November 2022 is a month that investors, especially in cryptocurrencies, will never forget. And the worst could still come.
Over the past two weeks, the digital assets industry has watched in horror as FTX, the multibillion-dollar cryptocurrency exchange created by one of its biggest and brightest stars, Sam Bankman-Fried, imploded.
FTX’s failure shook the foundations of the entire ecosystem. Token prices plummeted across the board as investors scrambled to exit risky positions. Contagion followed. In a panic, depositors rushed to withdraw their money from various cryptocurrency platforms, forcing lenders to halt withdrawals – what one industry observer described as a “death clock”.
Overnight, Bankman-Fried went from hero to villain.
How did we get here? And can cryptocurrencies survive? The saga is far from over, but if you’re just tuning in, here’s what you need to know.
On Nov. 2, an article by cryptocurrency trading publication Coindesk cited a leaked financial document that raised questions about FTX’s relationship with Bankman-Fried’s Alameda trading house. On paper, they were two separate companies that were owned by the same man. But the Coindesk article said that Alameda “rests on a foundation largely made up of a coin invented by a subsidiary.”
A few days later, the head of FTX’s biggest rival Binance said the company would liquidate $580 million worth of FTT, FTX’s internal token. This unleashed a storm of withdrawals that FTX didn’t have the money to facilitate.
The panic has spread, piling up the value of not just FTT but more traditional cryptocurrencies including bitcoin, ethereum and solana.
FTX faced a massive liquidity crisis. It needed a bailout, and in short, it looked like it could be rescued by none other than Binance, its rival whose drawdown escalated the crisis. But Binance abandoned the bailout less than a day after announcing it, saying FTX’s problems were “beyond our control or ability to help.”
On Nov. 11, FTX and Alameda filed for bankruptcy, and Bankman-Fried stepped down as CEO of the exchange. “I fucked up,” he wrote in a lengthy apology on Twitter.
FTX has appointed restructuring expert, John J. Ray III, as CEO to lead what’s left of the company through bankruptcy.
This involves taking a cold, hard look at the company’s financials and figuring out exactly how much it holds in assets and liabilities.
It has only been a week and Ray has stated that it is the biggest mess he has ever encountered. It comes from an executive who made his name overseeing the liquidation of Enron, the largest bankruptcy reorganization in US history.
“Never in my career have I seen such a complete failure of corporate controls and such a complete absence of reliable financial information as occurred here,” Ray wrote in a court filing Thursday.
The filing contains evidence of colossal mismanagement and potential fraud that occurred under the leadership of Bankman-Fried.
Bankman-Fried has not been charged with any crimes. His attorney did not respond to CNN Business’s request for comment.
The cryptocurrency industry is on edge, waiting for the next dominoes to fall. In the immediate aftermath of FTX’s bankruptcy, cryptocurrency firms were inundated with inquiries from customers looking to get their money back, the crypto equivalent of a run on the bank. Several companies have been forced to suspend withdrawals as they sort out their cash flow issues.
“In the cryptocurrency world, the second you see a company or business announce ‘we are temporarily halting withdrawals’ – yikes,” said Daniel Roberts, editor-in-chief of Decrypt Media, a cryptocurrency-focused news agency. “Now you warn them about death… It’s unusual for someone to say ‘we’re stopping withdrawals’ and then say, ‘OK, resume withdrawals, we’re good.'”
Among the firms at risk is lender BlockFi, which said it has “significant exposure” to FTX. BlockFi has suspended most operations. According to the Wall Street Journal, the company is preparing for a potential bankruptcy filing.
The pain is not limited to cryptocurrency companies. Venture capital firm Sequoia has cut its $210 million investment in FTX to zero. Similarly, the Ontario Teachers’ Pension Plan, which invested $95 million, said it now believes the investment is worthless. Around 1 million others may have lost all the money they invested in FTX.
Binance, meanwhile, is stepping in as a potential lifeline for companies affected by the FTX crash. Its CEO, Changpeng Zhao, said on Monday that his team would set up “an industry recovery fund” for projects facing a cash crunch. Binance and others have been quick to differentiate themselves from FTX, assuring customers and investors that their financials are on solid footing.
Zhao, who calls himself CZ, told CNN’s Anna Stewart that an FTX-style crash is not a risk for Binance. When asked what he would say if all of his clients wanted to withdraw their money at once, CZ replied, “Yeah, no problem… We’ve always been profitable.”
At the heart of the entire saga is an enigmatic thirty-something who has managed to make his way into powerful circles dominated by celebrities, lawmakers and wealthy investors.
In recent years, SBF (as he is known online) has graced the covers of Forbes and Fortune, hailed as the Warren Buffett of the cryptocurrency world. He has amassed a vast personal fortune, estimated at $26 billion at its peak earlier this year.
All of that went up in smoke as FTX unraveled. His fortune has been completely wiped out and his companies are now under investigation by federal prosecutors in New York, according to a person familiar with the matter.
SBF had also become a fixture in Washington, where he traveled regularly to lobby lawmakers for greater regulatory clarity for the cryptocurrency industry. But since losing its companies, SBF has been tweeting erratically and telling a Vox reporter that all of its trips to Washington were little more than white hat posturing.
“F*ck regulators,” she told Vox in the interview, which was conducted via direct messages on Twitter. “They make everything worse.”
FTX said this week that its representatives have been in contact with “dozens” of federal, state and international regulatory agencies.
In addition to the Southern District of New York investigation, FTX is reportedly under investigation by the Securities and Exchange Commission and the Commodities and Futures Trading Commission, according to several news outlets.
Authorities in the Bahamas, where FTX is based, opened a criminal investigation shortly after the company filed for bankruptcy.
On Friday, a powerful House of Representatives subcommittee said it was seeking internal documents and communications from Bankman-Fried and FTX to understand how the cryptocurrency exchange collapsed so suddenly and what is being done to recover client funds.
In short, yes. But there will be much more pain.
“In the short term, the FTX crash destroyed confidence,” said Matt Hougan, CIO at crypto asset manager Bitwise. “The fringe cryptocurrency investor will now think twice before opening an account and many institutional investors will be sitting on the sidelines waiting to see what other shoes they drop.”
Many observers have likened cryptocurrencies to the dot-com bubble of the late 1990s: Many companies went bankrupt, but those that survived, like Amazon, emerged to become the cornerstones of the tech industry.
Another historical comparison that circulates is the fall of Lehman Brothers in 2008, which triggered a global financial crisis. Crypto optimists may be quick to point out that Lehman didn’t destroy all of Wall Street. Skeptics might argue that this is only due to US government intervention, a highly unlikely outcome in the largely unregulated world of cryptocurrencies.
“There are attempts to do this on cryptocurrency and sufficient regulation, but this disaster has nothing to do with cryptocurrencies per se,” said economist Pete Earle of the American Institute for Economic Research, a think tanks. “It’s about fraud and the power of virtue signaling.”
He added: “This scandal, far from destroying cryptocurrencies, practically guarantees that cryptocurrencies will be around for a long, long time.”