The FTX Bankruptcy: New assets, Old problem
Sam Bankman Fried's cryptocurrency empire has been dubbed a 'Lehman Brothers' moment by those in the industry with the collapse of both FTX and Alameda causing much dismay for some of the world's largest VC funds. FTX, the second largest crypto exchange, was valued at 32 billion dollars by its VC investors a few weeks ago, yet today it looks to be worthless.
The origins of all this can be traced to the moment when FTX released their cryptocurrency, FTT tokens. One of the most significant features of this token is that FTX has agreed to use a portion of its profits to buy back FTT tokens. This mechanism makes the token behaves reassembly a stock, as the probability of FTX increases, the more of FTT tokens will be bought back which pushing up the price of FTT ideally. Therefore, the value of FTT tokens is in-part determined by the revenue of the exchange itself. This positive correlation between the cryptocurrency and exchange creates hurdles to hedge the risks.
Fried founded Alameda, a hedge fund for crypto trading initially and established the FTX exchange afterwards for Alameda to trade on. This makes these firms closely interconnected to each other. Alameda was expected to have 14.6 billion dollars in assets at the end of June, while the portfolio contained 3.7 billion dollars of FTT and 2.2 billion dollars in FTT collaterals. Additionally, the liabilities side of the balance sheet is dominated by nearly 7.4 billion dollars of loans. The problem of portfolio occurs when a company uses its own equity as collateral on a loan. If the profitability of the exchange declines and the collateral backing its loans is also falling in value at the same time, it is precarious from a risk management perspective.
After the public release of Alameda’s balance sheet, CZ, the founder of Binance, announced on Twitter that we would liquidate all his FTT holdings due to the “recent revelations” in November.
CZ’s announcement and liquidation over FTT caused a series of plummeting in FTT value, provoking panic selling within the crypto market, with concerns of FTT becoming the next Luna tokens which collapsed not long ago. On November 8th, CZ announced that Binance had reached a non-binding agreement to acquire FTX and help recover the "liquidity crunch". Then on the following day, CZ announced that Binance would no longer be buying FTX because of corporate due diligence.
The top players in cryptocurrency are attempting to avert the chain reaction. Following the abrupt collapse of FTX, the industry’s biggest exchanges – Biance, Crypto.com, and others are all trying to reassure investors that their operations are not founded on equally unstable foundations. Despite this, investors are rapidly exiting digital assets, which causes further volatility in the market.
The convenience provided by social media, especially Twitter, has also played an important role in spreading drama. Through this medium, both SBF and CZ announced their agreements and published the limited information we had. But it also highlights once again that the industry's claim to decentralisation remains a myth. The link between FTX and Alameda shows how much of the cryptocurrency industry remains opaque, interconnected and highly concentrated among a few individuals.