering the crypto derivative market and leaping to be the second biggest crypto exchange within 2 years.
With investment from Silicon Valley and Wall Street pouring money into FTX, and celebrities promoting the exchange in ads, owning FTX Arena Stadium in Miami, everything seemed “LEGIT” at that time. Sam has successfully built a creditable name for FTX in the public eye.
What’s more, Sam solidified his reputation as “a crypto savior” by rescuing Blockfi and Voyager from bankruptcy earlier this year, giving away about a billion dollars. Seems like he was “the Next Warren Buffett” in the crypto space. Nothing could go wrong, right?
What Went Wrong? Starting From a Leaked Balance Sheet of Alameda Research
It all began with the CoinDesk news released on November 2, 2022, publishing a report on Alameda Research’s Balance Sheet as of June 30. It claimed that the Crypto trading company possessed $14.6 billion of assets, roughly $8 billion worth were FTX’s tokens (FTT).
Before the collapse, the total market cap of FTT was only over 2 billion dollars. This means even if Alameda wanted to liquidate the assets, it wouldn’t be able to reach the value it claimed to have.
Without any doubt, the panic selling began as investors knew Alameda’s value was purely made up of self-minted tokens. (Sam was the majority owner of both firms. He was literally printing money for himself.)
Alameda CEO Caroline Ellson tried to assure the investors after the report. She claimed that the leaked balance sheet was incomplete and Alameda had over $10 billion assets not shown in the information. However, the market didn’t buy her explanation. Traders kept selling and running away from FTX, and FTT started to plummet.
Binance Added Fuel to the Fire — The Catalyst of FTX Falling
On November 6, Binance CEO Zhao Changpeng (CZ on Twitter) tweeted that he would offload FTT tokens under the Binance book (equivalent roughly to $2.1 billion). Unavoidably, this sent the price of FTT to a new low.
In response to the tweet, Alameda Research CEO Caroline said they would gladly buy CZ’s sale at $22. However, it didn’t sustain the price as CZ didn’t respond to the offer.
Then, things started to get out of control. Massive withdrawal of a total of $4 billion caused backlogged withdrawal, which triggered further withdrawal requests. By November 7, the exit went up to 6 billion dollars. This was nothing less than a live bank run with a crypto exchange.
On November 8, the FTT token dived to around $4, and FTX was in an insolvency crisis. Binance once again stepped in and said it would bail out the exchange to protect users.
Yet, it was under a non-binding Letter of Intention (LOI), which means Binance has the right to cancel the purchase without any costs. On November 9, Binance withdrew from the deal, citing that FTX mishandled customer funds and that an U.S. agency was looking into the matter as part of its final effort to discredit FTX.
More Reports Revealing The Scene Behind
On November 11, Wall Street Journal reported that FTX is using customers’ funds in Alameda’s risky investment. On the same day, FTX told their customers that they could not get back their money due to the dropping value of the collateral, and Bankman-Fried resigned as CEO of FTX. Both FTX and Alameda filed for bankruptcy.
Reports also said that Alameda and FTX executives knew FTX was using customer funds beforehand. (They all knew it. How sneaky!)
What Now? Latest Updates of FTX Failure (As of November 16, 2022)
Post-Bankruptcy Drama: The FTX Hack
The story isn’t over with the file for bankruptcy. According to crypto analytics firm Elliptic, on November 13, 2022, FTX said it was potentially hacked, and more than $370 million worth of crypto funds went missing.
Where Is SBF Now?
SBF is now the target of investigations by the Securities and Exchange Commission (SEC) and the Justice Department of the U.S.. Reports state that he is now in the Bahamas.
The Contagion Effect of Companies/Exchanges
With the failure of FTX, many companies or exchanges lost their funds during the incident. This might spark a domino effect in financial institutions in the crypto space (even on Wall Street!)
Heavily-advertised Crypto Lender BlockFi has paused service for potential bankruptcy.
Just at the time of writing, Crypto-lender Genesis has suspended withdrawals. (However, it has yet to be confirmed as an insolvency.) But it is believed more exchanges will have insolvency problems.
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Contagion Aftermath in the Crypto Industry: Proof of Reserve
How did the failure affect the industry? The fallout has led exchanges or custodial companies to actively show their reserves as proof of their reserves for better asset transparency.
Exchanges and companies rushed to deploy the Merkle tree proof of reserves to prove assets reserve and restore credibility. (An independent third party performs a proof-of-reserve audit to ensure that the custodian’s assets are intact and stored as claimed.)
Previous Incidents of Crypto Exchanges Collapsing / “Rug Pulls”
Unfortunately, collapsed exchanges or “rug pulls” are not something new in the crypto space. Here is a list of the incidents:
Mt.Gox (2014)
Back to the historical time of crypto in 2014, Mt. Gox, the biggest crypto exchange at that time (handling over 70% of the BTC transactions), ceased operation overnight.
ICO Craze (2017)
Back to the famous ICO craze in 2017, many ICO projects gave empty promises. Still, millions of capital rushed to invest in those projects. In the end, most of them didn’t survive, and invested capital was gone.
NFTs (2021)
Like the ICOs craze, lots of NFT projects were published with freshly made products and anonymous management. Still, money kept on flowing into the scene and “rug pulls.”
Frosties NFT project promised huge plans for their investors, including a staking feature that would allow NFT owners to earn a share of the generated revenue, a metaverse game, and much more. However, investors discovered that the developers had deactivated all of the project’s social media accounts soon after the 8,888 pieces were sold out.
The scammers stole $1.3 million in total.
LUNA Terra (2022)
Another infamous Luna collapse happened this year, causing a total loss of nearly $45 billion. It was started because of the depegging of the stable token UST to Luna with a design flaw.
Celsius (2022)
Another “creditable” exchange filed bankruptcy in July this year, losing nearly $1 trillion from the market and ruining thousands of investors because of “poor decisions regarding utilizing the assets,” from Celsius co-founder and Chief Executive Alex Mashinsky.
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Battle of Crypto Legislation: Things That You May Not Know
Plenty of theories are circulating about the fall of FTX. Some say Binance has all planned to take down FTX because Sam is stabbing the crypto industry’s back with a legislative framework.
It’s no secret that Sam Bankman-Fried has donated $40 million to political campaigns this year. And some believe that Sam aims to gain bargaining power in crypto legislation to wipe out other opponents outside the U.S. and also put out a framework that the crypto industry didn’t support.
This is where Sam and FTX have become the enemy of the entire crypto space with how they work with the regulators.
Cryptocurrency was created to be a decentralized system in the first place. Some believe what Sam did was doing more harm than good to blockchain technology, and that’s why it was taken down.
Final Words: Those Who Stay Will Win The Game
Very often, we get too overwhelmed by the price movement. Still, cryptocurrency is not only a speculative tool that brings people rich overnight but also a revolutionary technology of the monetary system. In a broader sense, it was born to be the revolution of money, allowing the general public to get back the power to decide what money is. (That’s another rabbit hole. Let’s dive into it the other day!)
But I believe this technology is not going away. Those who stay in the game will win, as Apple, Google, and Amazon survived the dot com bubble in 2000.
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