We may never know how close Sam Bankman-Fried’s (SBF) crypto empire came to collapse, or the collateral damage that would have caused for the industry, but we do know the principal risks at play. And sadly, it’s the same issues Bitcoin was created over a decade ago to solve: financial self-dealing, human hubris and untransparent markets.
What just happened: Binance, the world’s largest crypto exchange by volume, has agreed to buy a competitor it had initially nurtured and then almost tanked, FTX. Binance CEO Changpeng "CZ" Zhao confirmed the deal on Twitter, saying the two exchanges signed a non-binding letter of intent.
The deal, still subject to due diligence processes and not completed, is a stopgap measure to save SBF’s crypto exchange from insolvency. It will likely calm markets that had been rocked by a public rift between two crypto titans so well-known as to go simply by their initials.
This is a meteoric fall for SBF – the once-beloved posterboy of crypto who plastered his exchange’s name across stadiums and posed for glossy magazine spreads – who just months ago was touted as the “J.P. Morgan” of crypto for his efforts in backstopping bankrupt blockchain businesses like BlockFi.
"Things have come full circle, and FTX.com’s first, and last, investors are the same: we have come to an agreement on a strategic transaction with Binance for FTX.com (pending DD etc.)," Bankman-Fried tweeted Tuesday, using shorthand for “due diligence.”
Keeping with the full circle motif, it’s worth noting SBF always saw blockchain more as a means to an end. He entered crypto after a few years as a Jane Street quant, with the stated aim of making as much money to gain as much influence as possible. That would be a fine mentality in crypto had SBF any apparent love of the tools and protocols that made him rich.
Instead, SBF, a political mega-donor who has spent $50 million during the past U.S. election cycle, has used his influence to push for regulations that ruffled his customers and competitors’ feathers. He was a vocal proponent of the DCCPA bill that would create a brokerage-like licensing system for decentralized finance and argued against financial privacy.
That’s what he said in public. For CZ, the bigger concern was what was said behind closed doors, “[W]e won’t support people who lobby against other industry players behind their backs,” the Binance CEO tweeted this weekend. This was CZ’s attempt at being “transparent,” he said, explaining a large transaction of over $500 million FTT tokens to Binance made the day before.
He announced Binance would be selling these tokens into the open market, and drew a worrying comparison to LUNA, another project Binance was early to back that later collapsed after a bank run. CZ was seizing the moment caused by market uncertainty, after Alameda Research’s financials were leaked to CoinDesk.
The links between FTX and its sister firm, the hedge fund Alameda, have historically been unclear beyond that both were founded by SBF. The leaked financial statement showed that the majority of Alameda’s assets were illiquid or locked altcoins – many of which SBF had a stake in including FTT, SOL and SRM (the token from the Serum decentralized exchange Bankman-Fried co-founded).
“Alameda will never be able to cash in a significant portion of FTT to pay back its debts,” Mike Burgersburg, an independent market analyst for Dirty Bubble Media, which was early to call the collapse of Terra/LUNA.
Bank runs can be self-fulling prophecies. Although several analysts said it was unlikely that either FTX or Alameda would suffer a margin call, investors began pulling funds, concerned their capital would be locked up in bankruptcy proceedings like with neobanks Celsius and Voyager Digital.
Bankman-Fried and Alameda CEO Caroline Ellison did what they could to calm investors’ nerves, offering to mitigate a steep selloff of FTT by offering CZ $22 per token. Ellison said the leaked financial document did not account for another $10 billion Alameda allegedly had, while SBF said that client funds were “safe” and never rehypothecated into other crypto deals.
On-chain analytics showed a more worrying story. Stablecoins and other assets were draining from FTX. Before the Binance buyout was announced today, traders had pulled all the bitcoin FTX had off the platform, according to Coinglass. Alameda was unlocking funds from various DeFi platforms to send ETH to FTX, seemingly unconcerned with steep withdrawal fees.
FTX users began tweeting about delays in moving funds from the platform, while BitDAO asked Alameda to prove that it still held the 100 million BIT tokens the trading firm acquired last November, and began to vote whether to offload the 3.36 million FTT tokens BitDAO earned in that deal.
Throughout this process, industry commentators chided SBF for the exchange’s lack of transparency and called for him to show proof of reserves for both FTX and Alameda. “It’s not much to ask, critics note, given SBF’s recent grandstanding about the need for more regulation and better governance in crypto,” Fortune’s Jeff John Roberts wrote.
Yesterday, it became clear that Binance would reject SBF’s offers to sell its FTT tokens over-the-counter to minimize the sell-off. Instead, it would hold these assets – the fruit of what CZ called a “divorce” – like a Sword of Damocles. Bellwether assets like BTC and ETH, trading sideways yesterday, began to slip in overnight trading.
It was clear the contagion would be severe if SBF’s empire fell. Crypto is tied-up in intricate knots, and once it frays the whole ecosystem can unravel – like after the collapse of hedge fund Three Arrows Capital. A stablecoin called magic internet money (MIM), capitalized primarily with FTT, lost its peg to the dollar.
At least with open financial systems like MIM investors knew at what price they would be liquidated. FTX is a blackbox, and people only have the information SBF chose to reveal. Many began to read Bankman-Fried’s retweets of unconfirmed airdrops for FTX users that kept their capital on the exchange as signs of desperation.
“[R]egardless of how it ends, it’s another blow against the industry (and financial institutions in general) simply for a lack of voluntary transparency, but it’s another giant check mark for the transparency of blockchain data and the skilled researchers trained to uncover, read, and interpret this data,” Jeff Dorman, chief investment officer at crypto hedge fund Arca, said.
And so, we’re back at the beginning. It should come as no relief that SBF and CZ were apparently able to come to terms. It’s just another backroom deal.