The FTX collapse is a short term disaster for the crypto industry but, in the long term, it could be a vital wake up call.
Recap: Last week, FTX, one of the world’s largest cryptocurrency exchanges crashed in meteoric fashion. The crisis sparked a chain of crypto pessimism and market panic.
What happened to FTX? A recent CoinDesk article claimed that the balance sheet of Alameda Research — a crypto hedge fund owned by FTX founder- Sam Bankman-Fried (known in the crypto space as ‘SBF’), held billions of US dollars worth of FTT (FTX’s own cryptocurrency token) and that it was being used as collateral for further loans. Given their shared ownership (SBF), a drop in FTT’s value could be catastrophic to both businesses.
Inevitably, the value of FTT collapsed (plunging by 80% according to CNBC) as mass withdrawals ensued. Binance, the world’s largest crypto exchange, and its founder Changpeng Zhao, who had originally drawn attention to FTX’s alleged misdeeds, then stepped in to attempt a rescue. After just one day of due diligence his team walked away from the table, stating that the issues FTX faced were “beyond our control or ability to help”.
The Guardian notes that: FTT itself had no value beyond FTX’s longstanding promise to buy any tokens at $22, prompting fears that the whole institution was a castle built on sand.
MERJ’s Bobby Brantley & Jim Needham had some thoughts on the matter:
MERJ Exchange’s Head of Strategy, Jim Needham: For an industry that frames itself as building a newer, better, financial system, there have been a lot of really big mistakes copied from the past. At MERJ we have been asking ourselves the same question for years: Why does the crypto industry have to keep relearning the lessons of tradfi from 10, 30, 50 years ago?
It’s all very well to fail fast and learn from the mistakes, but all the recent crypto lessons — FTX, 3AC and Celsius — have been learnt before.
The rules and regulations that are applied to traditional markets are based on bitter experience, says Needham.
Exchanges, clearing houses, custodians, brokers, registries and CSDs, all operate under distinct licenses, and those licenses allow them to do certain activities on certain conditions. They are scrutinised and reviewed and pulled up if they are not doing their job properly. The system isn’t perfect but it’s a lot better than no system at all.
Does it sound smart to let a big centralised crypto exchange also have free rein as custodian and brokerage and lender and clearing house?
That in itself is pretty crazy, but to have that ecosystem strapped to the back of a big hedge fund which shares an array of complex interrelated risks and loans and derivative positions? With one man in charge! Who could have seen this coming…
In an analogous example, Jim wrote:
I love the The Big Short, which illustrates in a brilliant way, what happened during the credit crunch. The same credit crunch that spawned the Bitcoin white paper. To think 14 years later the crypto industry is very publicly making the same mistakes is kind of an embarrassment, both for the people who lead this industry and for the regulators.
It’s high time that crypto market infrastructure was brought into a sensible regulatory framework so that users can rely on high quality venues and supporting infrastructure. If operators are centralised then they should have grown up standards of transparency and governance. Forcing users to offshore unlicensed operations is not working for anyone but the rogues.
MERJ Clear & MERJ Dep Managing Director, Bobby Brantley added:
“This is the sort of thing that can and does keep happening with these totally unregulated, centralized exchanges and magic tokens.”
MERJ’s Bobby Brantley re-states the purpose and mission of MERJ:
As Managing Director of MERJ CLEAR and MERJ DEP, the two post traded entities that support MERJ EXCHANGE, it seems an opportune time to also highlight the following:
1. MERJ operates an exchange, clearing agency and depository (separate entities), follows IOSCO Principles for Financial Markets Infrastructure (PFMI) on all these activities, is regulated and we have been doing this for 10 years now.
2. We will never co-mingle participant (i.e. client) funds/assets with proprietary funds/assets.
3. We will never use participant funds/assets to make proprietary loans.
4. We have policies, checks and balances one would expect from a regulated FMI operator to ensure participant funds are safe and will not be misappropriated.
5. We have regulators and auditors that oversee our business activities. A particular focus of regulators and auditors is handling of client/participant funds.
Many in the #crypto / #DeFi world correctly say that regulation will not always catch bad actors before they commit bad acts. That is true. There are some amazing things happening with DeFi and there are some great use cases there, but DeFi has its own risks and deficiencies. In particular in the securities space.
To find out more, visit MERJ Today