This week, a major crypto crash happened, and the industry got to watch it in real-time. The US-based exchange FTX collapsed in spectacular fashion. With its collapse went billions of dollars in customer assets, an entire cryptocurrency, the security of the infrastructure, and some of the trust in the industry.
What was FTX?
FTX was, until this week, a trading platform for cryptocurrencies. Like its competitors, it made it possible for subscribers to buy, sell, and trade currencies from a variety of platforms, including Bitcoin and Ethereum. The way an exchange works is that users transfer their assets into an online wallet operated by the exchange, in this case, FTX. Then, FTX acts as the middleman to make the process of buying and selling crypto assets on behalf of the customer. Essentially, the exchange becomes the custodian of the assets and completes exchanges on their behalf.
With any exchange, there is risk involved. For example, if the exchange gets hacked, the assets under their management can be stolen by direct transfer to other wallets owned by the hackers. This is a scenario we have seen play out repeatedly over the years. The other risk involves the trust around the exchange itself. Similar to giving someone your idol in Survivor to hold for a Tribal Council, you have to trust that the exchange will give you back your assets when you ask for them. There begin our problems for users of FTX.
The FTX Money Pit
From a legal standpoint, a licensed exchange is obligated to return to you the assets you have stored with them upon request. However, that is not always the case. For a variety of reasons, an exchange may not be able to return all assets upon request, but they must do so within short order. However, in the case of FTX, there's a problem - there is an absolute fortune worth of assets currently missing. Insiders estimate that between $1 billion and $2 billion worth of customer assets are currently missing in action.
Insiders believe that there is a backdoor in the exchange's systems, which allowed founder Sam Bankman-Fried to transfer funds out of FTX and into his trading platform Alameda Research. This would mean that Bankman-Fried was embezzling billions form his customers, creating almost Ponzi scheme style scam, where he was taking money from one set of customers to prop up another.
In his defense, Bankman-Fried claims that there is no back door in the system and that there is simply a labeling issue as to what the transfers are about. No matter the reason, there is still an almost unimaginable amount of money simply missing, and his name appears to be all over it.
What's next for FTX?
The company filed bankruptcy this week, after an announced buyout by competitor Binance was canceled. Initially it was a mystery as to why they backed out, but upon further investigation, it would appear that a simple look inside the doors was enough to send CEO Changpeng "CZ" Zhao running away as quickly as possible. Bankruptcy will likely spell the end of assets for many people, especially those whose assets are currently missing. It could also end in legal trouble for the executive team across the globe.
In the US, the handling of assets could put the team in front of the Securities and Exchange Commission, a place no one in the finance world ever wants to be. It can end in heartbreak, bans from the industry, or even prison time. In Bahamas, the company is under a criminal investigation over the missing assets.
What should users do next?
First and foremost, any assets in the FTX platform that can be removed should be. With the bankruptcy filing, that may no longer be possible for the time being. However, if you can get out, do so.
In addition, there appears to be security issues within the system itself. Users have reported that funds have been removed from their bank accounts linked to the FTX platform. All users should immediately sign into their bank accounts and remove the authorized access to the FTX exchange. Then, change your password for your online banking, just to make sure that all possible connections are severed. Plaid, the company's financial connector, has also announced that they have severed the connections on their end, but you should still do your own due diligence.
This drama has only just begun, and we will try to keep you updated on the latest moves made in and around the drama.