Nickel Research Centre

Nickel News Roundup - Week 46

17th November, 2022

Market Overview:

Digital assets had a relatively stable performance compared to last week, but market mood remains on edge and media coverage was devoted almost exclusively to the continuing fallout of FTX’s failure.
  • Digital assets continued to cool down this week, as a brief bounce following better-than-expected CPI figures gave way to non-stop deconstructions of FTX’s failings
  • Bitcoin hit a weekly high of $17,980 late on Thursday, but failure to break through $18,000 led to a decline to depths of $15,890 on Monday
  • Bitcoin’s current price of $16,520 represents a 3.8% weekly decline 
  • Ether hit its weekly highs and lows at similar times, ranging from $1,339 to $1,179
  • Ether’s current price of $1,192 equals a 5% weekly decrease
  • Total Ether supply remains below its pre-merge levels, but the rate of burn did slow down as liquidations and panic lowered—leading to a current net annual supply growth of a flat -0.01%
  • Overall market capitalisation declined to $831bn
  • According to industry monitoring site Defi llama, total value locked in DeFi this week across all blockchains and platforms remained relatively stable (with losses from the Solana ecosystem equalised by growth on Ethereum), for a current $43.3bn

The collapse of FTX and Alameda Trading continues to rock the digital asset industry, but after triggering massive losses last week, markets generally traded in a much more steady fashion after the initial shock abated. The emergence of more details regarding Sam Bankman-Fried’s crumbling empire cast a long shadow over the industry, with reporting dominated almost exclusively to its consequences. However, despite the significant narrative gloom there were several positive developments; centralised exchanges moved towards greater transparency, some of America’s largest banks announced a collaboration with the New York Fed on a digital asset proof-of-concept, and JP Morgan analysts theorised that whilst the FTX episode represents “one step back” for the industry, its role as a potential catalyst for regulation could ultimately bring the entire space “two steps forward”.

What happened: FTX collapse dominates industry narrative

How is this significant?
  • Following the recent dramatic implosion of Sam Bankman-Fried (aka SBF)’s digital asset empire, mainstream media coverage this week was devoted almost entirely to the ongoing consequences of their collapse
  • Reporting went wild over crypto twitter, so the following represents only a small fraction of all the theories and “insider disclosures” published online over the last week, with an effort to concentrate on the factual rather than widespread salacious gossip and hearsay (none of which does any favours to FTX or Alameda executives)
  • One of the key revelations following the FTX Group’s Chapter 11 bankruptcy filing last week was that Bankman-Fried’s trading firm Alameda Research “used billions of FTX customer funds” to pay for loans, using FTX’s FTT token as collateral; but when the value of FTT nosedived, they were left with insufficient value to return funds 
  • Notably, this was done entirely without customers’ knowledge or consent, and against the exchange’s own terms of service
  • Reuters reported that “between $1bn and $2bn” of customer funds were completely missing thanks to these clandestine inter-company loans, which amounted to $10bn in total 
  • Sources told Reuters that Bankman-Fried engineered a secret software “back door” [which SBF denies] that allowed transfers to Alameda without triggering any book-keeping alarms
  • FTX employees told CNBC they were totally blindsided by recent developments, with only 4 or 5 top level executives believed to have any knowledge of the practices
  • Further drama followed when a hacker syphoned about $400m of tokens off the exchange when FTX representatives were in the process of consolidating digital wallets into cold storage for the bankruptcy proceedings, with the FTX website severely compromised
  • The hacker is currently speculated to have been an insider using privileged access, but may have exposed their personal information to digital asset exchange Kraken
  • They converted a large proportion of their illicit gains into Ether (raising some concerns about their possible influence on the ecosystem as a validator), although major exchanges like Binance and Huobi blocked the deposit of tokens from the exploit 
  • The New York Times published an interview with Bankman-Fried, detailing his empire’s downfall; but they were widely criticised by multiple publications both within and without the digital asset industry for running a “softball” story or “puff piece” without properly addressing any concerns about fraud and malfeasance
  • Bankman-Fried was interviewed by Bahamian police on Saturday, according to Bloomberg
  • FTX’s international registration further complicated developments. FTX is headquartered in the Bahamas, where the Supreme Court appointed PwC as provisional liquidators
  • However, their Chapter 11 bankruptcy filing was done in the United States—the Bahamian liquidators argue the firm wasn’t authorised to do so, as “FTX digital markets” is a Bahamian entity, falling under Bahamian law
  • Furthermore, on Monday Bahamian Securities regulators denied FTX’s claims that they opened withdrawals for Bahamian clients at their behest
  • Because the majority of FTX executives are based in the Bahamas, this led to widespread (unconfirmed) speculation (and alleged insider claims) on Twitter that SBF manufactured this order so that insiders could withdraw their funds from the exchange
  • Bahamian prime minister Philip Davis declared the investigation of FTX as the nation’s number one priority, announcing plans to update their regulatory framework to leave the island nation with an “enhanced reputation as a solid digital assets jurisdiction”
  • On Tuesday, it was reported that Bahamian authorities are in talks with their US counterparts about sending him to the US for questioning, although nobody connected to FTX has yet been arrested
  • On Wednesday, Reuters reported that Bankman-Fried is being sued in US Court over offering yield-bearing accounts to customers in Florida
  • The Senate Banking Committee announced a hearing about FTX’s collapse for next month 
  • On the other side of the Atlantic that same day, Bank of England governor Andrew Bailey opined that, whilst the failure of FTX was certainly significant, “Our view generally is that it’s not large enough to be systemic…I don’t think there’s a systemic fallout from FTX”
  • In an interview with Vox, Bankman-Fried admitted that his previous talk about ethical behaviour and conduct in business had been “PR” bluster, but blamed overleveraging and bad accounting practices—exacerbated by the interdependence of FTX and Alameda—for the misuse of customers’ funds, rather than outright corruption
  • SBF stated that he saw the bankruptcy filing as a mistake, believing “everything would be 70% fixed” if he hadn’t, and claiming withdrawals could have opened up again in a month after he secured extra capital
  • He claimed to be actively fundraising for the $8bn required to make users whole, although he added that even if he successfully raises capital, it will still have to go through approvals processes from bankruptcy administrators

What happened: Calls for regulation and global standards intensify after FTX collapse

How is this significant?
  • One of the most predictable corollaries of the FTX collapse has been a wave of calls from regulators, declaring the episode as proof of the need for more regulation
  • US Treasury Secretary Janet Yellen said that “although at this point [it] doesn’t pose broader threats to financial stability”, “this entire sector” was still in need of “very careful regulation”
  • A key takeout from the Alameda Trading episode was the need for a legal framework on “segregation of customer assets. The notion you could use the deposits of customers of an exchange and lend them to a separate enterprise that you control to do leveraged, risky investments—that wouldn’t be something that’s allowed”
  • CFTC Chairman Rostin Behnam said the FTX tale showcased the need for his agency to be the top crypto watchdog
  • In an interview he said “I’m hopeful that this will elevate the urgency for Congress to act to pass legislation that would give the CFTC more authority to regulate cash markets [and digital assets]”
  • SEC Commissioner Hester Pierce—regarded as a pro-blockchain voice within the Commission—also called for greater regulatory transparency, but said regulators had to shoulder some of the blame
  • Speaking to Bloomberg, she said “Questions on lack of jurisdictional clarity are partly our fault, because we’ve had opportunities, we’ve been asked time and again to provide more clarity about where our jurisdiction lies, and we’ve not done so”
  • Pierce said that the SEC’s approach thus far has been based on “enforcement” after the fact, rather than working with industry players to develop “guidelines that make sense”
  • US Senator Pat Toomey echoed those sentiments, tweeting “Congress’ failure to pass legislation creating regulatory guardrails for crypto trading, combined with the complete hostility and lack of transparency by the SEC, has generated a debilitating amount of legal uncertainty… These failures have driven crypto development to foreign jurisdictions that have little or insufficient regulation. We’re now seeing the consequences in the failure of FTX”
  • German regulators BaFin urged the creation of “global crypto rules” due to growing digital asset adoption by banks and mainstream finance, but mirrored Yellen’s assertion that the crash was “well timed” as crypto markets haven’t reached systemic size yet
  • At an event in Frankfurt on Monday, Bafin president said “We currently solve that [consumer protection] problem via exclusion and saying… that has nothing to do with the regulated system, where no German or European supervisor or regulator will help. The question is how sustainable is that strategy?”
  • Binance CEO Changpeng “CZ” Zhao made similar calls; speaking at a conference in Bali, he said “As an industry we need to increase transparency. We need to work very closely with regulators all around the world to make this industry more robust. There is a strong role for regulators to play but we can’t blame this on any single party”
  • Binance responded to FTX’s collapse by showcasing greater transparency regarding their funds, leveraging one of the advantages of blockchain to demonstrably prove their on-chain status and addresses
  • Other exchanges to join the move towards “Proof of Reserves” included OKX, Huobi, Kraken, Gemini, and KuCoin

What happened: JP Morgan analysts argue FTX consequences could be “two steps forward”

How is this significant?
  • Whilst one might expect traditional finance institutions to speak out against digital assets in the wake of FTX's collapse, JP Morgan has instead defended the asset class, and the technology behind it
  • In a research note responding to Sam Bankman-Fried's downfall, JP Morgan equity analyst Steven Alexopoulos observed that this event wasn't indicative of any failure by digital assets themselves; it was the failure of centralised institutions [driven by corruption at a leadership level] 
  • He noted that "while the news of the collapse of FTX is empowering crypto sceptics, we would point out that all of the recent collapses in the crypto ecosystem have been from centralised players and not from decentralised protocols"
  • In other words, JPM is taking the view that digital assets haven't been suffering because they operate under completely new systems compared to traditional finance, but because they echoed them 
  • Some large singular entities in the space—such as bankrupt lender Celsius, crypto hedge fund 3 Arrows Capital, and the FTX Group—repeated some of the worst practices from traditional finance and the 2008 banking crisis, including lack of transparency, unauthorised use of customer funds, and massive greed at a boardroom level that spurred increased risk-taking
  • Alexopoulos added that this episode could catalyse greater regulation within the digital asset industry, which would ultimately move digital assets "two steps forward" after the current "one step back", aiding the institutional adoption of the asset class. 
  • "While this is certainly a major short-term setback, we see the collapse of FTX as potentially accelerating the timeline to which crypto-related regulations will be ushered in (similar to new banking regulation which followed the global financial crisis)"

What happened: Contagion latest—FTX Fallout continues

How is this significant?
  • Following FTX’s bankruptcy filing, any exposure to the company quickly turned toxic, creating a domino effect of contagion
  • The Wall Street Journal reported on Tuesday that digital asset lender BlockFi is now evaluating a potential bankruptcy filing of its own, following significant exposure to and debts from FTX
  • BlockFi suspended withdrawals from their platform on Friday, citing FTX’s collapse as the root cause
  • Bankrupt lender Voyager is now searching for a new buyer, after FTX’s acquisition agreement was voided when they became insolvent
  • faced questions regarding its liquidity—especially after accidentally transferring a huge amount of Ether to a “whitelisted external exchange address”, before recovering it to move into internal cold storage
  • CEO Kris Marszalek claimed the company has a “very strong” balance sheet and reserves cover all customer assets, but acknowledged the nervous nature of investors on centralised exchanges now; “People are depositing, people are withdrawing, people are trading… There is pretty much normal activity, just at a heightened level”
  • Institutional brokerage Genesis announced on Wednesday that they were suspending redemptions and new loan originations at their lending division, after “abnormal withdrawal requests” and having a $175m trading account now locked inside FTX
  • Interim CEO Derar Islim said “hired advisers to explore all possible options, including raising new funding, and will deliver a plan” for its lending business next week
  • Trading and other services at Genesis remain operational
  • Due to its institution-facing nature, concerns around possible contagion from Genesis heightened market response, leading to a drop across digital asset markets
  • This was swiftly followed by digital asset exchange Gemini suspending its Gemini Earn program, where Genesis functioned as the lending partner
  • As Genesis and leading Bitcoin fund Grayscale are both owned by the same parent company—the Digital Currency Group—Grayscale felt obliged to release a statement confirming “the safety and security of the holdings underlying Grayscale digital asset products are unaffected”
  • Grayscale declared it “business as usual” for them, noting “Genesis Global Capital is not a counterparty or service provider for any Grayscale product”
  • Digital asset market-maker B2C2 offered to buy some loans from Genesis to “alleviate the current liquidity shortfall”
  • A B2C2 spokesperson told industry publication Coindesk “The company is in a position to support the wider market by offering to work with Genesis and their counterparties to novate existing loans at Genesis Global Capital to B2C2. Loans will have to fall within our established risk management framework to qualify”
  • The Solana blockchain—a favoured project of Alameda and Bankman-Fried—lost vast amounts of foundation funds now locked on FTX or held in deprecated FTT, and the protocol’s native SOL token experienced severe sell pressure due to its association with the tainted FTX group, dropping over 50% in one week
  • On Wednesday, sources at Singapore sovereign wealth fund Temasek said they will write off over $270m in FTX investment, scuppering brief hopes from last week that they might step in as a saviour
  • Yuzo Kano, founder of Japanese exchange Bitflyer, said that whilst his exchange had zero exposure or impact from FTX, its demise in general had “a huge impact on the crypto world, kind of like a Lehman shock”

What happened: Binance leads industry recovery efforts

How is this significant?
  • After pulling out of their proposed FTX takeover, Binance CEO Changpeng “CZ” Zhao announced plans for an “industry recovery fund”, to help out companies in the digital asset space and “reduce further cascading negative effects”
  • Thus far, he has cited lots of interest from within the industry, with some rival exchanges, like Huobi, pledging to contribute towards the fund
  • On Wednesday, Zhao tweeted that they had “Just signed 8 investment deals”
  • In other Binance news, the company secured regulatory approval to provide institutional digital asset custody services in Abu Dhabi and the UAE

What happened: DeFi volumes surge following increased scrutiny of centralised exchanges

How is this significant?
  • As FTX demonstrated the potential of corruption and opaque book-keeping in centralised institutions, many customers moved their funds onto DeFi protocols and decentralised exchanges (DEXes), more than tripling volumes in the days before Binance’s abandoned takeover bid
  • Even Binance saw large outflows as investors soured on centralised exchanges, with approximately 15% of its Bitcoin holdings withdrawn in the days after the FTX collapse
  • The perceived loss in user-friendliness is deemed worth it for the increased custody over one’s own funds
  • On Tuesday, leading DEX Uniswap overtook Coinbase as the second-largest platform for trading Ether
  • Mike Novogratz of Galaxy Digital told Bloomberg “The real ripple effect of this is: People stop trusting other people, so people pull liquidity off of exchanges”

What happened: Matter Labs raises $200m for Ethereum scaling development

How is this significant?
  • Despite doldrums in the VC space, zkSync developers Matter Labs secured a significant investment this week, landing $200m in a Series C round
  • zkSync is an Ethereum blockchain scaling solution, combining rollups (the bundling of multiple different transactions into one transaction to commit onto the blockchain) and cryptography (“zk” stands for “zero knowledge proofs”, the act of confirming someone’s identity cryptographically without publicly revealing it) 
  • Contributors included Andreessen Horowitz, Blockchain Capital, Dragonfly, and Lightspeed Venture Partners
  • The Series C brings Matter Labs’ total funding to $458m, ensuring a lengthy development runway, with capital earmarked for team growth, and funding of projects within the zkSync ecosystem run by external teams
  • In other investment news, Cathie Wood’s Ark followed up their recent repurchase of Coinbase stock with their first Grayscale Bitcoin Trust buy since July 2021
  • They purchased over 315,000 shares worth around $2.8m, taking advantage of GBTC currently trading at near-record discounts compared to net asset value

What happened: Banking industry news–Mega-consortium test digital assets for New York Fed

How is this significant?
  • Several major banks and finance firms have joined the New York Federal Reserve in a blockchain-based pilot program to test digital asset settlement between institutions
  • In particular, the scheme will focus on digital tokens representing digital dollars, and how central bank money is settled between banks
  • The 12-week proof-of-concept “will also test the feasibility of a programmable digital money design that is potentially extensible to other digital assets, as well as the viability of the proposed system within existing laws and regulations”
  • Participants in the program include several of the largest banks and payment processors in America; “BNY Mellon, Citi, HSBC, Mastercard, PNC Bank, TD Bank, Truist, U.S. Bank and Wells Fargo”
  • In other banking news, Galaxy Digital partnered with Itaú Asset (the investment fund arm of Latin America's largest bank) to launch a physically-backed digital asset ETF
  • The IT Now Bloomberg Galaxy Bitcoin ETF began trading on Brazil’s B3 stock exchange last Thursday, featuring initial exposure to Bitcoin, with aims “to expand the suite over time to include other diversified strategies in the digital asset space”

What happened: Sony files patents for NFT and blockchain integration

How is this significant?
  • Technology giant Sony—manufacturers of the Playstation console series—may seek to integrate NFTs and blockchain technology into future gaming offerings, according to reports this week
  • On November 10th, a patent filed last July was made public, indicating the gaming conglomerate intends to develop “A system and method for tracking digital assets associated with video games”
  • To most industry observers, this translates into representation of video game assets through NFTs, stored on the blockchain
  • Sony wouldn’t be the first Japanese gaming giant to make a play (pun intended) for NFT integration; recently, Square Enix (developers of the popular Final Fantasy franchise) announced Symbiogenesis, a new video game franchise with NFTs built on the Ethereum blockchain
News Roundups