On November 8th, 2021 customer withdrawals were frozen on FTX, the world's second-largest cryptocurrency exchange. Shortly thereafter, the company filed for chapter 11 bankruptcy. Sam Bankman-Fried, founder and CEO of the exchange, was arrested by authorities in the Bahamas for wire fraud, security fraud, and money laundering charges. Bankman-Fried has since been transferred to the United States where he paid $250 million in bail. John Ray, a lawyer specializing in the wind-down of bankrupt corporations (most notorious for his recent role with Enron), has taken over as the CEO of FTX.

A number of illegal activities appear to have been performed by Sam Bankman-Fried.  Most notable was the commingling of customers' funds between the FTX exchange and Alameda research, a hedge fund founded by Bankman-Fried.  Wallet activity shows that some customer funds went through Alameda Research prior to reaching FTX, which is a serious legal breach. Moreover, much of the funds never made it to FTX at all. Despite the terms and conditions – which claim users' assets were held 1:1 on the exchange – they never were.  Bankman-Fried, alongside a secretive group of young traders, used the customer funds for high-risk crypto investments. 

For a while, this illegal activity worked.  There was enough liquidity on the platform for customers to withdraw their funds.  Bankman-Fried benefited greatly with a recorded net worth of over $25 billion in 2021 (on paper).  Once the market turned, however, and the crypto investments held between FTX and Alameda Research crashed by roughly 80%, user withdrawals were in trouble. Growing public awareness of FTX’s insolvency escalated the issue and in turn, triggered a mass influx of withdrawal requests on the FTX exchange. As panic arose over the future of FTX, a rapid increase in FTX to Alameda transactions took place.

The FTT Token

FTT’s collapse was not due to its lack of intrinsic value (there are many useless tokens with high market caps), it was the fact that it was a low-float token, with only a few players holding the vast majority of the tokens. This discovery of the large sum of FTT tokens that FTX had on its balance sheet showed that this was a house of cards waiting to collapse. When Changpeng Zhao, the CEO of Binance, signaled that Binance would be dumping its $2.1 billion worth of FTT tokens, it led to a panic selling. The token collapsed from roughly $25 to just nearly $1. FTX’s top-held asset, which was worth $79 per token in 2021, is nearly worthless today.

An important caveat in this whole mess is there are two separate entities: FTX and FTX US. The original exchange Bankman-Fried founded is operated out of the Bahamas and is subject to loose regulation. The United States version is under different regulatory requirements and ultimately operated by a different corporation – FTX Trading Ltd.  Binance also follows this structure, with an international exchange that operates out of the Cayman Islands, and a Binance US version which is technically a separate entity.

The latest revelation between FTX and FTX US includes claims from Bankman-Fried that FTX US is fully solvent. Just weeks after spending time in Bahamian prison,  Bankman-Fried published a post to substack, his post stating, “This post is about FTX International’s (in)solvency. It’s not about FTX US, because FTX US is fully solvent and always has been. It’s ridiculous that FTX US users haven’t been made whole and gotten their funds back yet.” Via SBF Substack. 

While the collapse was largely due to fraudulent activity from Bankman-Fried and poor tokenomics behind FTT,  management at FTX was another root cause.  FTX had no board of directors or CFO. Their books were sparse to non-existent (using Intuit QuickBooks for accounting). The total failure in management raises the question, how did FTX receive funding from top Venture Capital firms? Why was the exchange allowed to operate in the United States? Moreover, why did FTX hold so much influence over crypto regulatory measures? Additional players are involved in this scandal, some of which may be public-political figures, and more big names are likely to drop in the trials to come, beyond just Sam Bankman-Fried.