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In our most recent communication, the saga surrounding the FTX exchange was just beginning. We told you how the revelations of Binance’s CEO had created a real run to the bank at its competitor FTX, which ultimately led to the discovery of the company’s insolvency. Exactly one week ago, Binance announced an agreement in principle to buy out its competitor in order to protect investors’ assets.
… And it was short-lived. Just one day later, after what seemed like an easy skim of FTX’s books, Changpeng Zhao quickly announced that he was backing away from acquiring the exchange, as the latter’s finances were simply too bad. On November 11, FTX CEO Sam Bankman-Fried announced that the company was filing for bankruptcy and that he was stepping down from his position. The company’s sister entity, algorithmic trading firm Alameda Research, its U.S. subsidiary FTX.US and approximately 130 affiliated entities are included in this bankruptcy. In short, an earthquake so strong in the industry that it can be called a Black Swan. To add insult to injury, the FTX exchange was hacked at a suspicious time on Sunday, with $477M in assets stolen from the bankrupt company’s reserves. Since then, it’s been the domino effect that’s been shaking up companies with exposure to FTX… and there are many.
Crypto lending company BlockFi has suspended withdrawals from its platform and according to information gathered by the Wall Street Journal, it is reportedly preparing to file for bankruptcy protection as well. Just hours ago, Genesis Global Capital, a firm that serves institutional clients and had $2.8 billion in total active loans at the end of the third quarter of 2022, announced the suspension of withdrawals from its crypto lending arm. Genesis’ trading and custody services remain fully operational.
According to new court documents, more than 1 million creditors may have claims on the bankrupt exchange FTX. In a document submitted to the Delaware bankruptcy court, FTX attorneys argued for a change in the usual rules to accommodate the large number of entities owed money in the case. One of those creditors is the asset management firm Paradigm, founded by Matt Huang. The firm’s website currently lists FTX and FTX.US in its portfolio. Reports suggest that its investment in the exchange is about $278 million. California-based hedge fund Ikigai Asset Management had a “vast majority” of its assets on the defunct FTX exchange, according to the firm’s founder and chief investment officer, Travis Kling. All indications are that the fund will not survive the crisis.
When you compare yourself, you take comfort. The market downturn is certainly not positive for the Rivemont Crypto Fund, no one escapes such a crisis. However, we have no exposure to FTX, having always opted for highly regulated partners. The fund uses the Gemini platform, which quickly confirmed, although we already knew, that “Gemini is a full reserve exchange and custodian. This means that all client funds held on Gemini are held 1:1 and can be withdrawn at any time.” It goes on to say, “For the avoidance of doubt, Gemini has no exposure to FTT tokens or Alameda and no physical exposure to FTX.” In short, investors’ funds remain completely safe.
The dust is only beginning to settle as it becomes clear that some companies will be fatally caught in the nets woven by this crisis. Nevertheless, lessons and conclusions are already being drawn. The first is that the future of the industry is likely to be regulated, rather than taking the easy way out via companies established in tax havens. Again, it is not just an example of mismanagement, but truly fraud schemes and absurd risk management leverage strategies that are bringing down this house of cards. The regulators themselves now have all the arguments to put in place a framework that protects investors. In the long run, this will lead to a higher level of confidence, which has been severely eroded today. So while institutional investors are certainly chilled in the short term, the path to a framework they can truly fit into may be starting to be paved.
There is also a certain irony that deserves to be raised. Bitcoin came into being as a result of and in response to the crisis of 2008, where it was irresponsible leverage strategies that led to the collapse of the centralized financial structures involved. Bitcoin serves precisely to avoid the need for such entities. That is its fundamental proposition. What we are witnessing today is not a flaw in bitcoin, but quite the opposite. Profit-hungry centralized structures in an insufficiently regulated industry have used cryptocurrencies in the same way as these financial products did 15 years ago. The result is the same. It is another failure of centralized finance coupled with the greed of its players and subsequent mismanagement of risk. Bitcoin is not the source of this problem, it is still a solution.
In the search for solutions to bring confidence back to the markets, Chanpeng Zhao is trying to take the lead. Zhao said that Binance is working on implementing a new proof-of-reserve protocol developed by Ethereum co-founder Vitalik Buterin. The proof-of-reserves protocol, which has been around for some years, uses the Merkle Tree algorithm to integrate a large amount of data into a single hash and efficiently verify the integrity of the data set. He says any exchange should incorporate such a protocol. “Typically, we need a third-party auditor to be involved. Unfortunately, our number one third party auditor was kinda busy as they are also the auditor for FTX reserves, and you know, there’s a bit of scrutiny there,” Binance CEO said
Binance is also building an “industry recovery fund” to help projects weather potential liquidity crises. “To reduce the cascading negative effects of FTX, Binance is forming an industry recovery fund to help projects that are otherwise strong but in liquidity crisis,” CZ wrote. Several prominent crypto figures, including Tron founder Justin Sun and BankToTheFuture CEO Simon Dixon, have already expressed their willingness to join the initiative. “Let’s make this an industry effort,” Dixon wrote.
One thing is for sure, while we were consistently finding buyers and fewer sellers in the fall consolidation channel, we seem to be seeing the capitulation phase of the cycle, where tokens are moving from worried investors to those preparing for the next cycle. In retrospect, these are often the times that are ideal for entering the market and thus maximizing one’s future return on investment. This is especially true since it is not problems or a move away from cryptocurrencies that are creating the downside here, but the companies around them.
The fund remains in a defensive position but was still strongly affected by events. Its positioning is about 40% in BTC, 40% in cash and the majority of the rest in ETH.
Rivemont Investments, manager of the Rivemont Crypto Fund.
The presented information is as of November 16th, 2022, unless otherwise indicated and is provided for information purposes only. The information comes from sources that we believe are reliable, but not guaranteed. This statement does not provide financial, legal or tax advice. Rivemont Investments are not responsible for any errors or omissions in the information or for any loss or damage suffered.
