by Brian DeChesare Comments (24)

Did the FTX Bankruptcy Kill the Crypto Star?

FTX Bankruptcy

I thought about writing an article on the 2022 U.S. midterm elections, but it’s a boring story with a low direct impact on the finance industry.

In the days after the elections, a much more interesting story emerged with the bankruptcy of FTX following massive fraud and a “liquidity crisis” at the company.

It’s the biggest financial scandal since Bernie Madoff in 2008, and if you haven’t been living under a rock, you’ve read about it by now.

And if you have been living under a rock, here’s a good 99-second summary.

Mainstream news sources have already covered the story extensively, so I want to take a different angle and comment on how “the smart money” fell for this scam and what it could mean for careers in finance.

The direct impact on fields like investment banking and private equity is limited-to-nonexistent, but if you’re interested in industries like sales & trading or venture capital, there will be some spillover:

The FTX Bankruptcy: What Happened?

FTX was founded as a cryptocurrency exchange in 2019 and gained over 1 million users by 2021, becoming the 3rd largest exchange by volume and earning over $1 billion in revenue.

It raised over $1.8 billion in these few short years, and one of its founders, Sam Bankman-Fried (“SBF”), became highly influential in political circles as “the adult face of crypto.”

He even appeared on the cover of Fortune, joining other business luminaries such as Elizabeth Holmes:

FTX and Theranos - Fortune

When crypto prices were skyrocketing in 2020 and 2021, FTX, like all crypto companies, seemed to be doing well.

But as crypto prices began crashing in 2022, FTX claimed it was still doing well, even as other platforms failed (see: Celsius and Voyager and the fall of the Terra network).

FTX went around buying up other distressed and bankrupt crypto platforms, prompting Jim Cramer to proclaim that SBF was “the new JP Morgan”:

Jim Cramer on Sam Bankman-Fried

As recently as September, the company attempted to raise $1 billion at a $32 billion valuation, defying the massive drop in the rest of the sector.

Sam Bankman-Fried’s net worth grew to ~$26 billion earlier in 2022 but had fallen to only “only” $16 billion by October.

And then everything came crashing down in a few days of November 2022, with FTX filing for bankruptcy and SBF’s net worth falling to ~$0 almost overnight.

But these statements are misleading because, in reality, SBF and FTX were never worth that much – it was a giant fraud.

A normal exchange accepts customer funds, earns commissions on trades, and keeps all customer funds available 1:1 to meet withdrawals.

FTX, on the other hand, had taken customer funds and used them to prop up its failing hedge fund, Alameda Research, and make speculative bets on tokens and companies that are now worthless.

It’s a bit like if you deposited money into a Vanguard account to buy stocks, and then Vanguard took your money, bought penny stocks without your authorization, lost everything, and said, “Oops, sorry.”

It sounds like an insane conspiracy theory, but it happened at FTX.

The specific catalyst was that the CEO of a rival exchange, Binance, announced that his firm would sell all its “FTT” tokens, which led to FTX customers panicking and attempting to withdraw more money than FTX had available.

The FTT token was FTX’s creation, most of which belonged to FTX and its hedge fund Alameda Research.

FTX propped up the token’s value and claimed it was worth far more than it was, which fell apart as soon as Binance tried to sell its holdings.

As Matt Levine wrote, the FTX Balance Sheet contained mostly junk, including $5.5 billion of illiquid crypto tokens, $3.2 billion of VC/PE investments, and only $900 million of liquid assets… against $9 billion of liabilities.

Visual Capitalist also has a good summary.

Based on these numbers, it seems highly unlikely that FTX customers will recover much of their money.

One distressed asset management firm, Cherokee Acquisition, published these estimates:

FTX Bankruptcy - Estimated Recovery Percentages

And even this ~10% recovery is questionable because we need to see a “real” Balance Sheet from FTX, not the leaked one that has been circulating.

What’s the Next Shoe to Drop?

Since the FTX news broke, various other exchanges and lenders have failed or “suspended withdrawals,” including AAX, BlockFi, and now Genesis.

It appears that many of these exchanges were transferring crypto back and forth to each other to make themselves look healthier than they are, so I assume that more failures are looming.

The big one is Binance, which already has many regulatory problems, but another candidate is Bitfinex / Tether, as it might just be a giant scam behind all these other scams.

I hesitate to give “investment advice,” but if you still own any crypto after all this, you need to move it off exchanges and into your own wallet ASAP.

Since the entire crypto ecosystem is intertwined, with miners, lenders, and exchanges all propping up each other’s tokens and revenue, this contagion could spread far and wide.

The more interesting question is how much this scandal will hurt the venture capitalists and other institutions that invested in FTX and similar platforms.

My answer is “a lot.”

They’re all going to be hit with lawsuits from their Limited Partners, and a class-action lawsuit has already been filed against celebrity FTX backers like Tom Brady and Steph Curry.

I’ll also boldly predict that this may greatly diminish top VC firms like Sequoia and a16z (no direct exposure but tons of other crypto investments).

They won’t “die” because they still have active funds and portfolio companies, but they’re also not going to do much in crypto anymore and might have difficulty raising future funds.

VC firms that didn’t go all-in on crypto might fare better, but there will still be some spillover.

FTX Bankruptcy: How Did the “Smart Money” Fall for This Scam?

The FTX investor list is impressive: Sequoia, SoftBank, the Ontario Teachers’ Pension Plan, New Enterprise Associates (NEA), Tiger Global, Third Point, BlackRock, Thoma Bravo, and dozens of others.

If you read the ridiculous, now-deleted company profile by Sequoia, you can get a sense of how “taken” they were:

FTX Sequoia Evaluation

There are a few factors, but FOMO (“fear of missing out”) and groupthink are at the top of the list.

This is surprisingly common in finance, where people often assume that if Reputable Investor X puts money into a company, it must be a good company.

Who cares about due diligence when you have to decide on an investment within the next 12 hours or be cut out?

When money is easy, and there are manias in crypto, equities, and startups simultaneously, this gets even worse.

Another issue is that FTX did not necessarily start as a fraud.

We don’t know the exact timeline, but the company might have been quasi-legitimate in 2021 when these firms invested.

Sure, VCs need to monitor their portfolio companies, but they don’t always do so in much depth.

The real red flag is that no outside investors put independent directors on FTX’s Board.

That’s just inexcusable, and I’m not sure how firms like Sequoia could justify it; these independent directors specifically act as checks and balances on the company.

Finally, wealthy people such as venture capital Partners are often quite disconnected from reality, and it’s even worse when everyone works remotely.

In their world, new technologies like crypto, AR, VR, the Metaverse, etc., are always poised to take over – even when normal people think they’re a joke.

FTX Bankruptcy: Takeaways, Industry Outlook, and Predictions

I’ll start with the good news:

1) The Direct Impact on IB/PE/HF Careers is Low-to-Nonexistent

There are a few hedge funds with crypto holdings on FTX, such as Ikigai, but for most mid-sized-to-large funds, crypto assets are rounding errors.

Similarly, a few PE firms, such as Pantera, focus on “blockchain technology,” but they’re tiny, and the larger players do nothing or almost nothing in the space.

Some banks, such as Moelis, have made noise about crypto advisory, but there hasn’t been much IB-scale deal activity yet.

2) Institutional Interest in Crypto is Dead or Will Die Soon

After this scandal, institutions like asset management firms and large banks will be very reluctant to touch crypto for a long time.

Existing teams might stay in place while these companies figure out what to do, but don’t count on much new hiring.

If you were thinking about crypto as a sales & trading exit opportunity, you should cross it off the list for now.

Governments will almost certainly step in and attempt to regulate or shut down the sector, so the range of outcomes here is wide – but none of it looks good.

3) FinTech and VC Firms Will Also Take a Big Hit

The problem here isn’t that FTX “failed”; startups fail all the time, and Limited Partners in VC firms expect many investments to become worthless.

The problem is that this failure directly damaged 1 million consumers, and most will lose 90%+ of their money.

FinTech and venture capital were already having a bad year, and this incident takes it from bad to worse.

Some VC firms did nothing in crypto, and most FinTech firms have nothing to do with crypto – but that’s not how human psychology works.

Anything involving “tech” and “finance” will get more scrutiny from now on.

VC will survive as an IB exit opportunity, but its growth will be limited, and there will be fewer spots at the top firms.

4) (Some) Crypto Will Survive, But It’s Back to Square One in Proving Itself

Many crypto enthusiasts say that Bitcoin is “different” from altcoins, NFTs, etc., and that the FTX disaster happened because it was a centralized exchange with terrible governance.

They are partially correct: decentralized exchanges/platforms have held up better than centralized ones, and Bitcoin and Ethereum have been less disastrous than altcoins and NFTs.

But let’s be honest: crypto – including Bitcoin – is mostly used for speculation or illegal activity.

It has effectively been a levered version of the S&P 500 or NASDAQ for the past few years.

There’s nothing inherently wrong with speculation, but digital tokens built for gambling will never take over economies or displace fiat currencies.

The biggest problems with crypto as a whole are:

  1. Most Transactions Do Not End Up on the Blockchain – Even if you think you are trading something decentralized, you’re probably not. To see this, look at the Bitcoin blockchain transactions since 2017 vs. the trading volume on Coinbase over the same time frame. Transactions are recorded on the exchange but not necessarily on the blockchain.
  2. There’s No Floor or “Buffer” – With fiat currencies, central banks can take specific actions to defend the value if someone tries to crash the currency. And with precious metals like gold and silver, there’s industrial demand, so even if no one used them as “value stores,” they would still be worth something.
  3. It Doesn’t Scale for Payments – Again, see the transaction chart above. There is an inherent tradeoff between security and speed, so solutions that make Bitcoin more efficient also make it less secure. Visa can process 24,000 transactions per second, while Bitcoin does… 7. And yes, the Lightning Network “fixes it” – but only by moving transactions off the blockchain! (see point #1)

These issues don’t mean that crypto is doomed, just that it will keep going through speculative boom-and-bust cycles without much real-world adoption outside of niche use cases.

Things might change if the underlying technology advances significantly, but I don’t see it happening anytime soon.

I’ve been wrong about other topics, and maybe I’m wrong about this one – so  if you disagree with my assessment, feel free to keep hodling.

But no matter what you do, avoid the exchanges, and keep everything in your own wallet.

Losing money is bad, but ending up as one of the 1 million creditors in a large bankruptcy case is even worse.

About the Author

Brian DeChesare is the Founder of Mergers & Inquisitions and Breaking Into Wall Street. In his spare time, he enjoys memorizing obscure Excel functions, editing resumes, obsessing over TV shows, traveling like a drug dealer, and defeating Sauron.

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  1. What are your thoughts on leaving crypto in a hot wallet tied to an exchange? i.e. Coinbase wallet?

    1. My thoughts are that I don’t want to spend more than 5 seconds per year thinking about crypto at this point.

  2. Hey Brian,

    Great article here. I was wondering if you could address an unrelated concern of mine that I’ve had for a while. I’m currently slated to work as a summer analyst at a BB this summer (GS/MS/JP). Given reports of hiring freezes/layoffs and the horrible economic outlook, do you think I should be worried about return offers being much lower than usual? I’ve gotten conflicting responses from my peers and would love to have your input.

    I’ve also read your article about how to best prepare for the summer internship. Do you think that I should complete an excel course before starting, and if so, how advanced should the course be? I just wanted to get a sense of how much ground I need to make up before the summer starts. Thanks as always.

    1. Thanks. Yes, the return offer rates will likely decrease if the macro environment stays bad by the middle of next year. But it varies so much by bank, group, and location that no one can say for sure. There’s also not much recent precedent for a market completely tanking in the span of 1-2 years (the last time this happened was 2008, and most people from back then are long gone).

      All you can do is 1) prepare as best you can or 2) not take the internship too seriously and recruit for other roles afterward. I would recommend #1 because you never know what will happen, and it’s much harder to get an internship than to win a full-time offer from it.

      You should ideally learn Excel and PowerPoint fairly well in the ~1 month before you start so you don’t forget anything. I’m not going to say, “Take our courses,” but we do have courses that are specifically geared toward IB and go up to fairly advanced material (Power Pivot and macros/VBA/outside tools in Excel).

      If you want other options, it’s important to understand navigation, formatting, and formulas like INDEX/MATCH and XLOOKUP in Excel and related ones like INDIRECT. But I don’t think you need to know VBA, Python, etc. – if you have the time, sure, but they’re unlikely to come up for interns or even full-timers. It’s more important to understand how to use common macros and plugins that banks might have and what their limitations are (e.g., “Undo” is limited or doesn’t work at all).

  3. Too Loose Low Trek

    Crypto – of any kind – is a computer digit. If you have any, why bother creating your own “private wallet”? Take what you can, while you can. 0 + 0 still = 0.

    1. While I agree with your skepticism, I don’t think the fact that crypto “isn’t real” makes it worthless. There are plenty of other digital assets that are worth something (e.g., credits or tokens in online games) because they have specific use cases such as saving people time or allowing them to have more fun while playing. Crypto’s only use case is pure speculation, and it’s backed by nothing and has no cash flow (maybe some exceptions for cases like transferring money out of corrupt 3rd world countries).

  4. Hey Brian – Looks like most of the major governments are piloting digital currencies, do you think they’ll be rolled out in the next 5 years? If so, do you think we’ll see a major restructuring of the financial system?

    Professor David Yermack at NYU points out that with a digital currency, traditional banks won’t be needed anymore, because consumers could work directly with the central bank (solving lots of problems i.e. no more bank runs because the CB can print currency)

    Any thoughts on blockchain tech in general? In theory, we could replace most accountants and many attorneys with blockchains & smart contracts, and there are many industry applications in supply chains, entertainment, etc.

    1. I am very much against CBDCs because they do absolutely nothing for the average person and are just another way to enslave people and force them into behaving certain ways. Of course, this means that governments will probably try to introduce them, and then it will go poorly and screw up the financial system and economy even more. After the past few years, I’ve given up predicting what will happen because we’ve seen that governments have an infinite capacity for stupidity and self-destruction.

      Eliminating all private banks from the system is a terrible idea because then the government becomes responsible for the entire money supply rather than just a good chunk of it (private banks issuing loans are still responsible for most money creation). There’s a case to be made for central banks being the lenders of last resort, but they shouldn’t be doing anything other than that. They’ve vastly overstepped their bounds.

      Blockchain mostly falls into the category of “a solution in search of a problem.” Similar to what happened with technologies like mobile, Web 2.0, AI, etc., people assume that everything can/should be on the blockchain, when it’s often a worse solution and it solves only very specific problems. Lawyers and accountants have existed for hundreds/thousands of years and are not going away as long as humans exist.

      I can’t find it right now, but there was a good article on Hacker News about a few legitimate use cases for blockchain/crypto and why a lot of the ones people are talking about now aren’t actually viable.

  5. Hi Brian, I know this article doesn’t have anything to do with it but I just wanted to ask somewhere:

    I am a final year master finance student at semi-target (did bachelor in home country where IB is non-existent).I have internship experience in operational risk in big 4,military and volunteering experience and some additional extracurriculars but no finance or IB internship experience. I tried to apply for IB internships in EMEA countries(I currently study/live in one of them), but I was limited by some language requirements and penultimate year requirements(couldn’t complete internships last summer since I was still in service). Eventually I applied to over 50 IB M&A/Capital Markets/ ER etc internships, I think I got assessments from 20 of them, in about 10 of them I did great (according to the automated report) but I had a single unsuccessful interview at a MM bank with no success and all the other companies interested in interviews so far are f500 for CF roles or Big 4 firms, with banks ghosting me for 1-2 months ( but only a couple rejected me outright).
    My point is since I am in my final year should I:
    a) give up and go to work to transaction M&A at big 4/valuation advisory firms and try move to IB as a lateral 2-3 years later?
    b) keep trying for internships (for instance off-cycle, is this still possible even after graduation?)
    c) apply for full time roles if I see any openings?
    Thank you in advance and keep up the AMAZING work you do in this site.

    1. I would go for Option A and take the Big 4 or valuation advisory firm offer and move into IB as a lateral hire in a few years. You could keep applying for for off-cycle or full-time roles, and it might work eventually, but if you are already working full-time, you’ll have a higher success rate in winning interviews and converting them into offers. It’s also somewhat easier to do this in the EMEA region because there’s less Associate hiring out of MBA programs, so they rely more on promotions and lateral hires.

      1. Thank you Both, Brian and Isaac!

      2. Got a recent update (sorry for off topic once again).
        Apparently I am invited to the final assessment center for Corporate-investment banking (credit risk) of a BB bank. I am especially surprised since it is a full-time/graduate position. Any short tips for success there compared to the IB interviews featured in this site? Will I be in a particular disadvantage compared to other more experience candidates or since I came this far, only the interview performance matters?
        Thanks in advance Brian.

        1. Congrats! We don’t have much on corporate banking interviews here aside from the coverage in the corporate banking article and the IB Interview article. I’d say focus on accounting and credit questions and make sure you have a solid story for why you’re moving from operational risk to credit risk (e.g., more modeling or technical exposure, opportunity to work with clients over the long term, etc.). For the AC itself, the biggest point is to keep your arguments in case studies and group exercises very simple, volunteer for the boring-but-necessary tasks like time-keeping, and always have something to present in the allotted time even if you simply or have to skip certain parts.

          In ACs, your actual performance tends to matter most because only part of your time there might consist of traditional interviews. So there’s less room to ask people about their qualifications/credentials in quite the same way. I wouldn’t worry about other candidates. Some will have more or less experience than you, but you can always perform better than them and win the offer.

          1. Thank you so much Brian.All the best!

    2. Hi Aris, I’m not Brian, but what i can say is: those 3 options aren’t mutually exclusive lol. You can do all of them concurrently

  6. Isaac Chan

    Is the ‘leaked’ FTX balance sheet circulating around the internet legit or not? Cuz if it is (which I suspect so, cuz it’s been published by major sources such as the FT), it’s mind-boggling to think why the big boys like Sequoia, Canada’s teacher’s pension fund, Blackrock, Paul Tudor Jones, Izzy Englander amongst others had no issue with it. Looks like a 5 y/o put it together – apparently SBF did it himself

    Corporate governance on the BOD was a joke – all directors were of the same background (finance), no tech people involved. Shitty groupthink, almost seems like these investors didn’t take Finance 101.

    I was surprised you didn’t do more of a deepdive on ChangPengZhao, his assraping of FTX seems like the mastermind behind all this, I wonder if this would consolidate his power. It reminds me of GS assraping LTCM when LTCM begged GS to take over their portfolio – GS did their DD, downloaded all of LTCM’s positions and traded against them. Crypto exchanges starting to resemble the banks and HFs of the past.

    And finally I was curious about FTX’s speculative bets using customer funds. Because this isn’t rlly out of the ordinary – regular deposit-taking banks invest their depositors’ funds too. It’s just that banks have a lender of last resort, are better regulated, and have capital restrictions, but crypto exchanges don’t. Therefore the act itself isn’t a problem – it’s the extremely risky bets they took and insane leverage (10: 1) which is the problem. Thoughts?

    1. The leaked Balance Sheet is probably close to the real thing, but may not be quite accurate. This type of thing is very common among small businesses (some do not even have real financial statements), but it is mind-boggling here for a company with 1000+ employees.

      I originally had a section about CZ/Binance and why this entire incident is not quite the same as what banks do, but the article was too long, so I deleted it. I agree that something shady happened here, and I think Binance has some major issues that could ruin them in the future. But the company is so opaque that it’s hard to even make an assessment.

      As far as the comparison to banks’ business models: yes, it’s similar in that banks issue loans and do not keep enough cash/liquid assets on hand to meet 100% of potential withdrawals. But everything else is quite different.

      Besides the regulations and regulatory capital requirements (minimum common equity relative to risk-weighted assets, etc.), banks can also borrow from the central bank of the country or from other banks if they really need cash to meet withdrawals. Also, depositors at banks have insurance up to $250K in the U.S., so losing money is highly unlikely unless they have more than that in their accounts.

      Another difference is that when banks issue loans, the borrowers could default, but most of these loans have collateral, so the banks could seize the borrowers’ assets to avoid a complete loss. And even if the company collapses and the loan does not have collateral, the bank could recover something in the bankruptcy/liquidation process.

      Finally, everyone knows that banks do this because it’s part of their stated business model. FTX never had customer authorization to transfer their funds to Alameda or invest in altcoins or risky startups or do anything other than maintain their accounts on the exchange.

      So… yes, the risky bets and insane leverage and lack of regulation are all issues, but even if you ignore all that, FTX still misused customer funds.

  7. Todd Howler

    Working on the FTX bankruptcy case would honestly be really fun and interesting. Also, do you have any thoughts on Matt Levine’s piece talking about crypto needing a central bank?

    1. Potentially, but I think it would be more “entertaining” than informative as you learn about all the ridiculous antics at the company (if you can even call it a company).

      Regarding a central bank in crypto, it falls into the same category as these other problems: yes, it fixes one big issue, but it also removes a key feature of crypto that is supposedly critical (decentralization). So I’m not sure if it could even be called crypto if a central bank existed.

    2. LOL i second this

  8. Are you bearish on crypto then

    I think you were still holding crypto in one of your portfolio update

    1. I sold almost everything in Q1 of this year (I still have maybe ~0.0001% in some random things on Coinbase I can’t sell). I would buy more only if monetary conditions flipped once again and we entered speculative frenzy 2.0.

  9. Patrick Bateman

    Excellent article, thank you for the summary Brian

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