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NYDIG Analyzed The FTX Collapse And Its Implications. What Did We Learn?

It’s time for NYDIG to chip in. The FTX fiasco is the theme of the month in the crypto world, and the show’s just beginning. The NYDIG research team avoids the temptation to summarize the whole saga and goes straight to the implications of the fall of Sam Bankman-Fried’s empire. “Some signs of contagion have appeared but a full accounting of the damage and regaining of investor confidence will likely take time,” they say understating the harsh reality. 

Taking a page from NYDIG’s book, let’s skip the intro and go straight to the conclusions.

Contagion Is Around The Corner

Speaking about “signs of contagion,” NYDIG mentions BlockFi and the Genesis/ Gemini combo. However, there might be much more to come.

“Several other service providers have piqued the curiosity of crypto sleuths as potential next dominoes, but we hesitate to speculate too much without hard evidence. Regardless, industry participants are on edge for even the slightest signs of stress and continue to pull balances off exchanges.”

In the contagion section of the paper, we find a rare mention of a conspiracy theory that’s making the rounds in crypto twitter. Rarely do big players bring this up. Of course, NYDIG ends up doubling down on the thesis about Terra/Luna that they put out in a previous paper titled “On Impossible Things Before Breakfast.”

“There have been accusations that Alameda caused the initial de-peg of UST, and while that may have been the case, uneconomic rates paid by the Anchor Protocol and insecure economic design of LUNA/UST ensured its ultimate destruction, destroying $60B worth of crypto wealth in a few short days.”

In the previous paper, NYDIG printed a great segway to the next section. “DeFi is not decentralized. The Terra ecosystem was not decentralized. Terra initially sourced funding from LUNA token issuance apportioned to Terraform Labs at inception.”

FTTUSD price chart - TradingView

FTT price chart on Bitstamp | Source: FTT/USD on TradingView.com

NYDIG On DeFi Vs. CeFi

Even though they’re clearly not fans of DeFi, NYDIG gives them some credit. “Most DeFi protocols operated as advertised through the volatility this year, minus the ongoing hacks within the ecosystem.” True, but the ongoing hacks are not a minor factor. It’s a billion-dollar problem with no apparent solution available. However, according to NYDIG, this time the problem lies with centralized finance, and those companies “did the rest of the damage” by engaging in these behaviors:

“Poor risk controls, conflicts of interest, excessive leverage, unclear accounting, counterparty risks, and poor management were just some of the factors at play. Furthermore, the use of an equity-like token, FTX Token (FTT), as collateral exacerbated the issue.”

Is More Regulation The Answer?

According to NYDIG, the industry was expecting “improved regulatory clarity for US investors.” However, thanks to the FTX crash and Sam Bankman-Fried’s political lobbying, “the path in DC has grown more complicated. Regulators will now be on their toes and increasingly more likely to use their current authority to enforce existing regulations and possibly issue new ones.”

It is what it is, however one has to take into account that “FTX.com wasn’t even a US entity, which raises the question of how impactful improved US regulations would have been, at least with respect to preventing the specific recent events surrounding FTX.” That’s true, but FTX was in business with several US fully regulated entities. If effective, shouldn’t Silvergate’s AML procedures have detected Sam Bankman-Fried’s shenanigans? 

A related question would be, shouldn’t the due diligence of the highly regarded entities that invested in FTX have detected that something was off?

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Summary Of The Contagion Event That Brought On The Bear Market

Are we in a bear market? Opinions vary, but it certainly feels like one. Markets across the board and across the world are in the red, and the bitcoin and crypto ones are no exception. If you’ve been paying attention, you know how all of this happened, but a refresher course wouldn’t hurt. Using ARK Invest’s latest Bitcoin Monthly report as a guide, let’s go through the tragic sequence of events and evaluate the bitcoin market as it stands.

According to ARK, the road to the bear market went like this: 

“Beginning with the Terra collapse in early May, contagion spread to major crypto lenders including Blockfi, Celsius, Babel, Voyager, CoinFlex, contributing to the insolvency of the once highly-respected hedge fund, Three Arrows Capital (3AC). Since Terra’s collapse, total crypto market capitalization has dropped ~$640 billion.”

Nevertheless, there seems to be a light at the end of the tunnel. “Promisingly, however, recent fallout (Babel, Voyager, CoinFlex, Finblox) appears lower in magnitude compared to Terra, Celsius, and 3AC.” That doesn’t mean the end of the bear market is near, nor that capitulation is already over. Especially if the Mt. Gox victims receive the rumored 150K BTC.

First, let’s follow ARK as they analyze two of the main players in this drama. Then, let’s check the stats of the bitcoin market to see if we can find signs and clues that point out to the end of the capitulation stage. SPOILER ALERT: The jury is still out on that one. Some signs point to an early end, others to further downside. Aren’t bear markets fun?

Celsius And The Bear Market

When Terra fell, the earth trembled. The Luna Foundation Guard sold nearly all of their 80K BTC reserve trying to defend the UST peg to the dollar. This event could’ve been the catalyst for the bear market. The worst was yet to come, though. Several once-respected institutions were heavily exposed to Terra through its Anchor protocol, and the UST collapse sent them all into a still ongoing death spiral. 

According to ARK, “Celsius froze withdrawals on June 12th in response to significant outflows. Its DeFi debt outstanding is $631 million but the magnitude of its nonDeFi exposure is unclear.” There was still hope for its clients, as the company paid several loans. However, Celsius filed for Chapter 11 bankruptcy, leaving them all high and dry.

The Chief Commercial Officer at Choise.com, Andrey Diyakonov, analyzed the situation for NewsBTC:

“To put things into perspective, we need to turn it upside down, and ask, how much of the recent price action on the markets was influenced by or outright created by Celsius’ actions? What goes around always comes around. It’s so much more ironic given those credible reports that Celsius withdrawals were among those that sent UST and Terra position down the rabbit hole to find out where the bottom is.”

Our team covered that particular claim and the company’s response.

Three Arrows Capital And The Death Spiral

Then, there was “Three Arrows Capital (3AC), a highly regarded crypto hedge fund reportedly managing $18 billion at its peak, appears to be insolvent after taking on too much leverage.” That’s according to ARK, who also says, “Seemingly, 3AC took on excess leverage to try and recover the losses. Its creditors included major players in the industry like Genesis, BlockFi, Voyager, and FTX.”

All of those companies except FTX seem to be counting down to extinction. 

BTC price chart for 07/15/2022 on Velocity | Source: BTC/USD on TradingView.com
Is The Bear Market Just Beginning Or About To End?

Is the bottom in? Opinions vary. In a section titled “Market Contagion Sets Bitcoin Into Capitulation,” ARK analyzes all of the indicators and can’t reach a final conclusion. The numbers are extremely interesting, though.

  • “Down 70% from its all-time high, bitcoin is trading at or below some of its most important levels: its 200-week moving average, the general cost basis of the market (realized price), the cost bases of long-term (LTH) and short-term holders (STH), and its 2017 peak.”

This “suggests extremely oversold conditions,” which is a great sign. However…

  • “Historically, global bottoms occur when the MVRV of short-term holders exceeds the MVRV of long-term holders. That condition has not been met, suggesting the potential for more downside.”

The “condition has not been met,” but it’s close. Very close.

  • “This month, miners generated revenues only 45% of that for the last twelve months, breaching a threshold that usually correlates with market bottoms.”

Miners who didn’t practice proper risk management have been selling at the present low levels. Miners who know what they’re doing will keep holding until we come out of the bear market. The question is, how many companies are in the first group and haven’t sold just yet? 

  • “Net realized losses in bitcoin recently reached a 2-year low, breaching 0.5% for only the fourth time since 2013.”

Historically, this suggests capitulation is over. Or is it?

  • “Bitcoin’s net unrealized loss has hit a 3-year low, highlighting that its current market value is nearly 17% lower than that of its aggregate cost basis. Historically, global bottoms have formed when losses hit 25%+.”

If we’re going to reach 25%, that means there’s still a long way to go.

Is the bear market just beginning or about to end? The data is unclear. But capitulation seems to be nearing its end, which would be the first step in the right direction.

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Reports: FTX Targeting BlockFi Purchase At $25M

BlockFi, Celsius, Nexo, and more: tough times can lead to difficult measures, and this year’s bear market is showing no exception to some of these players. Look no further than the current state of affairs for centralized finance (CeFi) platforms, who have been facing substantial headwinds with no end in sight.

Now, after days of rumors and reported exploratory deals, reports have emerged that powerhouse crypto exchange FTX is putting together the final ties around an acquisition deal of BlockFi at just a $25M valuation. The news comes after reports emerged that FTX passed on an acquisition deal for Celsius after seeing the CeFi firm’s balance sheet.

BlockFi On The Block

Should the purchase come to fruition at the reported valuation, it’ll be a major hit for BlockFi equity holders, following a nearly $5B valuation last year in the midst of bull market movement. However, that $25M number could move drastically between today’s reports and closing time – and a successful acquisition will of course take months to close. BlockFi CEO Zac Prince described the number as “market rumors” and outright denied the number, stating in a tweet that “we aren’t being sold for $25M.”

FTX is on the shortlist of exchanges that have sought out opportunity in the midst of crypto market downturn, exploring buyouts or equity share purchases for both Celsius and BlockFi in recent weeks, according to a variety of reports. However, based on the hard facts available to the public, the viability and likelihood of a buyout for BlockFi is still difficult to measure.

Celsius (CEL) has faced an uphill battle as the platform has still paused withdrawals for customers. | Source: CEL-USD on TradingView.com

Related Reading | Ethereum Loses Steam As Exchange Supply Spikes

State Of CeFi: Pulse Check

How did we get here? Bear market downturn over the past month or two has caused major pain for CeFi platforms, in a flurry of madness that started with Celsius freezing withdrawals earlier this month amid worries of a bank run and lack of immediate liquidity within the platform’s holdings. BlockFi has undoubtedly faced the heat, too, as FTX provided the firm with a $250M emergency line of credit just last week. While reports across the market suggest that BlockFi has several options on the table, it seems that few will lead down a path that spares equity shareholders of value at present time. Nexo has largely stayed quiet during the chaos, but there’s various internet sleuths who have targeted Nexo with content campaigns around the company’s practices as well.

Regardless of how you feel about CeFi, the decline of infrastructure in this bear market shouldn’t be celebrated – we’ll see how it all shakes out when the tides recover.

Related Reading | USDC Exchange Reserves Rise As Investors Escape From Bitcoin

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The writer of this content is not associated or affiliated with any of the parties mentioned in this article. This is not financial advice.