by Brandon Reiter
Unless you’ve been living under a rock, you’ve probably heard of the latest crypto scam surrounding FTX.
WHO? Sam Bankman-Fried and Changpeng Zhao
Just a few short months ago, American entrepreneur and guy-who-looks-like-he-should-be-an-SNL-cast-member, Sam Bankman-Fried. was being hailed as the next Warren Buffet and the JP Morgan of cryptocurrency. He became one of the youngest American billionaires, seeing his net worth peak at $26 Billion.
Some basic facts:
- FTX is a Bahamas-based crypto exchange founded by Bankman-Fried and Gary Wang in 2019.
- Alameda Research is a quantitative trading firm specializing in cryptocurrencies co-founded by Sam Bankman-Fried together with Tara Mac Aulay in 2017.
- Binance is the main competitor of FTX and the largest cryptocurrency exchange platform by volume. Its CEO and founder is Changpeng Zhao.
WHAT? FTT Tokens
FTT is the exchange token used by FTX.
FTX was expanding at an impecible rate. Established in 2019, FTX grew to become the third-largest cryptocurrency exchange platform executing $9.4. billion worth of trades each day. The investments of Bankman-Fried extended its global reach while expanding further its core business to become an all-around financial services provider. FTX was reinvigorating the cryptocurrency market.
Bloomberg published an article in September 2022 underscoring the relationship between FTX and Alameda Research. Alameda Research functioned as a market maker during the early stages of FTX. According to the article, these two firms would be subjected to scrutiny under the regulatory oversight applied to companies in traditional equities markets.
Alameda evaluated cryptocurrencies such as crypto-coins and crypto-tokens using quantitative finance and other tools and techniques in applied mathematics in its trading decisions. Its specific strategies include arbitrage, market making, yield farming, and trading volatility.
CoinDesk published another story at the beginning of November reporting that a significant portion of the assets of Alameda Research were held in FTT. The tokens worth $5.1 billion were in circulation and the balance sheet of Alameda Research held “unlocked” FTT tokens worth $3.66 billion and “locked” FTT tokens worth $292 million.
Alameda Research had held assets and funds from the customer base of FTX. FTX channeled a huge chunk of FTT tokens to Alameda Research. Lenders allowed Alameda Research to use these tokens as collateral. There was a commingling of assets between the two companies. Bankman-Fried was further accused of using FTT as collateral to borrow billions of dollars that he spent to expand his cryptocurrency empire.
Some of the deals made by Bankman-Fried resulted in severe losses. These investments exposed Alameda Research, as the FTT tokens the trading firm held had low liquidity. It had a hard time converting them into cash assets to supplement its finances and pay its creditors.
Translation: Bankman-Fried was using his funneling FTT tokens to his own firm, and using them to borrow money, but the tolkens are very hard to quickly convert to cash
WHEN? November 7th
Binance, announced on November 7th that it would offload all of its entire FTT holdings. It was a supporter of FTX. However, its founder and chief executive, Changpeng Zhao, induldged into a series of tirades with Bankman-Fried.
News about Binance selling its FTT tokens, as well as the Twitter exchanges between Zhao and Bankman-Fried, resulted in the prices of FTT and other cryptocurrencies plummeting. Zhao announced the next day that it entered into a non-binding agreement to purchase FTX to address its liquidity crisis. However, Binance took to Twitter on November, 9th to announce that it would not move forward with the deal.
Binance cited two key reasons for refusing to acquire FTX. These include the reported mishandling of customer funds in line with its commingling issue with Alameda Research, and the pending investigations involving the possible legal liabilities of the cryptocurrency exchange platform. The website of Alameda Research was taken down on the same day and Bankman-Fried announced that his trading firm would wind down trading and close.
Several employees from the legal and compliance team of FTX resigned. Other employees from entities related to FTX also resigned. FTX, Alameda Research, and more than 100 affiliate companies filed for chapter 11 bankruptcy on November 11th. Bankman-Fried resigned as chief executive and was replaced by corporate restructuring specialist John J. Ray III. Anonymous sources said the FTX owed as much as $8 billion.
The events during the first and second weeks of November resulted in FTX customers rushing to withdraw from the platform. However, because of the liquidity crisis and due to the fact that the exchange used FTT as collateral, they were not able to withdraw funds. Investment advisors have been warning people about the risks of leaving their assets unclaimed on cryptocurrency exchange platforms that use crypto-tokens as collateral.
Reports about missing funds worsened the situation and aggravated further the distressed customers. Some $473 million worth of funds were removed from the platform. An FTX general counsel explained that their system logged an unauthorized transaction. In addition, between $1-$2 billion customer funds could not be accounted for as of November 12th Several institutional investors stand to lose their money due to their stakes in FTX.
WHY? Crypto Regulation Sucks
Doesn’t this all sound familiar? It should because a very similar situation happened earlier this year when the cyrpto-exhange platform Celcius filed for bankruptcy after it too, was well over leveraged, and was essentially exposed as operating a ponzi scheme.
Bankman-Fried, being hailed as a crypto-savior and someone that would be writing the crypto-regulation, was allowed to get away with structuring his companies in ways that would have not been allowed under traditional equity regulations, but because the Crypto market does not have the proper regulation yet, it has enabled scam-artists like Bankman-Fried to utilize investor hype and confusion to over leverage their companies and exposing creditors that include ma and pa investors, who end up being hurt the most.
WHAT NOW? Bankman-Fried is Still Sipping Pina Coladas in the Bahamas
Anonymous sources cited by Reuters stated that Bankman-Fried had transferred at least $4 billion from FTX to Alameda Research, without any disclosure to insiders or the public, earlier in 2022. The sources said that the money transferred had included customer funds, and that it was backed by FTT. An anonymous source cited by the Wall Street Journal stated that Bankman-Fried had disclosed that Alameda owed FTX about $10 billion which were secured through customer funds stored in FTX when FTX had, at the time, $16 billion in customer assets.[According to anonymous sources cited by the Wall Street Journal, the Chief Executive of Alameda Research Caroline Ellison told employees that Bankman-Fried was aware that FTX had lent its customers’ money to Alameda to help it meet its liabilities.
One day after FTX declared bankruptcy, on November 12, Bankman-Fried was interviewed by the Royal Bahamas Police Force.
On November 17th, John J. Ray III, the CEO brought in as a liquidator, stated in a sworn declaration submitted in bankruptcy court that according to the firm’s records, Alameda Research had lent $1 billion to Bankman-Fried.