FTX Crash | Hot Wallet Market Update

So I want to start this story by taking a step back to the beginning and talking about Sam Bankman Fried and where he came from and how he got started and how he became one of the richest people in crypto up until yesterday. 

He went to school at MIT. Sam started a quant trading firm called Alameda Research in 2017 after he left a position at a prop trading firm. He started making a lot of money in Bitcoin arbitrage in 2018 based on the price difference in BTC Between Japan and America. Bitcoin in Japan was selling for a higher price than Bitcoin in America. He started with only 200 dollars and at one point was moving around 25 Million per day. The price of Bitcoin would be, say, 10,000 in America, and 11,000 in Japan and he ended up making 1 million dollars a day, every day of the week because Bitcoin trades 24/7. So he’s Buying Bitcoin in one place, selling it in another, and making money on the spread. Then in 2019 he founded and created FTX as a very slick-looking Crypto trading platform. Within a few years, this became one of the biggest platforms in the world. In 2020, They raise 900 Million at an 18 Billion Dollar valuation, SoftBank sequoia capital, The Ontario Teachers Union, and even The family office of Paul Tutor Jones was an angel investor.  We also see Binance, a competing exchange, put in money, though they end up divesting their shares in the company a year later. 

In 2022 they raised more money, another 400 Million at now a 32 Billion Dollar valuation.  Celebrity sponsors, like Tom Brady and Matt Damon, a Superbowl commercial with Larry David, signing deals with Major League Baseball, naming arenas….like this was the next big company and everyone is coming in. Sam was a frequent face on CNBC. He was on Capitol Hill working directly with regulators and helping to create regulations for Bitcoin, Crypto, and other digital assets and even hired a former commissioner of the Commodity Futures Trading Commission. So it looked on the outside they were aligning themselves with the right investors, the right regulators and they were going to be a major player along with Coinbase, Binance, and Gemini, which was started by the Winklevoss twins. 

Behind the scenes though they were lobbying to kill certain aspects of DeFi that would harm their competitors. Basically making certain types of yield illegal, unless it was done through FTX. The head of Binance US left as he was caught leaking info to FTX and was writing up negative articles about Binance to keep regulators looking at them.

you likely remember the Terra Luna debacle. Luna’s stablecoin UST gets attacked, it breaks the peg and causes a death spiral on Luna. Some big investors were caught up in that downfall, and most of them lost everything causing a big cascade of selling. We saw platforms like BlockFi and Celcuis burn to the ground Voyagur Digital get crushed and tons of forced selling in Bitcoin and other Cryptos a total mess. 

And who swoops in to be the white knight, Sam Bankman Fried. He starts buying all these companies and adding value to his balance sheet, FTX looks like a solid player, Sam looks like a hero, and everything is great. Again he’s all over TV, Jim Cramers interviewing him. CNBC even does a TV Special about him. 

Earlier this month a crypto news site, Coindesk released an article questioning the relationship between FTX and Almeda Research. In that article, it said that a significant amount of Alameda Research’s assets were held in FTT which is the FTX Exchange Token. More than 1/3 of the balance sheet was basically held in the token. Now before this, we’d see Sam Bankman Fried post on Twitter them buying FTT Token and burning it to help hold up its value. Every Monday he’d Tweet out, “it’s that time again…NOT FINANCIAL ADVICE”

So because of the Coindesk article People started questioning the relationship between Alameda and FTX and there was a question as to whether or not users' funds were being used by FTX for Alameda as well and that FTX didn’t have the crypto on hand to fulfill all user withdrawals. 

The great thing about Crypto is you can see things on chain and some people started to look and they noted that holdings of FTXs exchange wallets were dropping quickly. And we saw Almeda as well start to take money off of other exchanges and send those to FTX

Then, this past weekend, The CEO of Binance Changpang Zauo or CZ from Binance got word and says, Tweets out that he has about 2 Billion worth of FTT which is FTX’s native token, and wants to sell it. He says, they’ll do their best not to crash the market. Doesn’t like the idea of someone lobbying behind his back and says he’s Learning from LUNA. uh oh. 

Now, Most exchanges have their own token, it’s common.  But it is something that they just invented, so its worth is derived from only whatever the market will bear. It’s also a tool that they would use to raise money, you want to invest in FTX, and in return you get some FTT as an investor.  From the user side, It’s just as a way to pay for transactions, and a way to hold potentially equity in the company, etc.

So what happens, 

The Coindesk article loads the gun

CZ fires his shot.

we get an immediate wobble in the market. FTT starts whipping up and down. Sam goes on the defense, says everything is fine, and writes a bit of a thread which has now been deleted. But FTT really matters to FTX…

This is important because what FTX had done was given their sister company Alameda research loans collateralized by FTT mainly for futures trading and the liquidity of FTT was so thin that it actually didn’t take much to move the market. The float of FTT was only about 300 Million coins. If you know a big seller is coming in, what do you do…you have the ability to front run that sale and we then saw Alameda start selling off its other holdings to try and absorb the selling of FTT. They hold a ton of Solana for example and yesterday I think it was down well over 40%. So they are trying to defend their token, which is levered up on loans they’ve given to their sister company, with assets that are dropping in value and they do what every other broken crypto website has done, they stop allowing people to withdraw. This is pretty key because there’s rarely any coming back from this. 

Now I was one of many people who have followed this company and saw the money they had raised, saw the Superbowl commercials, and celebrity endorsements and I never thought these guys would ever go insolvent. How could they? I see their logo on F1 Cars and Major League Baseball umpire jerseys.

Then CZ from Binance tweets out that there’s a Liquidity Crunch at FTX and they have reached out to Binance for help. They sign a non-binding letter of intent to buy based on Due Diligence in the coming days. This gave a lot of us the sense that FTX could be saved, users would be made whole and the storm had passed. 

Shortly later Binance kills the deal saying there’s too much damage and today Sam, Brokeman Fried comes out they are looking for almost 10 Billion to save FTX. Doubtful that’s going to happen. 

So where do we go from here?

What makes this situation worse is Almeda is a market maker and that means they have tokens all over the place and if they need money, they will be selling those tokens. So there are lots of risks right now. They’ve invested in projects, been supporters of projects I mentioned they had a ton of Solana, and there’s never just one cockroach. 

Some investors like Sequoia Capital have written down their loss on their FTX to Zero, while humbly bragging that they are actually doing quite well this year. Others may not be so lucky. 

Is this the end of Crypto? I highly doubt it. Most of the best developer talent from some of the best schools, like MIT are all leaning into the blockchain. Blockchain isn’t going anywhere and even JPMorgan has its own internal blockchain so as much as Jamie Dimon says he hates it, he knows, the genie is already out of the box. 

As investors, it means a few things. Not your keys, not your coins. It’s best to custodian your assets yourself in cold storage like a Ledger or Trezor wallet or a non-custodial digital wallet with your seed phrase kept in a safe place. 

If you are trusting a 3rd party with an asset, you better make sure they aren’t using these assets as leverage in other parts of their business. 

And if you’re interested in Bitcoin, Ethereum and other crypto…do your research and know what you own, why you own it and keep your time horizon in check.

So I hold that’s helpful, it’s a mess out there but also lots of volatility, which means lots of opportunity. See you soon!