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What happened to FTX?


If you are scratching your head wondering what happened with FTX, the objective of this post is to try and explain with different levels of complexity.


Let's start off with the most basic explanation. A magician with big hair and bad dress sense who lived on a paradise island in the Bahamas sold magic beans. For a long time, people loved these beans and praised the magician. Then one day a rumour started saying the magician was a bad man so the people demand their money back only to find the magician had already spent all the money.


Now, the slightly more detailed explanation. A clever guy, also with big hair and bad dress sense, owned a bank. He used made-up money to buy his way into a high-stakes poker game and he lost. In order to pay his debts, he stole money from his own bank. When the bank customers heard about the gambling debt, they panicked and demanded that the clever man pay back their deposits. Many people got their money back but soon there was no more money in the vault and the people who were slower in demanding their money back did not get anything back.


Now for an even more complicated explanation. Let's call the magician/clever young man by his real name Sam Bankman-Fried - aka Scam Bankman-Fraud aka SBF. He started two companies and claimed they were separate companies. One was a hedge fund called Alameda Research and the other was a cryptocurrency exchange called FTX. A crypto exchange is a website where people can buy and sell digital currencies. Another thing that these exchanges can do is create their own cryptocurrencies, which is like printing money out of thin air. FTX currency was known as FTT. These currencies are not mined liked Bitcoin - they are printed like money and apparently, SBF printed a lot of FTT, and a lot of it was sent to Alameda which turned out to be not so separate. This gave the impression to most people that Alameda had a lot of assets. When FTX clients discovered what was going on, they panicked and tried to withdraw their money. They then discovered that over the course of some time, SBF had actually transferred $10 billion of their funds from FTX to Alameda.


Now for the most complex explanation. Alameda was a hedge fund that specialized in making big on crypto companies ie companies that were doing business in the crypto space. In order to make those bets, SBF courted investors promising them high returns and low risk - who in their right mind would turn down something so attractive? This helped catapult FTX to become one of the biggest crypto exchanges. It had issued its own token known as FTT which worked like a loyalty program for customers, giving them perks like discounted trading fees. But FTT was also bought and sold like a normal term, reaching a maximum price of $80 per token. In order to cash in on this demand, FTX minted tons of this highly valuable yet highly speculative token, and the supply reached 300 million. It is alleged that SBF used these tokens to allow Alameda to take out loans. This was dangerous because if the value of the tokens fell, so too would the value of the loan collateral and it would make it more difficult for Alameda to repay its lenders. When the crypto market slumped this year, people were puzzled to see FTX bailing out several companies that were failing. It is speculated that SBF was helping these companies in an effort to prevent them from selling their FTT tokens for a discount.


In early November, CoinDesk reported that 40 percent of Alameda's $14.6 billion balance sheet was held in FTT. This caused panic amongst FTX customers while we're aware that problems at Alameda could well spill over into FTX given the fact they were not at all separate. We now see Binance entering the fray. Changpeng Zhao, aka CZ. When SBF started FTX, CZ took an equity stake.in the new exchange. When SBF got pissed off with big brother looking over his shoulder all the time, CZ sold his stake and was paid in part with FTT tokens. When the CoinDesk story broke, CZ sold his FTT tokens (for an amount rumored to be around $500 million), which sent the FTT token's price into free fall. This is the event that caused the run on FTX. CZ then signed a letter of intent to bail out FTX subject to due diligence being conducted, but he quickly abandoned this plan upon discovering the company had more holes than a slice of Swiss cheese. One of the reasons for the holes, according to Reuters, was that SBF had created a secret backdoor in FTXs bookkeeping that allowed him to move depositor's money off the exchange to Alameda without alerting customers or most of its own employees. In addition to all this, it was revealed that SBF had given himself a personal loan of $1 billion out of the coffers of Alameda.


On November 10, the Bahamas securities regulator froze the assets of FTX Digital Markets following news that SBF was seeking up to $8 billion in capital in order to bail out the exchange. On the same day, the Californian Department of Financial Protection and Innovation announced that it had initiated an investigation of FTX.

Within hours of filing for bankruptcy, the FTX exchange was allegedly hacked. It turns out that it was actually a government asset seizure. It was actually SBF himself who did the hack under the instruction of the Securities Commission of the Bahamas. This makes the Bahamian government one of the world's biggest Ethereum holders as the government quickly converted the assets into ETH. Whether the Commission responded appropriately or not is a matter for the court to decide.


So where do we go from here? There are several big issues in play. Firstly, this is going to hurt the credibility of the crypto industry in general, which has been strained by the year-long collapse in the price of Bitcoin. It has been a rough year for Bitcoin. It took a hit in May with the collapse of the UST stablecoin and its partner Luna, which destroyed $48 billion in investments in the space of a week following a run on the organization. This also lead to the collapse of an important crypto hedge fund, Three Arrows Capital, which in turn led to a slew of bankruptcies among crypto lenders.

Talking about the collapse of FTX, CZ from Binance said that this was not good for anyone in the industry.....confidence is seriously shaken. Regulators will scrutinize exchanges even more and licenses around the world will be harder to get. Another fallout if the FTX collapse is that at least 11 major exchanges including Binance, Crypto.com, Gate.io, Kraken, KuCoin, Poloniex, Bitget, Huobi, OKX, Derinit, and Bybit have all announced plans to publish proof of reserve statements regularly or have pointed out that they already do.


Secondly, there is the impact it will have on regulators, who have been growing increasingly aggressive with the industry. The SEC and state securities regulators have been getting increasingly aggressive about their contention that virtually all cryptocurrencies are securities. This would require exchanges to register as securities brokers. The industry has strongly challenged that as can be seen in Ripple's ongoing legal battle with the SEC which sued it for illegal securities sales of XRP.

Finally, there is the issue of political power. The crypto industry has been relatively successful in pushing its agenda in Washington. The most visible lobbyist has been SBF himself who had pledged to spend more than $100 million on the 2024 election cycle. With the implosion of FTX added to the Terra/Luna stablecoin collapse and the crypto lender bankruptcies, the industry's aim to get a more hands-off regulatory regime has been dealt a serious blow.


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