The crypto winter that began earlier this year with Russia’s invasion of Ukraine turned into a disaster with the default last week from crypto exchange FTX. Amid rumors that the fund founded by industry icon Sam Bankman-Fried was unable to satisfy its creditors, a massive sell-off by users of the platform accelerated both the demise of the company and a further drop in prices for some of the best in the world. cryptocurrencies. Bitcoin itself lost 25% of its value in a few days; today it is less than $15,000. A year ago, it was trading at $60,000.
While the end result for FTX remains uncertain, here are five key takeaways on what its collapse means for the digital asset market more broadly.
1. Unlike traditional financial institutions and exchanges where investors’ and depositors’ money is safe, crypto exchanges are much more risky. The reason for this is that, given the nature of cryptocurrencies, exchange users must transfer ownership of their holdings for their transaction to occur (meaning they are no longer depositors, but creditors ). This is why crypto traders should never hold their holdings on an exchange such as Binance or Coinbase. Given the volatility of cryptocurrencies, when prices drop significantly investors sell off quickly, this can make the exchange unable to satisfy investors’ liquidation demands – meaning users could have a tough claim on their holdings in crypto.
2. FTX isn’t just broke — it’s filed for Chapter 11 protection with the Delaware bankruptcy court, which favors a reorganization in an effort to satisfy claims from creditors (in this case, primarily merchants). The bankruptcy filing was preceded by a week of panic over the stock market’s financial health and an increase in withdrawals that only made matters worse. The end result remains uncertain.
3. The FTX episode could mark another milestone in the collapse of these private, permissionless cryptocurrencies once and for all. There was some optimism over the past month that once the dark clouds on the horizon caused by the pandemic and the war in Ukraine cleared, crypto asset prices would rebound. Now, there’s apparently something more structural going on, revealing that their — given that in the absence of full acceptance of cryptocurrencies, their price is only dependent on investors’ willingness to hold them.
4. There is good news to come from the FTX collapse, however: the revelation that cryptocurrencies might not be the golden hen for unsophisticated investors is a positive development for the markets. In the market microstructure, these investors are referred to as “irrational traders”, which are usually exploited by more knowledgeable traders. In the past, irrational traders have had too great an impact on prices, which is undesirable for an efficient market to work. Once they are gone, we may end up with a market that values crypto assets for what they are really worth.
5. This brings me to an additional point. Bitcoin, the most popular cryptocurrency, has no business model and therefore its price (and value) is in the eye of the beholder, and as such is always determined by the intersection of demand and supply. But the others (Ether 2.0, Cardano, Solana) should be seen as utility tokens much more than cryptocurrencies. In this sense, they facilitate decentralized financial transactions (DeFi), allow non-fungible tokens (NFTs) to have value, and are ultimately the currency of new Metaverse applications. They are the future. The good news is that we can start to see these tokens as sources of value and not as literal cryptocurrencies. To provide a useful analogy, we are now in a situation similar to the one we had just after the dot-com bubble burst in 2001, where true internet-based business models could finally surface.
Despite the collapse of FTX, I believe blockchain technology remains healthy and is the reality of many exciting initiatives that are revolutionizing our financial system and economies. Applications in financial markets, blockchain solutions to price carbon emissions, utility tokens that disrupt traditional internet platforms, smart contracts and digital assets as financial solutions for individuals and businesses: these are not just a few of the applications of the technology that will hopefully get the attention they deserve.