An event that can be considered the biggest of the year was when the world’s third-largest cryptocurrency exchange, FTX, declared bankruptcy on 11th November. In order to provide a general view, Defilearn will briefly summarize the collapse of FTX.
Who is Sam Bankman-Fried?
Sam Bankman-Fried, a.k.a SBF, is a famous cryptocurrency billionaire born in 1992. He is the CEO of the world’s third-largest cryptocurrency exchange, FTX, and a famous VC, Alameda Research. With a humble beginning as a trader at Alameda in 2017, Sam is considered an “idol” of many young people who are pursuing a crypto career because he has achieved significant success at a young age.
Before the crisis, SBF’s net worth reached a peak of $26 billion. In October, however, that number divided more than half to just $10.5 billion. When the FTX crisis occurred, SBF’s asset was said to drop 94% to less than $1 billion but he was being in an estimated $7 billion debt, according to Bloomberg Billionaires.
Who is Changpeng Zhao?
Changpeng Zhao, a.k.a CZ, is the CEO of the world’s largest cryptocurrency exchange Binance. CZ is a highly influential individual in the crypto community. He is even considered the “big brother” of the industry. In 2021, Binance’s revenue exceeded $20 billion, which was higher than the total revenue of the next four competitors including Coinbase, FTX, Kraken, and KuCoin.
According to Bloomberg Billionaires, CZ’s net worth was estimated to reach a peak of $95.9 billion in early 2022 before falling gradually to $33 billion due to the effects of the crypto winter, ranking 30th on the top richest people in the world as of October 2022.
The cooperation of Binance and FTX in the past
The relationship between CZ and SBF in the past was quite good when Binance once invested $500 million in FTX in December 2019. Accordingly, the two exchanges would work together to promote the development of the cryptocurrency ecosystem.
In addition to the investment in FTX shares, Binance also committed to the long-term holding of FTT tokens to boost the development of the FTX ecosystem. In contrast, FTX would help Binance increase liquidity and provide products related to exchange and OTC. FTX is also committed to developing a range of products to facilitate user access to the crypto ecosystem.
“We are pleased to have an excellent partner joining the Binance ecosystem and aim to grow the crypto market together,” said CZ. “The FTX team has built an innovative crypto trading platform with stunning growth. With their backgrounds as professional traders, we see quite a bit of ourselves in the FTX team and believe in their potential in becoming a major player in the crypto derivatives markets.”
“Binance is a market leader which has strong synergy with derivatives platforms, and we appreciate their global industry leadership, consistent execution, and innovation,” said SBF. “The investment will help accelerate the growth of FTX with support and strategic advisory from Binance while FTX maintains its independent operations.”
Fighting on Twitter
The relationship between CZ and SBF has been rumored to be cracking for a very long time. CZ and some big names in the industry dissented from SBF’s actions. Along with using deposited money on the FTX exchange for wrong purposes, SBF also used tricks to acquire various companies such as Blockfolio (August 2020), LedgerX (October 2021), Liquid Global (February 2022), Good Luck Games (March 2022), and Bitvo (June 2022). In addition, Sam was inculpated to get financial support from the Democratic Party as well as heavily interfered in bills that made it difficult for foreign companies (including Binance) to access the US market.
According to the financial report, as of the end of June, FTX’s total assets were estimated at $14.6 billion. However, the exchange actually owns $3.6 billion in the form of FTT tokens. It seems that FTX was following the same path of failure as Celcius, the platform that collapsed a few months ago.
On 2nd November, CoinDesk suddenly released financial evidence of a project in the FTX and Alameda Research ecosystem. A few days later, CZ confirmed on Twitter: “Liquidating our FTT is just post-exit risk management, learning from LUNA” preluding to the liquidation of more than $2 billion in FTX shares and FTT tokens that Binance had been holding.
SBF fought back on Twitter, “A competitor is trying to go after us with false rumors” and repeatedly posted tweets to reassure customers. However, it is believed that FTX has been quietly defaulting for a long time because the asset portfolio held by FTX was lack of stablecoins, fiat, or cryptocurrencies that have high liquidity like Bitcoin or Ethereum.
“It removes any doubt that we would attack a “competitor”. Not financially sensible. We want the industry to grow together” responded Cz. The fight between the two “big brothers” of the industry seems to be coming to an end!
Why did FTX run into trouble?
Like plenty of other exchanges, FTX issued its native token, FTT. FTT holders can trade on FTX with reduced fees or staking in exchange for profit. The excessive use of FTT as collateral as well as replacing stable cryptocurrencies such as fiat or stablecoins in FTX assets has caused this exchange and Alameda Research to face instability because cryptocurrencies tend to fluctuate in price. On Alameda Research’s financial report, the “FTT mortgage” was the third largest asset with $2.16 billion.
To simplify the problem, Defilearn will take a specific example. Let’s imagine that you are having $100 worth of FTT tokens and you hold FTT with the belief that the token price will be higher in the future. Suddenly, you need to manage some money, $50 for example. Instead of selling half of your FTT token, you can use financial services to borrow $50 with your FTT token as collateral. However, cryptocurrencies are highly volatile. When the total value of your FTT token drops to $50, your entire collateral will be liquidated.
According to CZ, crypto projects need to learn from the collapse of the FTX exchange. Firstly, never the native token as collateral to raise funds. Second, don’t borrow when you are running a business in crypto. Capital should not be used “efficiently” and always prepare enough reserve. He also stated that Binance has never used BNB as collateral and that the world’s largest cryptocurrency exchange has never been in debt.
How did Binance intervene?
By those unpredictable events, CZ announced a plan to buy back FTX
“This afternoon, FTX asked for our help. There is a significant liquidity crunch. To protect users, we signed a non-binding LOI, intending to fully acquire FTX.com and help cover the liquidity crunch. We will be conducting a full DD in the coming days.”
The huge amount of withdrawal from panic traders led to hundreds of millions of dollars flowing out of FTX in two days has severely. That negatively affected FTX liquidity.
By 10th November, a Binance spokesperson confirmed that the FTX acquisition deal had failed. The official website of this exchange was immediately down. Although the exchange website worked later, FTX suspended the withdrawal function and recommended users not deposit.
Why did the deal between Binance and FTX unravel?
Regarding the FTX deal, Binance announced: “In the beginning, our hope was to be able to support FTX’s customers to provide liquidity, but the issues are beyond our control or ability to help.” Of course, CZ is a mischievous guy and quickly realizes that this is not a good deal because Binance has to be solved the tens of billions of dollars in debt that FTX is facing.
However, there are rumors that Binance abandoned its intention to buy back FTX to avoid legal issues because SBF had been under investigation by the U.S. Securities and Exchange Commission (SEC). The US regulatory agency has also opened investigations into FTX, FTX US, and Alameda Research.
Moreover, the US Department of Justice is reviewing the situation. Some FTX assets and financial products are assessed as securities according to U.S. law, which should have been registered before being marketed to investors. If this allegation is true, the company may have broken the law by improperly managing client funds.
How did the FTX situation affect the cryptocurrency market?
The cryptocurrency market has been sick since Luna and Celcius suddenly collapsed. The FTX situation punches hard to the whole market as 2022 is about to close.
After CZ conform that Binance would sell FTT tokens, other investors also frantically sold theirs to preserve capital. This action led to a considerable decrease in the price of this token from more than $25 on 6th November to $2 at the time of this writing, equivalent to a drop of about 92%. Another top coin involved by SBF, Solana, was also in the same scenario. SOL price sank from $38 to $15 and fall out of the top ten-biggest coins by market capitalization on CoinMarketCap’s rankings.
Other firms that unfortunately lent money to FTX are also facing adversity because it is impossible to take the money back while the FTT price is dumped. Although FTX has proposed some directions to operate after bankruptcy declaration, the possibility of implementation is quite low. It is more feasible that FTX will need to liquidate assets to compensate investors.
The cryptocurrency market is negatively affected. Although there were signals that the market would recover by the end of 2022, it is now coming back to crypto winter. Top coins like Bitcoin, Ethereum, or BNB decreased by 21.03%, 23.09%, and 20.18% respectively in the last 7 days. Other coins also drop by an average of 30% to 40%. As a result, the crypto market will likely need a long time to recover after the FTX crash.