New York
CNN Business
—
In less than a week, a 30-year-old entrepreneur once hailed as a modern-day JP Morgan saw his digital empire, including billions of his own fortune, evaporate in a death spiral that has shaken the foundations of the trillion-dollar crypto industry. .
On Thursday, Sam Bankman-Fried issued a mea culpa: “I was sorry,” he wrote in one long Twitter threadapologize to investors and customers of FTX, the exchange platform he founded in 2019.
Mistakes are not uncommon in the shady, largely unregulated world of crypto, but FTX is not your average crypto startup. The near-collapse this week represents a potential turning point for an industry that many critics say has been in the doldrums for far too long.
So, what happened to FTX and why is the whole crypto community freaking out over it? There’s still a lot of uncertainty, but here’s what we know.
Last week, crypto news website CoinDesk published an article based on a leaked financial document from Bankman-Fried’s hedge fund, Alameda Research.
The report suggested that Alameda’s operations rested on shaky financial foundations. Namely that the bulk of the assets are held in FTT, a digital symbol marked by Alameda’s sister company, FTX. That was a red flag for investors, as the companies, at least on paper, were separate. However, Alameda’s disproportionate holding of the token suggested that the two were much more closely linked.
On Sunday, the CEO of Binance, FTX’s much larger rival, said his the company liquidated $580 million in FTX stock. That set off a firestorm of drawdowns that FTX didn’t have the money to accommodate.
By Monday, concerns about Alameda and FTX had bled into the broader crypto market. But Bankman-Fried was defiant, tweeting that FTX and its assets were “fine.” He also sparred with Binance CEO Changpeng Zhao, whose tweet had fueled the run of FTX deposits.
There was clearly bad blood between the two, which is why it shocked the industry when the pair announced a tentative deal on Tuesday for Binance to bail out FTX.
“This afternoon FTX asked for our help,” Zhao tweeted afternoon, noting that there was a “significant liquidity crisis” at the company and that Binance would need to conduct corporate due diligence before moving forward with a deal.
Almost immediately after looking under the hood, Binance started to pull back.
Meanwhile, Bankman-Fried’s personal fortune also declined. According to the Bloomberg Billionaire Index, Bankman-Fried’s net worth cratered 94% in a single day, from more than $15 billion to just under $1 billion — the biggest single-day loss the index has ever seen. (The estimate of his wealth was based on the assumption that Binance would eventually bail out FTX, where much of Bankman-Fried’s personal assets are held. Meaning his net worth may have longer to fall.)
On Wednesday, cryptocurrencies continued to fall as investor anxiety about the FTX bailout spread. Bitcoin and ether, the two most popular tokens, both hit their lowest levels in two years.
The selloff deepened after media reports emerged that Binance was leaning toward walking away from the deal. Sure enough, on Wednesday afternoon, Zhao tweeted a withering assessment of FTX’s problems:
“Initially, our hope was to be able to support FTX’s customers in raising liquidity, but the issues are beyond our control or ability to help.”
He also alluded to allegations of “misappropriated funds” and investigations by US regulators.
Binance was out. FTX’s best shot at a lifeline was gone.
The full extent of FTX’s financial problems is not yet known, but several reports say the firm is facing an $8 billion deficit. Without a quick infusion of equity capital, Bankman-Fried is said to have told investors on Thursday, the firm faces bankruptcy.
Since the Binance deal fell apart, Bankman-Fried has struggled to raise money. On Thursday, it tweeted that there were “a number of players” the company was in talks with.
“We are spending the week doing everything we can to raise liquidity,” he wrote in his apology thread. “Every penny” of that, plus the remaining security, will go toward making users whole, followed by investors and employees.”
Despite its reputation as a reliable, low-risk investment portal, FTX’s business appears to have been built on a complex, extremely risky form of leveraged trading.
Customers deposited their money to engage in crypto trading. But it appears that FTX instead took billions of dollars worth of that money and loaned it to sister firm Alameda to fund those high-risk bets, according to The Wall Street Journal.
Bloomberg columnist Matt Levine put it another way: “FTX took customers’ money and traded it for a bunch of magic beans, and now the beans are worthless.”
At the end of the day, FTX experienced the crypto equivalent of a classic bank run. The customers wanted their money out, and FTX wasn’t having it.
In traditional finance, customers’ funds are protected by the Federal Deposit Insurance Corporation, which insures deposits. However, the FDIC does not insure stocks or cryptocurrencies, leaving the fate up to FTX’s clients and investors.
One of those investors was the Ontario Teachers’ Pension Plan, which said it invested $95 million in both FTX International and its U.S. unit “to gain small-scale exposure to a growing area of the financial technology sector.” In a statement Thursday, the plan noted that any loss on the investment would have “limited impact” as it represents less than 0.05% of its total net assets.
On Thursday, Bankman-Fried said Alameda Research would liquidate the trade while FTX focuses on emergency fundraising.
But after Binance, the biggest exchange in the industry, refused to bail out its rival, FTX may have few options.
Bankman-Fried told employees in a memo obtained by the New York Times that FTX had been in talks with crypto entrepreneur Justin Sun, who tweeted that he is working to “put together a solution” with FTX.
Meanwhile, US authorities, including the US Department of Justice and the Securities and Exchange Commission, are investigating FTX’s operations, according to Bloomberg.
