Rumors that Sam Bankman-Fried’s exchange and unofficially affiliated trading firm Alameda Research may be insolvent have been making the rounds in crypto circles for several days, but the community was still shocked when Binance CEO Changpeng “CZ” Zhao and Bankman-Fried announced the potential acquisition.
In the days leading up to the announcement, FTX’s FTT token took a hit after CoinDesk alleged in an article that illiquid FTTs made up the bulk of Alameda’s collateral. When Alameda CEO Caroline Ellison surfaced this weekend to say that Alameda held other assets that were not mentioned in the report, Zhao added fuel to the fire minutes later by announcing that Binance was planning to sell its FTT holdings. “As part of Binance’s exit from FTX last year, Binance received about US$2.1 billion in cash equivalent (BUSD and FTT)“, he tweeted. “Due to the recent revelations that have come to light, we have decided to liquidate any remaining FTT on our books“. Binance was the first investor in FTX and therefore held a large allocation in the firm’s native token. Ellison then publicly offered to buy Zhao’s allocation at an alleged $22 to signal to Crypto Twitter that the company was solvent.
Alameda’s woes continued, however, when FTT plunged on Monday, breaking crucial support at $21 despite repeated attempts by a whale to hold at that level. Alongside Alameda, rumors swirled that FTX might also be in trouble, leading to a bank run that saw $6 billion in capital leave the exchange in 72 hours. These events prompted Bankman-Fried to announce to his followers that FTX and its assets were “fine” in a since-deleted tweet.
The latest developments suggest that Bankman-Fried and Ellison may have misled their followers. Presumably, they were hoping to instill confidence in the market and prevent a “bank run“, just as Celsius CEO Alex Mashinsky, Three Arrows Capital co-founder Su Zhu, and Terra figurehead Do Kwon all posted reassuring messages to the community as they battled huge fires behind the scenes.
The market goes crazy
Zhao’s announcement of a potential bailout hinted at a possible turnaround for one of the largest crypto-currency companies, and both he and Bankman-Fried said the priority would be to ensure that affected customers were unharmed. Yet this has done little to allay fears in the notoriously volatile crypto market, and recent reports suggest that the buyout may not even happen.
FTT suffered a steep drop after the announcement and is now trading well below 10%. Per CoinGecko Data, it is currently changing hands for less than $4, down about 78.5% in the last 24 hours.
SOL has also suffered from the recession. Solana’s native asset traded as low as $16.50. on Wednesday after a 45.5% drop, leading a bloody market day on other Tier 1 blockchains. Many Solana DeFi tokens took bigger hits, while its NFT ecosystem is collapsing. DeGods, the biggest Solana collection of the year, saw its floor price drop 70% overnight.
Solana has publicly formed a close relationship with FTX over the past two years, and FTX has long been the leader in the token industry. de facto the exchange of choice for tokens in the Solana ecosystem. In 2021, Bankman-Fried became a sort of unelected spokesperson for Solana, helping it rise from $3 to an all-time high of $259 by supporting the project as its profile grew. Solana’s decline in the wake of FTX’s collapse is not surprising given Bankman-Fried’s frequent support at Layer 1, but his prospects are worsened by an upcoming token release that will see 54.4 million SOL released to the market.
Major crypto assets were not spared from the fall either. ETH has erased the gains it made in late October and early November, now trading at $1,171 after a 23.5% drop. Interestingly, however, ETH holders have something to celebrate as the asset has flipped into net deflation amidst the market panic. The combination of increased activity on the Ethereum network, the impact of reduced token issuance since the September Merge event, and the network’s EIP-1559 mechanism has added pressure on the supply in circulation, causing it to fall even as the ETH price drops.
Bitcoin has also fallen due to the loss of market confidence. It is currently trading at a two-year low around $17,024, slipping below levels reached in June following the liquidity crisis that affected Three Arrows, Celsius and other major lenders. Market participants spent much of the summer and fall debating whether the market had hit a bottom, and after today’s bloodbath, all eyes are on a daily close below June levels. A close in bitcoin below $17,600 would indicate a breakout, with the next crucial level being around $14,000.
Crypto stocks also suffered. Shares of Coinbase (COIN) fell 9 percent at the market open Wednesday, hinting at a loss of confidence in centralized crypto services. After the surges of the past 24 hours, the crypto market has fallen to $877 million, down 12.5% today and sitting at a fraction of the $3 trillion valuation the market reached just a year ago.
With FTX over, what’s next for the market?
Bitcoin remains the market leader in crypto-currencies; when the so-called “king” moves, the rest of the market tends to follow. Bitcoin’s drop to its yearly low is a bad sign.–if the top crypto fails to hold above this level, the market could suffer more in the future.
To make matters worse, beyond the impact of the FTX crisis, the Bureau of Economic Analysis is scheduled to release its latest Consumer Price Index report on Thursday. Inflation hit 8.2% in September, and if tomorrow’s numbers are hot, global markets may suffer. If the print shows that inflation has yet to show a significant drop, crypto is likely to take another hit. Inflation levels have been a key factor behind the dismal performance of the crypto market in 2022, as the Federal Reserve has embarked on an economic tightening policy to curb rising prices. The U.S. central bank announced its fourth 75 basis point rate hike of the year on Nov. 2 and is widely expected to raise the funds rate by another 50 basis points to 4.25 percent to 4.5 percent next month. The Fed has repeatedly signaled that it wants to see inflation hit 2%, and as long as the numbers are high, crypto could suffer. While investors have been hoping for a pivot, it could take a recession and a surge in unemployment for the central bank to change its stance.
With the bleak macroeconomic backdrop aside, it’s worth looking back at other similar events that have rocked the market, such as Terra’s $40 billion collapse and the subsequent Three Arrows explosion. Both of these events had a dramatic impact on the market and led to weeks of pain, as many major crypto-currency players were heavily exposed to both titans.
Like Terra and Three Arrows, FTX and Alameda were among the biggest players in crypto until their liquidity problems. Many large companies are exposed to these two companies, making a “contagion“similar and extended. Galaxy Digital previously disclosed that it has taken at least $29.3 million from FTX-related funds.
Some companies in the traditional finance world have also been exposed to the Bankman-Fried empire. While Binance was rumored to have agreed to acquire FTX for just $1, the company reached a $32 billion valuation earlier this year, attracting investments from SoftBank and the Ontario Teachers Pension Fund. To date, few pension funds or other traditional financial firms have invested in crypto-currencies; recent events should deter others from exploring this space anytime soon.
By 2021, the thesis of the “Supercycle” made the rounds in the media, with Three Arrows and others suggesting that the crypto had crossed the chasm and would likely not suffer the brutal pullbacks it had experienced in previous market cycles. However, the supercycle theory was disproved in 2022, and the latest downturn has given credence to the idea that bitcoin and the broader market could still experience further declines. Previous crypto-currency bear markets have not seen crypto-currency companies of FTX’s magnitude explode, and the abundance of leverage in the system has caused several other huge collapses throughout the year.
In the crypto winter of 2018, described by those who endured it as one of the most brutal periods in the history of the asset class, bitcoin suffered an 80% drawdown from its peak, while Ethereum lost over 94% of its value. An 80% correction from the November 2021 peak would put BTC at about $14,000 and ETH at its June 2022 low of about $800. As the history of the crypto-currency market has shown, such extreme volatility cannot be ruled out, especially in the midst of chaotic events.
Future challenges for the industry
Regardless of the outcome of the FTX crisis, it is abundantly clear that the crypto-currency industry will face enormous challenges due to the fallout. In recent months, Bankman-Fried has been lobbying Congress in hopes of bending government rules regarding the space; he was widely criticized by the community when he proposed a ruling for the DCCPA bill that would threaten the future of DeFi. With Bankman-Fried’s confidence damaged, regulators on Capitol Hill could take a tough approach to overseeing the crypto space. If FTX can go bankrupt, that means customers are at risk – something regulators want to avoid as much as possible.
Just as they did with Kwon, Mashinsky and the co-founders of Three Arrows, observers have speculated that Bankman-Fried could face jail time based on how FTX held its customers’ assets. While there are still many unknowns, rumors that Alameda was trading FTX accounts would undoubtedly put Bankman-Fried in hot water with authorities. The 31-year-old media darling also reassured his followers that everything was “fine” a few hours before it turned out that this was not the case; his efforts to cover his tracks by deleting his tweets certainly don’t look good.
The crypto winter of 2022 exposed more clearly than ever that the industry has a habit of glorifying unscrupulous figures. Bankman-Fried, Kwon, 3AC and Mashinsky suffered huge falls from grace and emerged as villains this year. Such events lead to a loss of trust as the community often becomes emotionally attached to industry idols, not to mention the financial losses. Celsius customers are still waiting for their funds after the lender froze withdrawals in June. In a worst-case scenario, FTX customers could also lose billions of dollars if the Binance buyout doesn’t go through. This would further shake market confidence after several other similar events.
After these events, Zhao proposed using Merkle tree technology to prove assets held by his company, and several other exchanges have since committed to using the same strategy to prove their reserves. It is likely that the oversight of centralized exchanges will become more stringent due to the demise of FTX.
Although FTX was only one centralized exchange, its gigantic size prior to its collapse does not bode well for other similar firms. Moreover, after a series of so-calledCeDeFi“, such as Celsius, who left their clients unable to access their funds when they became insolvent, recent events are likely to lead to a further decline in confidence in centralized services. “Not your keys, not your coins” has been a favorite crypto mantra since the devastating collapse of the Mt. Gox exchange in 2014, and the FTX event has drawn comparisons in terms of scale and potential impact on the industry. The events could lead to more crypto users taking charge of self-managing their assets, potentially setting the stage for the decentralized financial space to shine. Unlike FTX or Mt. Gox, crypto-currency users don’t run the risk of a centralized party gambling away their assets or shutting down and disappearing when they use DeFi, as everything is transparent and recorded on the blockchain. Still, it may take years for DeFi to be reborn or even for trust in cryptocurrency to return.
Out of adversity comes opportunity
While the drama surrounding FTX could negatively impact the industry for some time, it’s helpful to zoom out to see the bigger picture.
As the market has proven over the past 24 hours, bad news can impact crypto-currency prices, but bear markets can give investors the opportunity to accumulate fundamentally sound assets at a discounted price. Despite the negative news floating around, the promise of blockchain technology has not changed (in fact, one could argue that the events underscore the strength of DeFi).
As with the other events that posed an existential threat to the future of crypto, builders have not stopped building. Crypto has attracted some of the brightest minds in the world over the past 14 years, and there is good reason to believe that they will succeed in building a better future.
Crypto has historically rewarded patients.–and those who can withstand extreme price volatility. Crypto has overcome negative price action and bad news in the past.–and if history doesn’t repeat itself, it often rhymes. While it seems FTX is no more and the crypto winter persists, for those who plan to stick around, better days will come when interest in the technology returns.