On Tuesday, FTX, the world’s second-largest cryptocurrency exchange, shut down its withdrawals, citing “serious liquidity problems.” FTX filed for bankruptcy on Friday.
After an incredibly lucrative asset bubble in 2021, the cryptocurrency industry has undergone harsh turnarounds in 2022. A series of high-profile crashes – Earth-Moon, Three Arrows Capital, Celsius Network, Voyager Digital – have lost a luck to investors, it has sent prices crashing and demolishing market confidence. But the sudden collapse of FTX took almost everyone by surprise.
FTX was founded in 2019 by Sam Bankman-Fried, the son of two Stanford academics. He had worked at quantitative trading firm Jane Street Te until 2017, when he went on his own with his cryptocurrency hedge fund Alameda Research. With Alameda as the market maker, FTX has quickly become one of the most popular cryptocurrency exchanges. Traders loved its complex futures and options products. A smaller branch for US customers, FTX US, opened in 2020.
When bitcoin and crypto-assets made headlines in 2021, Bankman-Fried positioned himself as a billionaire public intellectual. Bankman-Fried was allegedly photographed in only shorts, a T-shirt or hoodie, and untied shoes. He has presented himself to venture capitalists as an eccentric genius beyond their comprehension. How did this simple 29 year old guy reach the top so quickly? What was his secret?
FTX marketed hard to US audiences: a Super Bowl ad, sports endorsements, even ads in fortune cookies. Bankman-Fried has spent tens of millions on midterm candidates in the United States. He even went to Washington, promoting his vision of regulating cryptocurrencies, to create an environment where he could market FTX to large institutional investors, although this angered others in the cryptocurrency industry, who felt FTX was trying to block them.
FTX has worked hard to promote itself as a reliable financial institution run by a dynamic genius, in the mold of Steve Jobs or Elon Musk. Indeed, the institution operated outside of any effective regulation and was almost an empty shell after the cryptocurrency market crash. The Forbes billionaires list entry for Bankman-Fried warned that most of his fortune was “half of FTX and a share of his FTT tokens.”
FTT was an internal token created for merchants on FTX, much like supermarket loyalty card points. But FTT was also a crypto-asset, traded outside of FTX. It had a mark-to-market value and people traded against it, like Bankman-Fried’s other company, Alameda. On Nov. 2, an Alameda balance sheet was leaked showing that its reported assets were essentially composed of FTT tokens. Alameda had borrowed from other crypto companies using this stack of FTX-Alameda loyalty card points. It had the FTT because FTX needed to save Alameda after the Earth-Moon collapse and sent their own invented FTT tokens, claiming they were valuable assets.
The crypto markets assumed that trouble at Alameda meant trouble at FTX, and customers withdrew their cryptocurrencies as fast as possible. FTX closed withdrawals on Tuesday. FTX’s competitor Binance announced a bailout a few hours later, but this offer was withdrawn the next day: Binance had reviewed FTX’s books and found that it was at least $6 billion short. The Bahamas, where FTX is incorporated, froze FTX’s assets on Thursday; the next day, FTX filed for Chapter 11 bankruptcy in the United States.
The celebrity billionaire is a perennial favorite in the United States. The archetype is Jobs: quirky, tart, prickly, and spent 10 years delivering solid performance through the late 1990s and 2000s. Musk has pitched himself the same way, championing electric cars and the energy transition.
When the ultra-wealthy seek the limelight, it’s a stage-managed production for publicity purposes. Sometimes it’s a Steve Jobs. Sometimes she’s an Elizabeth Holmes, dazzling the business world with glamor while promoting a fraud.
Bankman-Fried promoted himself as an eccentric genius with financial acumen beyond normal minds and political insight to bring this new asset class into the future. In reality, the image of him was a distraction from what was happening inside FTX: a growing balance sheet hole, as FTX and Alameda, working together as a shadow bank, tried to plug the hole with client funds. . The Bankman-Fried secret turned out to be a financial game.
The larger problem is that encryption is nearly unregulatory. Lawmakers can pass many detailed rules for US entities, but all cryptocurrency trading takes place in opaque and unregulated offshore casinos, such as FTX.
Further frauds will reveal themselves. As cryptocurrencies go out of fashion, new financial shenanigans will rise, led by an eccentric genius who no one understands, but assumes they must be as good as they say they are.
Stories of billionaire wonderful kids always seem too good to be true. That’s because they are.