The cautionary tale of FTX and the future of bitcoin

By popular demand, today we consider bitcoin – and the amazing story that is FTX.

Gosh, this is some story – it’s difficult to know where to start. The more you dig in, the more that comes out. It’s a cautionary tale of the madness that engulfs crowds during investment manias and bubbles.

I’m sure many of you already know the story, but there are new developments every day, so I’ll recap it quickly before moving on to what it means for bitcoin.

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The story of FTX

Sam Bankman-Fried was a geeky young crypto “entrepreneur”, born to an upper-middle-class family in California. His parents were both professors at Stanford Law School.

In 2017 he set up the quantitative trading firm, Alameda Research (that would be trading based on mathematical models). Then, in 2019, came FTX, a crypto exchange that became phenomenally successful, phenomenally quickly.

In July 2021, barely two years into its existence, FTX raised a $900m series A investment at an $18bn valuation. Three months later it closed a $420m series B at a $25bn valuation, and three months after that, in January of this year, it raised another $400m. This time the company was valued at some $32bn.

To put those numbers in some kind of context, Barclays, Soc Gen and Deutsche Bank – banks that have been around forever – all have smaller market caps in the $20bn-$30bn range. To use another example, $32bn would be more than the UK collects in stamp duty, fuel duty or alcohol and tobacco duties in a year. It’s roughly five times what it collects in inheritance tax.

Bankman-Fried himself was worth $16bn, and at the age of 30 was on the front cover of Fortune magazine, along with a headline asking if he was “The Next Warren Buffett?”

FTX’s blue-chip and “smart money” investors included Japan’s SoftBank, venture capital firm Sequoia Capital and hedge fund Tiger Global. Even the Ontario Teachers’ Pension Plan put in $95m. (What has your pension fund manager been doing with your money?)

There were rumours of another $1bn raise in September. However, that didn’t materialise and the bitcoin bear market meant the tide was going out in the crypto industry. We would soon learn who had been swimming naked.

FTX suffers in the bitcoin bear market

Negative press slowly started to appear in the months after.

People started asking questions about FTX’s accounting and other practices. Short sellers also started taking notice. They usually expose frauds more quickly than anyone.

On 6 November an article at Coindesk raised doubts about the balance sheet of Bankman-Fried’s sister company, Alameda.

Changpeng Zhao, CEO of Binance (the world’s biggest crypto exchange), which had been an early investor in FTX, announced that Binance was selling all its FTT coins – as much as $2bn worth (FTT coins are part of the plumbing of the FTX exchange). The value of FTT started to fall.

Suddenly there was a scramble to withdraw assets from the exchange. It was thought to have the assets to back the liabilities, but it emerged that this was no full reserve exchange and FTX didn’t have the funds to meet the run.

(Watch the interviews with 28-year-old CEO Caroline Ellison describing how she doesn’t like stop losses. Turns out she had barely any risk management at all.)

Chain analysts soon realised that FTX didn’t have the funds to cover withdrawals. On 8 November, Bankman-Fried said he had “enough to cover all client holdings” and that “he doesn’t invest client assets”, but the run continued. That evening, withdrawals were halted.

In an attempt to restore confidence, Zhao and Bankman-Fried announced that Binance would be acquiring FTX soon after. However, the following day, Zhao said that having done his due diligence, Binance would not be acquiring FTX.

A day later, FTX filed for bankruptcy.

Easy come, easy go: Bankman-Fried’s net worth went from $16bn to zero in barely 72 hours. FTX had $900m in assets against $9bn in liabilities.

And then, the day after that, some $600m was hacked from FTX’s wallets and siphoned Lord knows where – Panama, Bermuda and Cayman, presumably.

As FTX unravels, stories start to emerge

Since then all sorts of stories have emerged. Weird sexual goings on at the companies. Bankman-Fried sharing the stage with Bill Clinton and Tony Blair. Flight-tracker apps showing private jets fleeing to jurisdictions where they can’t be arrested.

The contagion has spread to other crypto operators such as BlockFi which have halted withdrawals. Author Michael Lewis of Big Short fame has apparently already signed a film deal – he had been tracking Bankman-Fried for six months. (Surely he must have been aware of what was going on.)

FTX was the US Democratic Party’s second-largest donor, donating around $37m in the last cycle, and pledged upwards of $1bn if Trump were to run in 2024.

Heck, it’s even emerged that Ukraine had money with the business.

All the while, Bankman-Fried donated to what he considered good causes – and talked up his giving even more. He spoke endlessly about altruism and utilitarianism. His talks were peppered with motivational catchphrases, all delivered with geeky, beta-male sincerity.

Illustrating the uselessness of rating agencies (as if 2008 were not enough), and ESG, FTX was given a higher leadership and governance rating than Exxon Mobil.

Its brand has sponsored sporting event after sporting event – baseball, basketball, F1 – star athletes such as Tom Brady.

Rather like JP Morgan bailing out the markets in the Panic of 1907, Changpeng Zhao is now forming “an industry recovery fund, to help projects who are otherwise strong, but in a liquidity crisis”.

It’s all just extraordinary.

What does FTX’s collapse mean for bitcoin?

It’s worth remembering that in the Wild West that is this new financial technology we have been here before. Many times, in fact; most famously with Mt Gox. It’s hard to emphasise just what a big deal its bankruptcy was back then.

In 2014 Mt Gox was the biggest bitcoin exchange in the world, handling over 70% of bitcoin transactions, according to Wikipedia. When news broke that it had been hacked and it suspended trading, stopped withdrawals and filed for bankruptcy, the news precipitated an immediate 50% fall in bitcoin (from over $800 to $400).

This time around bitcoin has “only” fallen by 20%-25%, though other coins, Solana especially (FTX held a lot), have fallen by a lot more. The beneficiaries have been coins of which FTX did not hold vast quantities.

Fortunes have been decimated. Lives have been ruined. Many of the previous cycle’s crypto darlings are now headed for the scrap heap if they are not already there. The list of the top ten coins by market cap is already very different to what it was a year ago. It’s completely unrecognisable from the previous cycle.

But bitcoin carries on.

There will be many who cannot distinguish between the sound, inflation-hedged, censorship-resistant money that is bitcoin, other dodgy cryptocurrencies and psychopathic fraudsters, tainting one with the other.

There are many who will declare this the end of bitcoin. It won’t be. It’s a blow to bitcoin and crypto more generally. There will be a lot of negative press.

But remember just because criminals use the US dollar or cars does not mean all US dollar or car users are criminals.

Bitcoin will survive and grow.

Don’t keep your money on third-party exchanges. “Not your keys, not your coins” as the saying goes.

And if you are one of the people who wished they got in, but never did, now is probably not a bad time to dip your toe in. There is blood on the streets. As somebody richer than you or I once said, that is the time to buy.

Will this story mark the low? Nobody knows the answer to that, but let’s just say there is a lot more bad news priced in than good.

The next big line of support is around $12,500.