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Tech: Crypto carnage and the Sam Bankman-Fried meltdown

NOT long after Elon Musk, the world’s richest man, announced in late April that he wanted to buy microblogging firm Twitter for US$44 billion (RM206.9 billion), he received a text message that a 30-year-old crypto billionaire was willing to put up billions to help finance the deal. “I’m not sure if this is what’s on your mind, but Sam Bankman-Fried has for a while been potentially interested in purchasing (Twitter). If you want to talk with him about a possible joint effort in that direction,” the text from Will MacAskill, an altruism ethicist at Oxford University and the author of Doing Good Better, said.

The CEO of electric vehicle pioneer Tesla Inc did what you might expect someone with a net worth of US$260 billion to do. He asked whether Bankman-Fried actually had “huge amounts of money” or was just boasting. MacAskill, who is a confidant of Bankman-Fried, the co-founder of crypto exchange FTX, responded that he was indeed worth about US$24 billion and would be willing to contribute as much as US$8 billion to US$15 billion. Michael Grimes, the head of global technology investment banking at Morgan Stanley who was helping Musk on the Twitter transaction, later texted Musk that Bankman-Fried would be willing to commit up to US$5 billion. “I do believe you will like him,” Grimes said in the text. “Ultra genius and doer builder like your formula. Built FTX from scratch after MIT physics. Second to Bloomberg in donations to the Biden campaign.”

In the end, Musk passed up on Bankman-Fried’s audacious offer to co-invest in Twitter and accepted US$500 million from Changpeng Zhou, or CZ as he’s known, the founder and CEO of Binance, the world’s largest crypto exchange, and a rival of FTX. Two weeks ago, Musk completed the Twitter transaction and he now runs it as the Chief Twit. And Bankman-Fried? Last week, he was staring at bankruptcy.

How a man worth US$26 billion just a few weeks ago and whose flagship firm was last valued by top venture capital (VC) investors like SoftBank Group Corp, Tiger Global Management Inc, Thoma Bravo, BlackRock Inc, Sequoia Capital and Paradigm Investment Group at US$32 billion, went from “helping” the world’s richest man to trying to save himself from near bankruptcy is all about audacity, leveraging up to the hilt on speculative crypto assets and bluffing his way just as the global economy is heading for a hard landing, central banks around the world are upping the ante with higher interest rates, and asset prices from stocks to bonds to cryptocurrencies, commodities and real estate are in free fall.

Born on the campus of Stanford University to parents who were both law professors, Bankman-Fried, better known as SBF, attended a camp for extremely talented mathematics students in North America when he was still in high school. He graduated with a degree in physics and maths from the prestigious Massachusetts Institute of Technology and rose to become cryptocurrency’s most visible poster boy.

After college, he worked at Jane Street Capital, one of the world’s largest market makers and high-frequency trading firms, as a proprietary trader on its exchange traded funds or ETF desk. In 2017, he set up Alameda Research, a quantitative trading firm to arbitrage, or take advantage of, the higher prices of Bitcoin in Japan compared to in America. He moved to Hong Kong in 2018 and just before the Covid lockdowns in 2020 to the Bahamas, where he has been based since. While in Hong Kong, he also founded FTX in 2019, which became the world’s No 2 crypto exchange behind Binance owned by China-born Canadian Zhou, who was one of FTX’s first investors.

Boyish, curly-haired Bankman-Fried is a master self- promoter in the mould of Musk and Donald Trump and has long been a regular on CNBC, CNN and Bloomberg TV, donning colourful T-shirts and shorts with a Bahamas backdrop of palm trees and the ocean. He has committed to donating 99% of his wealth to good causes. He forked out US$100 million “to alleviate global poverty” and provide assistance to poor countries to battle the Covid pandemic and global warming earlier this year.

As VCs poured US$2 billion into his crypto firms, FTX bought the naming rights to the National Basketball Association Miami Heat home arena. He also hired US National Football League star quarterback Tom Brady and his then wife, supermodel Gisele Bündchen, as spokespersons and had FTX’s logo displayed on the uniforms of Major League Baseball umpires. Indeed, Brady and Bündchen took a small stake in FTX and received FTX’s own cryptocurrency, FTT, as part of an endorsement deal. Among FTX’s other “ambassadors” were US basketball star Stephen Curry, basketball icon Shaquille O’Neill, baseball giant David Ortiz and tennis star Naomi Osaka who all either bought stakes in FTX or were paid in FTX’s own token. FTX’s value is now zero and FTT’s value has plunged 90%.

Bankman-Fried developed close ties, particularly with US regulators, after he made huge donations to Democrats ahead of the recent mid-term elections. That gave him access to top politicians, close advisers to President Joe Biden and key financial regulators. He whispered about rival platform Binance, which has no headquarters. He was the biggest Democratic donor behind Michael Bloomberg and hedge fund billionaire George Soros. According to the Washington, DC-based non-profit Open Secrets, Bankman-Fried’s contributions in the recent mid-terms elections totalled US$39.9 million. He had donated more than US$10 million to Joe Biden’s presidential campaign in 2020.

A cryptocurrency is a digital asset that works as a medium of exchange through a computer network not reliant on any central authority. The first cryptocurrency, Bitcoin, emerged in late 2008 in the aftermath of the global financial crisis as an experiment in monetary theory, enabling users to move a digital-only currency between holders on a decentralised, peer-to-peer network rather than by a government or bank.

Conflict of interest

Bankman-Fried was not only running a large crypto hedge fund but also the world’s second largest crypto exchange. The convoluted relationship between FTX and Alameda, and the conflict of interest resulted in a liquidity crisis at FTX that led to the firm’s collapse. A total of 22% of all deposits and withdrawals for FTX digital wallets interacted with wallets belonging to Alameda Research. Moreover, 50% of Alameda’s trading volume is done on FTX, which holds information on every trader on its exchange and could use that information to exploit users for the benefit of common owner Bankman-Fried by trading against them through Alameda. Imagine if Goldman Sachs owned the New York Stock Exchange and the options and futures market, CME, and had the data collection prowess of Facebook.

Last week, CoinDesk, a digital assets-­focused news site, published a piece showing that most of Alameda’s net equity was FTT tokens issued by FTX. FTT is not a currency but shares in FTX in digital form. Alameda had US$14 billion in assets, of which the largest and third largest holdings were US$3.66 billion of “unlocked FTT” and US$2.16 billion of “FTT Collateral” respectively. The document also showed that the company had US$8 billion in liabilities, of which US$7.4 billion were loans the company took on. In essence, most of Alameda’s US$6.6 billion in net equity — US$14.6 billion in assets minus US$8 billion in liabilities — are FTT tokens, which are printed out of thin air by FTX, which is owned by the same person who also owns Alameda: Bankman-Fried.

In the financial services industry, there are all sorts of conflicts of interest within institutions. To prevent problems, banks pretend to police themselves with “Chinese Walls”. The crypto industry is, of course, entirely unregulated. But here’s why the FTX-Alameda relationship was a much bigger problem: Last week, there were US$5.1 billion in FTT tokens in circulation. That meant Alameda had more FTT tokens on its balance sheet than the rest of the world’s crypto trading community put together. Indeed, it had enough FTT tokens to more than double the supply of all FTT tokens in circulation. As word of the conflict spread, crypto traders became wary that FTT tokens were at risk of dilution if Alameda ever decided to liquidate its own tokens.

On Nov 6, soon after CoinDesk published the piece, Zhou tweeted that he would be selling all of the FTT tokens his firm held on its balance sheet. Binance, an early investor in FTX, had received US$2.1 billion in cash and FTT tokens when it sold that stake back to Bankman-Fried last year. The tweet succeeded in creating a run on the bank over the weekend. That eventually forced FTX to pause withdrawals from its platform which, in turn, spurred more fear causing the FTT token to drop further. “Binance exploited FTX’s seemingly shady connections to Alameda to trigger fear,” notes Alejandro Barreto, who runs Wall Street Odds, a financial website in Toronto. “Once the fear had taken hold, it used FTX’s weakened state to purchase them at what is likely to be a significant discount compared to what FTX would have been worth just a few weeks ago.” As a direct competitor to FTX, Zhou would be a beneficiary of investors moving their funds from FTX to Binance.

Initially, FTX denied it had liquidity issues. Late last Monday, Bankman-Fried reached out to Zhou for help. “There is a significant liquidity crunch” at FTX, Zhou said in a tweet. “To protect users, we signed a non-binding LoI (Letter of Intent) to fully acquire and help cover the liquidity crunch. We will be conducting full (due diligence) in coming days.” On Nov 9, Binance said it was pulling out of the deal., the international arm which makes up 95% of the business, is now officially out of business. For his part, Zhou claims there was “no master plan” to bankrupt and then take over FTX. Indeed, he argues, the collapse of FTX was “not good for anyone in the industry”.

Still, FTX’s collapse triggered a huge sell-off in cryptocurrencies. Bitcoin, which was trading at over US$68,000 a year ago, fell to US$15,500 on Nov 9. It is now down 26% over the past week and 78% from its peak 12 months ago. Crypto-related listed companies like Coinbase Global Inc and MicroStrategy  Inc have seen their stocks hammered. The sell-off has sparked fear and uncertainty in the cryptocurrency ecosystem legendary for its “HODL” or buy-and-hold-forever investors.

Spectacular fall from grace

Ironically, just five months ago, Bankman-Fried was being hailed as a saviour. He was on the cover of Fortune and Forbes as business publications fell over each other to profile him. “He is bailing out cryptocurrency markets the way John Pierpont Morgan did after the crisis of 1907,” said Anthony Scaramucci, founder of SkyBridge Capital. The founder of the world’s largest bank JP…

Read More: Tech: Crypto carnage and the Sam Bankman-Fried meltdown

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