Contagion?The past two weeks have been filled with more pain as the contagion effects from FTX have continued to spread and the market has started to get more information on the events that culminated in the FTX scandal.
On November 11th, Sam Bankman Fried (SBF) stepped down as the CEO of FTX. Shortly after, John Ray III was appointed as the new CEO, a Chicago-based lawyer who has previously served as a restructuring officer in multiple high profile bankruptcy cases. Since being appointed, John has stated “Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here.” A harrowing statement from an individual who handled the restructuring of Enron, a company that used SPVs to hide $38 billion in debt.
The first part of the bankruptcy filing details how FTX was structured and outlines four groups of subsidiary businesses: FTX US, Alameda Research, FTX Ventures, and FTX’s overseas businesses. Shockingly, the FTX US balance sheet showed that the company allegedly had just $316,000 in total liabilities, a number that couldn’t possibly be correct considering the exchange held billions of dollars in users assets which would qualify as liabilities. Surprisingly, these deposits have seemingly been expelled from the balance sheet report. The reason for this is likely because the balance sheet report was provided by SBF himself and was unaudited, deplorable for a company that was registered with the SEC and had custody of user funds. As for FTX, the (most likely) cooked books claim that FTX held over $2.258 billion in total assets versus less than $500,000 in liabilities, quite literally impossible for a company that currently has a multibillion dollar blackhole in user funds.
Even more surprisingly, only Alameda Research (one of the four FTX subsidiaries) had their accounts frozen in the two weeks following the collapse. In short, this could have allowed individuals connected with these subsidiaries to liquidate everything on their books to ensure the 'correct' individuals get paid whilst leaving the everyday user empty handed.
As the contagion was threatening to spread and exchanges were coming under increasing pressure, the market has been closely watching what will happen to Digital Currency Group and its subsidiaries Genesis and the Grayscale Bitcoin Trust (GBTC). Genesis, among the largest OTC desks and lenders in the space, seems under major pressure after rumours circulated that they were trying to raise $1B to avoid bankruptcy. Furthermore, GBTC might still unwind potentially releasing hundreds of millions of BTC and ETH into the market. Considering that GBTC owns 640K BTC (3.3% of the current circulating supply) the implications for the market could be immense.
To contain this ongoing ‘bank-run’, many exchanges are moving to implement “Merkle-tree proof of reserves”, a cryptography concept that would allow for real-time monitoring of the quality of exchange reserves and the liquidity buffers they have. Although many exchanges are now moving to implement this voluntarily, when new regulation follows the FTX scandal, it’s likely that displaying proof of reserves will be a fundamental requirement of all centralised exchanges. So far, despite rumours about various high-profile exchanges spreading, no other player has been dragged under in the market turmoil.
From a technical perspective, the price action of the bitcoin daily chart will be satisfying viewing for the bears after the price depreciated significantly following the collapse. Bulls will find some confidence in the MACD indicator crossing above its signal line which could be evidence of a short-term change in sentiment. One important level that has so far held up is the $15,500 support. If this level is lost, the desolate market that’s been ever-present the past two weeks could worsen. Another important point to note is that the Bollinger Bands indicator currently has a large spread thereby implying volatility is high, a welcome sight for scalpers.
We will truly know the extent of the scandal once more information comes to light following the FTX bankruptcy filing. Until then, the extent of the fallout will most likely depend on the interconnectedness between FTX and other market participants.
