The collapse of FTX and subsequent arrest of its kingpin Sam Bankman-Fried has rattled the entire crypto world, while it is anticipated that this tsunami has already put another crypto exchange Binance into huge trouble.
In the aftermath of the collapse of FTX, many are justifiably concerned about the solvency of crypto exchanges. Sam Bankman-Fried’s fraudulent bucket shop may have been an outlier – court documents filed earlier this week by US authorities allege that some US$8 billion in FTX customer deposits were transferred to and lost by SBF’s “hedge fund” Alameda Research.
But following a decline in crypto prices, a drawdown of debt between highly interconnected firms and several bankruptcy filings that have locked up billions worth of assets in legal proceedings, it’s reasonable to wonder if there is as much money held on centralized, largely unaudited crypto exchanges as there should be.
This is part of the reason why users are taking possession of their own coins in recent weeks. Binance, the industry leading centralized crypto exchange, in particular has seen a significant drawdown in funds. Some of its largest clients, such as Jump Trading, have taken coins out, and the exchange moved to temporarily halt USDC withdrawals amid the surge (potentially to execute a token swap to its own stablecoin).
Earlier this week, Binance CEO Changpeng “CZ” Zhao referred to this trend as “business as usual”. He also reportedly told employees to brace for a few “bumpy” months ahead. The exchange had published a so-called “proof-of-reserves” report conducted by auditing firm Mazars showing, depending on which figures you include, it was either over- or under-collateralized in its bitcoin holdings.
Not to draw an unnecessary comparison to FTX, but CZ’s public comments this week are reminiscent of Bankman-Fried’s attempts to quell fears in early November amid a “run” on the exchange before it filed for bankruptcy protection. On November 7, SBF tweeted that client funds were safe and backed by deposits – a message he deleted after it became clear FTX was deeply in the red. It’s a comparison CZ himself is drawing.
“With Sam Bankman-Fried’s arrest, I think people generalize. So if you get hurt by one bank, you’re gonna think all the other banks are bad. If one politician is corrupt, you think all politicians are corrupt,” he wrote. “But the fact is that because one bank is bad doesn’t mean all the other banks are bad. And just because one politician is bad doesn’t mean all the other politicians are bad”.
This is all well and good – except that crypto exchanges are not, in fact, banks.
David Z. Morris of CoinDesk notes, the term “run on the bank” has been misapplied when talking about recent withdrawals on crypto exchanges. The phenomenon is similar: withdrawals beget withdrawals, fears over insolvency can compound and become self-fulfilling. But unlike banks, users simply have to take it as a matter of faith that exchange operators haven’t misused or lost customer funds.
Reuters reported the US Department of Justice was nearing the end of a multi-year investigation into Binance – one of several ongoing probes into the firm from global law enforcement agencies. Federal prosecutors may ultimately charge CZ and other Binance executives with money-laundering violations, a risk that has accelerated withdrawals.
FTX’s collapse was a startling turn of fate for what was once one of the most-trusted crypto companies. Bankman-Fried has gone from being the industry’s J.P. Morgan to its Bernie Madoff. It’s an event that has caused irreparable damage to crypto’s public standing. Binance, too, has an outsized role in the industry – and it can only be hoped – it is not another FTX.
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But if Zhao has to make low blows to a fundamental attribute of crypto to rescue is own exchange’s reputation, then it deserves to fail. To take an old line from Zhao, “some things are better left unsaid. Recommend no more news like these, for the sake of the people, our industry (and your business)”.
Plain words – following collapse of FTX, people need to be extremely cautious about Binance and other crypto corporations, because at the end of the day, each of these ventures may finally come up as Ponzi schemes. In my opinion, FTX collapse is not the last in the crypto world. Many more companies will follow this path – sooner or later.