Crypto year 2022. It’s a portrait of failure. First, the Terra implosion sent the crypto market into a bearish rally. Now the FTX disaster has dealt a supposed temporary death blow. Summary: pathetic. Recent events bring back memories of the banking crisis of 2008. So it is not easy to learn from mistakes. But what went wrong? Below are the five deadly sins of a failed FTX crypto exchange.
1. Domino trades on the crypto market
Halfway through the year, billionaire lenders and crypto-hedge funds collapsed like dominoes in a chain reaction. The death spiral also spread to the classic financial sector, when even the German FinTech startup Nuri announced bankruptcy.
The now-failed crypto exchange FTX has also established itself massively in the existing crypto market. Many of the 69 investors have already been identified. Among them: Temasek, Tiger Global, Ribbit Capital and Sequoia Capital. Mike Novogratz’s Galaxy Digital, lending service BlockFi and the world’s largest wealth manager, BlackRock, also got involved. The loss already amounts to several hundred million US dollars. It will take some time before the full extent of the impact can be assessed.
2. The “Money Glitch” is dangerous
Bitcoin was designed as a disinflationary cryptocurrency limited to 21 million coins. A sign of hope against escalating monetary policy and exponential national indebtedness. The situation changed with increasing adaptation. Crypto exchanges like FTX suddenly created their own money – in the form of internal crypto tokens. Financial YouTuber Andrei Jikh explains a common but unproven money glitch theory:
The company will create a hypothetical FTT token. The token is artificially valued by establishing an advantage, so the price rises. While the company will keep most of the tokens, the rest will be destroyed. This makes the token even more valuable. The firm could then send the now-valuable tokens to Alameda Research to pledge as collateral for the loan.
The rise of the FTX token and the exponential growth of the crypto exchange was the first indication. The point almost seamlessly transitions into the next deadly sin.
3. Use customer funds elsewhere
The debacle surrounding the failed cryptocurrency exchange leaves a deep scar on the digital currency narrative. Sam Bankman-Fried used his capital from FTX users to fill a massive liquidity hole in his second firm, Alameda Research. The exact amount is not yet known, but it should be several hundred million US dollars. They have not yet recorded this in the investors’ accounts. It was only when developments in recent days led to a real bank run that the SBF had to put a stop to it. The result was a pay freeze.
Fast forward to 2008: the parallels with the financial crisis are staggering. Although many customers suddenly rushed to the counters, the banks were overwhelmed. Because people’s money was being used elsewhere – to generate revenue – you simply couldn’t cash them all out. Deadly sin.
4. Addiction to Sam Bankman-Fried
Big crypto personalities like Sam Bankman-Fried, Changpeng Zhao or Elon Musk are polarizing. They influence, inspire and are hailed by many investors as true rock stars. It is therefore not surprising that cryptocurrencies such as FTT, BNB or Dogecoin are heavily dependent on their decisions. It becomes dangerous when these personalities control millions of users and their capital.
Only SBF knew that customer funds were used to save Alameda Research. He did not tell other executives about the move. Channeling so much power and control into one entity borders on sheer insanity and maximizes risk.
5. Lack of risk management
It goes without saying that the fourth largest crypto exchange in the world has a risk management department. Such a team serves to identify, assess, and control financial, legal, strategic, and security risks to the organization’s capital and revenues. There is a comprehensive post on “Key Principles of Market Regulation of Crypto Trading Platforms” on the FTX blog page. But especially in the case of this billion-dollar crypto collapse, many involved are asking where was the emergency team to intervene in time.
It remains to be seen why no one intervened beforehand, why SBF was able to secretly divert customer funds to its second company, and how FTX was able to grow so quickly. Many deadly sins were committed on the way to the top of crypto exchanges, some of which eventually led to failure. Stay up to date with BTC-ECHO’s FTX Collapse Report.
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