This year has seen more than its fair share of unexpected market meltdowns due to shocking revelations about poorly managed crypto projects. The latest seismic disruption is FTX, the world’s fourth-largest crypto exchange, which was considered an industry stalwart until early November.
“The immediate relief of Chapter 11 is appropriate to provide the FTX Group the opportunity to assess its situation and develop a process to maximize recoveries for stakeholders,” Ray, the new FTX CEO, stated.
Following a liquidity crisis, FTX, its sister firm Alameda Research, and 130 affiliated companies operating under the banner of FTX Group filed for bankruptcy on November 11, according to a company statement on Twitter. The report also stated that Sam Bankman-Fried, would step down and be replaced by John J. Ray III, with Bankman-Fried assisting with the transition.
The bankruptcy drama
The bankruptcy filing ended a turbulent week for FTX and Bankman-Fried.
At the heart of the problem is FTX’s native token, FTT, which has been decimated in a massive sell-off. The exchange attempted to sell a significant portion of its operating business to rival Binance in a rapid series of events that primarily unfolded on Twitter after a wave of withdrawals threatened to bring FTX down. But, almost as soon as Binance had offered its rescue package in the form of an acquisition, the company withdrew.
Regarding the potential acquisition of FTX by Binance and then all of a sudden stepping back, this is what SBF had to say:
The multibillion-dollar crypto exchange went from crypto leader to bankrupt in a few days.
“The FTX Group has valuable assets that can only be effectively administered in an organized, joint process. Therefore, I want to ensure every employee, customer, creditor, contract party, stockholder, investor, governmental authority, and other stakeholders that we will conduct this effort with diligence, thoroughness, and transparency,” John J. Ray III stated.
What happened to FTX?
Only a few months ago, FTX was valued at $32 billion. SBF, an MIT graduate, is one of cryptocurrency’s most well-known figures, a self-made young billionaire whose crypto empire once included FTX and investment firm Alameda Research.
Alameda Research’s mission was to act as a liquidity provider on FTX. So when Bankman-Fried launched FTX in 2019, he tweeted “Alameda’s incentive is simply for FTX to perform as well as possible”.
Until now, FTX had avoided the liquidity crisis that afflicted crypto earlier in 2022, when a wave of contagion rocked the market in the aftermath of stablecoin TerraUSD’s $60 billion collapse.
Bankman-Fried extended offers of emergency liquidity to crypto companies caught up in the chaos, much like governments bailed out banks that were ‘too big to fail’ during the 2008 financial crisis.
Bankman-Fried, styled as an altruistic superhero with the acronym SBF, stepped in as a lender of last resort to aid crypto firms such as Voyager Digital and Celsius as they went down the drain, and threatened to take vast parts of the crypto market with them.
“Never use a token you created as collateral” – CZ, Binance CEO.
Ironically, FTX was built on a similar house of cards to TerraUSD. FTX, like many other exchanges, supported its crypto token, FTT, which was designed to help fund its various projects.
Owners of FTT could use the token to get discounts on FTX trading fees or to earn income from their holdings by staking. It’s a common strategy—for example, Binance offers two native tokens, Binance Coin (BNB) and Binance USD (BUSD).
However, the way the token was used to support FTX left SBF’s empire extremely vulnerable to FTT volatility.
This week’s seismic events are linked to a CoinDesk story published on November 2 that questioned FTX’s solvency. According to CoinDesk, Alameda Research’s balance sheet was stuffed with FTT.
According to reports, the single largest asset on Alameda’s $14.6 billion balance sheet as of June 30 was “unlocked FTT,” with a $2.16 billion pile of “FTT collateral” ranking third.
This implied that Alameda and FTX were not separate businesses and that Alameda was equally exposed to FTT volatility. The major disadvantage of native tokens is that they are almost completely unregulated and can quickly succumb to market losses.
The FTT whales
Alameda Research was one of many whales with significant FTT holdings. Binance had a sizable stake in FTT as a result of an earlier deal with FTX. Binance sold its FTT holdings in response to the CoinDesk report, triggering a chain reaction.
The tweet sparked a rush on FTT and a flight away from the crypto exchange. As a result, FTT peaked at $78 in September 2021, up from around $24 before Zhao’s infamous November 6 tweet sent it crashing to less than $3.
“FTT was outweighed by the token’s declining value and the increased risk of total loss by continuing to hold it” says Josh Peck, founder of TrueCode Capital, adding “FTT, like Terra/LUNA tokens earlier this year, could become worthless in days”.
Binance’s Zhao effectively crippled FTX, and his November 8offer to save the troubled exchange vanished in less than 36 hours.
According to Bankman-Fried, there were approximately $6 billion in net withdrawals from FTX in the 72-hour period preceding Zhao’s offer. However, after Binance backed out of the bailout deal, the company halted all withdrawals and new customer onboarding.
FTX and Solana’s future
The liquidity crisis at FTX has poured kerosene on the cryptocurrency market, and contagion is spreading as crypto investors fear another shoe will drop.
Bitcoin (BTC) and Ethereum (ETH) have both dropped more than 20% in the first week of November.
Other prominent altcoins are also down. The most notable is Solana (SOL), in which Bankman-Fried has a significant stake. During the first week of November, SOL fell by a whopping 51%.
“Solana liquidations are based on the fact that FTX is a large investor in SOL tokens and may dump the assets to mitigate losses. However, the extent to which this can harm Solana is unknown,” says Miles Brooks, CoinLedger’s director of tax strategy.
SOL is a collateral asset that will most likely be liquidated as FTX/Alameda seeks to raise capital.
And, while everyone thought that FTX was too big to fail, Brooks concludes that “no crypto firm is immune to the turbulence in the crypto sector.”