From Riches To Rags: The Story Of FTX’s Fall From Grace
Not many can say that they’ve gone from multibillionaire to becoming essentially worthless in a matter of days but then again, not many have a story quite like Sam Bankman-Fried (SBF). FTX’s spectacular fall from grace is possibly one of the biggest financial frauds in history and we’re still uncovering what exactly happened.
Through the anger and frustration, lies the million dollar question of whether or not we can trust cryptocurrency investments and centralised finance has resurfaced. And of course, the most burning question of all: why the fuck does this keep happening?
To answer this, we need to go back to the beginning.
The Inception of FTX Trading Ltd
The year was 2019 and the cryptocurrency market was flourishing— SBF had launched FTX in May with his partner Gary Wang after the success of his 2-year-old trading house, Alameda Research. It didn’t take long before FTX became one of the most popular crypto exchanges around. One of the main attractions for FTX was that it allowed risker trades vs. other exchanges and charged extremely low trading fees.
With an average trading volume of $10 billion daily and over a million registered users, FTX became the 2nd largest crypto exchange in the world, right behind Binance. Alameda Research played a huge role in enabling FTX to become a household name in the crypto world so quickly. By the time FTX was incorporated, Alameda had already established itself as a ‘crypto whale’. Put it this way: Alameda could move and shake markets because it owned a significant portion of all crypto on every exchange.
The White Knight Of Crypto
FTX climbed to the top fast and part of its success was owed to its carefully curated image. FTX had earned a reputation as the ‘white knight’ of the crypto space because they helped bailout companies like Voyager and BlockFi. And when you have a company that’s willing to spend billions to rescue fellow industry players, it fits nicely into that narrative of them being one of the good guys.
SBF himself had built this image of a down-to-earth CEO that dressed casually and preferred to drive a Toyota Corolla even though he was worth billions. He was a major proponent of “effective altruism”, a philosophy that encouraged people to use their resources and time to do good in the world.
With this do-gooder image, the last thing anyone expected was for SBF and FTX to be behind one of the biggest financial scandals of all time. And that’s exactly how they got away with it.
Too Big To Fail
It only took FTX 3 years to become deeply rooted in the crypto ecosystem, so much so that the concept of them being “too big to fail” started to come to mind. FTX’s investments comprised of more than 200 investments, which formed a broader part of the crypto ecosystem.
Some of those projects included Yuga Labs, the creator of Bored Ape Yacht Club NFT, which is arguably one of the biggest NFT projects around. Alameda was also part of the seed round for 3Commas, an automated crypto trading bot platform that currently has more than 220,000 active monthly users.
With its reach spread far and wide into the crypto community, if FTX were to take a hit, the impact would ripple throughout the crypto sphere.
The FTT Problem
Shortly after the incorporation of FTX, FTT (the company’s native token) was created. Crypto tokens are made up all the time and while they usually offer some benefit to holders, their true value is driven by speculation. In the case of FTT, holders could benefit from discounts on trading fees and staking rewards from FTX.
The token served as a loyalty system for holders. But because it was essentially created out of thin air, its price represented investor confidence in FTX. While on the surface it looked like the FTT token was hugely successful having reached an all-time high of $84.09 just 2 years after its launch, this couldn’t be further from the truth.
Alameda had acted as the main market maker for FTT from the beginning. According to researchers at Nansen, on-chain evidence suggests that Alameda was one of the earlier liquidity providers for FTT in May 2019 when the token was first launched. What’s crazier is that 86% of all of the FTT supply was controlled by FTX and Alameda, meaning that only a very small percentage was left circulating in the open market. This has made the tokens very illiquid and susceptible to price manipulation.
Here comes the kicker: Alameda borrowed billions in customer funds from FTX and used FTT as collateral for those loans. While there’s multiple problems with this, the most glaring one is that FTT’s value could plummet, making the collateral insufficient to cover the loan. And that’s just what happened.
The Tipping Point
Coindesk published an article on 2 November of Alameda’s balance sheet, revealing that a significant portion of its assets were held in illiquid FTT. This raised some eyebrows on the solvency and financials of both Alameda and FTX. A huge wave of withdrawals then followed, putting Alameda and FTX in a liquidity crunch because they didn't have the funds to fulfil customer requests.
Binance’s CEO Changpeng Zhao (CZ) then delivered the final blow 4 days later by tweeting about their intention to liquidate the remainder of their FTT ($2 billion) due to “recent revelations”. Holders of FTT started to panic as such a huge dumping of FTT in the open market would almost certainly result in the crash of its price. But at the same time, no one wanted to buy FTT knowing this. So this resulted in FTT plunging 80% in 24 hours, wiping out $2.5 billion in its market value.
By the end of the week, SBF stepped down as CEO and FTX and its group of companies filed for Chapter 11 bankruptcy.
What Can We Learn From This?
What happened with FTX isn’t new. We’ve seen multiple frauds and hacks that have plagued the crypto industry for years. But given that blockchain-based technologies are meant to promote financial transparency, each scandal highlights that the system is not completely refined.
Here are a couple of things to keep in mind to avoid getting wrecked:
Don’t Hold Your Coins On An Exchange
I’ve said this once, I’ll say it again. If it’s not your keys, its not your crypto. Once your crypto is held on an exchange, full authority goes to the platform to manage your funds. And as we’ve come to learn with Celsius and FTX, well-known crypto exchanges at the end of the day are still unregulated and thus, cannot be fully trusted.
Sure, it sucks not to earn anything while keeping your crypto in a cold wallet. But if you really need to, only part with an amount you’re willing to lose.
Beware Of A Cult Of Personality
The founders of Celsius, Three Arrows Capital, Terra and FTX have more than just their meltdowns in common — they thrived on a cult of personality. These founders were highly visible on Twitter and frequently held AMAs, veiled as attempts to be transparent with their community but served a different purpose.
Alex Mashinsky (founder of Celsius) for example would frequently wear a T-shirt with the slogan “Banks are not your friends” during his AMAs and talk about how banks were stealing money from you. His solution to this was Celsius, which he boasted provided returns as high as 18% APR. Well, that’s before it all went to shit. Read more about it here: The Rise And Fall Of Celsius.
In the case of SBF, he became involved in politics and also promoted FTX’s success through celebrity endorsements and his own Twitter page. SBF would also use his platform to reassure his community of FTX’s financial soundness, tweeting that its “assets are fine”, even after many in the industry suspected something was amiss. The problem was that many of his followers had idolized him to a point that it seemed like he could do no wrong.
Be Wary Of The Bubble
Financial bubbles form from time to time — but that doesn’t mean that there is no value in the investment. It just means that the current value of it has been overstated. If everyone and your grandma is trying to get in on an investment over a short period of time, chances are that a bubble will form.
While its hard to spot a bubble, it doesn’t mean you can’t protect yourself from it. If an investment is rapidly increasing in value over a short period, its a sign to practice caution.
So, What Comes Next?
Many have become more skeptical of centralized exchanges and have started moving their assets to separate crypto wallets. In my previous article, I mentioned that we’re likely to see more collapses in the crypto sphere (which we’ve already seen at the time of writing) because we’re still at the beginning of crypto winter. And because of the catastrophic scale of recent events, it’s only a matter of time before the industry is subjected to regulatory scrutiny.
If you’ve been burnt from FTX, hang in there. Just remember that the best ways to avoid being in a similar situation is to avoid keeping your coins on an exchange, beware of a cult of personality and be wary of financial bubbles.
Disclaimer: Any expression of opinion (which may be subject to change without notice) is personal to me (the author) and I (the author) make no guarantee of the accuracy or completeness of any information or analysis supplied.
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