The bankruptcy of FTX is yet another reminder of the high risks involved in investing in cryptocurrencies. While there is undoubtedly potential for huge profits in this market, investors need to be aware of plenty of pitfalls before diving in headfirst. With that said, only time will tell how much of an impact FTX’s bankruptcy will have on broader markets; only time will tell if this is just a speed bump on cryptocurrencies’ road to mainstream adoption or a sign of things to come. But let’s take it from the top.
The Impact of FTX’s Bankruptcy on the Cryptocurrency Market
On Nov 11, 2022, cryptocurrency derivatives exchange FTX filed for bankruptcy in the U.S. District Court for the Southern District of New York. This shocked many in the crypto community, as FTX was one of the most popular exchanges, with over $1 billion daily trading volume. So, what caused FTX’s rapid decline? And how has this impacted the cryptocurrency market as a whole?
So, What Happened?
There are a few possible explanations for FTX’s bankruptcy:
- The COVID-19 pandemic has caused significant financial instability globally, leading to less trading activity on all exchanges, including FTX.
- FTX may have been overleveraged, meaning it had borrowed too much money to finance its operations. This is a common problem in cryptocurrency, as exchanges often use leverage to increase their liquidity.
- It’s possible that FTX was caught up in the overall bearish trend in the cryptocurrency market that began in mid-2020.
Whatever the cause, there’s no denying that FTX’s bankruptcy has had a significant impact on the cryptocurrency market. For one thing, it has called into question the viability of leveraged trading products like perpetual contracts. Perpetual contracts are basically futures contracts with no expiry date, and they’ve become increasingly popular in recent years due to their high leverage levels (up to 100x). However, if an exchange like FTX can go bankrupt due to overleveraging, then it’s likely that other exchanges offering similar products will also be at risk. This could lead to a broader shakeup in the cryptocurrency derivatives space and possibly even lead to stricter regulation from authorities.
It’s also worth noting that FTX is not the only cryptocurrency exchange to have filed for bankruptcy this year; Geneva-based Bity SA filed for bankruptcy in March 2020 after losing 8 million Swiss francs (approximately $8.3 million) due to fraud. These bankruptcies highlight the immature and risky nature of the cryptocurrency industry and could make potential investors think twice about putting their money into digital assets.
FTX’s collapse took place over ten days in Nov. 2022. The catalyst for the crisis was a Nov 2 scoop by CoinDesk that revealed that Alameda Research, the quant trading firm also run by Bankman-Fried, held a position worth $5 billion in FTT, the native token of FTX. The report revealed that Alameda’s investment foundation was also in FTT, the token that its sister company had invented, not a fiat currency or other cryptocurrency. This prompted concern across the cryptocurrency industry regarding Bankman-Fried’s companies’ undisclosed leverage and solvency.
Binance, the world’s biggest crypto exchange, announced on Nov 6 that it would sell its entire position in FTT tokens, roughly 23 million FTT tokens worth about $529 million. Binance CEO Changpeng “CZ” Zhao said the decision to liquidate the exchange’s FTT position was based on risk management following the collapse of the Terra (LUNA) crypto token earlier in 2022.
By the next day, FTX was experiencing a liquidity crisis. Bankman-Fried attempted to reassure FTX investors that its assets were stable, but customers demanded withdrawals worth $6 billion in the days immediately following the CoinDesk report. Bankman-Fried searched for additional money from venture capitalists before turning to Binance. The value of FTT fell by 80% in two days.
On Nov 9, 2022, Binance announced that it would cancel its deal to bail out FTX a day after promising to do so. This news shocked many in the crypto community, as FTX is one of the leading exchanges in the industry. The exchange cited concerns about the mishandling of customer funds as the reason for the change of heart. A day prior, FTX had announced that it was seeking up to $8 billion in capital to bail out the exchange. However, due to Binance’s cancellation of the deal, FTX’s assets have been frozen by the Bahamas securities regulator.
Bankman-Fried has apologized for the liquidity crisis and admitted that FTX’s non-U.S. exchange had insufficient funds to meet customer demands. In addition, the California Department of Financial Protection and Innovation has initiated an investigation into FTX. As a result of these events, FTX has filed for Chapter 11 bankruptcy protection.
Instead of Conclusion: What Are the Implications of the FX Collapse?
The future of FTX and the crypto market at large is in serious jeopardy as of mid-November 2022. The company has disabled withdrawals and published a notice advising against depositing more money into the exchange. The collapse of FTX would have far-reaching consequences for the cryptocurrency industry, including likely deterring investors, triggering legal action, and increasing regulatory scrutiny. The crypto universe would feel the shockwaves of the collapse for some time, with other exchanges and companies pausing withdrawals and halting customer service. The collateral damage of the FTX collapse would be significant and long-lasting.