FTX's spectacular collapse has caused ripples throughout the crypto ecosystem. In fact, the damage is so severe that many question if the crypto industry can survive the event. Bitcoin and Ethereum prices moved sharply lower, Tether de-pegged from the dollar, and many other crypto projects have come under pressure.
Let's look at what happened at FTX and Alameda Research in November 2022 and its impact on the crypto ecosystem.
A Brief History
Sam Bankman-Fried, widely known as SBF, is an MIT graduate that briefly worked for a quantitative trading firm before becoming one of the biggest names in crypto. After founding Alameda Research in 2017, he made millions from Bitcoin arbitrage in 2018 and leveraged that success to launch the FTX crypto exchange in 2019.
By July 2021, FTX was the third-largest crypto exchange by volume, with more than one million customer accounts. At the same time, SBF launched a $2 billion venture fund that seeded other crypto firms and startups. He also sought to influence crypto legislation in Washington, D.C. and was even a leading donor to the Democratic Party.
The company moved its headquarters from Hong Kong to the Bahamas in September 2021, purchasing a $60 million office complex in April 2022. FTX and its executives were also spending lavishly in the tropical paradise, buying at least 19 properties worth around $120 million, including a $16.4 million property tied to SBF.
After problems with Terra and Celsius sparked a crypto sell-off in the Spring of 2022, SBF stepped in to save Voyager Digital and BlockFi with generous loans and lines of credit. These efforts prompted some pundits to compare him to J.P. Morgan, who helped privately rescue several banks in 1907, preventing a more severe panic.
Unfortunately, this high profile would make FTX's eventual collapse all the more devastating for the crypto industry.
SBF's carefully curated image quickly dissipated in November 2022 when it became clear that Alameda Research held a significant portion of FTX's native FTT token. Worse, FTX had allegedly sent at least $4 billion of its customer deposits to Alameda Research "backed" by FTT tokens and shares in the trading startup Robinhood.
Binance decided to dump its FTT holdings following the revelations, prompting a sharp sell-off in the token. At the same time, many FTX customers began withdrawing their money amid concerns that the exchange would face solvency issues. Binance initially signed a nonbinding letter to acquire FTX’s non-US businesses, but backed out after its due diligence period.
Ultimately, and not surprisingly, the run on FTX led to the rapid collapse of both FTX and Alameda Research.
After FTX and Alameda research declared bankruptcy in November 2022, a hacker stole around $477 million worth of funds from the exchange and began laundering it through bridges and mixers. At the same time, Bahamian securities regulators also seized some of FTX's assets, suggesting that there could be a lengthy legal battle over the assets.
On December 12, 2022, SBF was arrested in the Bahamas after U.S. prosecutors filed criminal charges against him. The U.S. is likely to make an extradition request in the near-term, although the full indictment remains sealed. Experts believe that the charges might include wire fraud, securities fraud, money laundering, and conspiracy charges.
Meanwhile, court documents suggest that the company has over a million creditors, with over $3 billion collectively owed to the top 50 largest creditors. But, there may not be enough to go around. Newly appointed CEO John Ray III said he had never seen "such a complete failure" of corporate controls and has no confidence in the firm's balance sheet statements.
It became clear that the collapse of FTX would also have a significant and lasting impact on the crypto industry.
Impact on Crypto
The collapse of FTX and Alameda Research had an immediate chilling effect on the crypto ecosystem. The price of Bitcoin fell from $20,000 to $15,000, while Ethereum prices fell from $1,500 to $1,200. Even Tether – the industry's de facto stablecoin – is struggling to maintain its peg to the U.S. dollar weeks after FTX's collapse.
The collapse in crypto prices has also had a knock-on effect. For example, BlockFi recently filed for Chapter 11 bankruptcy protection, given its exposure to FTX. And Genesis, a crypto lender, halted withdrawals to customer redemptions and new loan originations, suggesting that it may have liquidity problems.
On a deeper level, the failure of FTX and Alameda Research dealt another blow to an ecosystem already struggling to rebuild trust. Terra's collapse led to concerns over stablecoins; the Three Arrows Capital failure tanked one of the industry's most respected hedge funds; and now, FTX's bankruptcy shows that even blue-chip exchanges are no longer safe.
The move could also prompt regulators to crack down on the industry. For instance, the U.S. Senate already held an FTX hearing for December 1, 2022, where the head of the Commodity Futures Trading Commission (CFTC) testified on the matter. There, legislators are likely to push for answers about what went wrong and how it could have been avoided.
Ultimately, many of these problems arose from excess leverage, low liquidity, and loose oversight. These are many of the same problems banks faced in the past, which mandatory disclosures, reserve requirements, and other regulatory solutions have helped solve. The challenge will be reconciling regulation with crypto principles.
The Bottom Line
FTX's bankruptcy caused shockwaves across the crypto industry, given SBF's influence across politics, venture capital, and conventional finance. After an already-rough 2022, many experts are questioning whether the crypto industry will survive its latest casualty. At the very least, it will likely look very different as regulators crack down.
Those affected by the FTX implosion may be eligible to deduct some of their losses on their tax returns, but they may have to wait until courts decide how to distribute FTX’s remaining assets. The company has until March to submit a proposed plan for reorganization, meaning taxpayers may not see a deduction until 2023 at the earliest.
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