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Good Evening [%first_name |Dear Reader%],
Welcome to this week’s edition of Tokenised.
Over three weeks in October, 1907, the US banking system went through significant turmoil. The New York Stock Exchange tanked, many banks faced a run on their deposits, and financial leverage came home to roost with a vengeance. This panic eventually came to be known as the Knickerbocker Crisis—named after Knickerbocker Trust, a bank that collapsed during this upheaval.
There was a lot going on that led to the Panic of 1907, but how and why it happened are not what I want to talk about today. Suffice to say that it starred some of the usual suspects—attempted market manipulation based on flawed assumptions, unregulated side bets just waiting to cascade into disaster, greed…
So why the history lesson? Well, because the Knickerbocker Crisis also led to the creation of the US Federal Reserve (the US didn’t have a central bank at that time) and its obligation as the lender of last resort.
Now, over a hundred years later, global crypto markets are beset by turmoil (for many of the same reasons), and with lenders in the space stumbling left, right, and centre, crypto is also birthing its own bailouts. The very thing it was started in opposition to.
Let’s jump right in.
Bailouts for dummies
Following the troubles at crypto lender BlockFi that saw the firm desperately seek funding at reduced valuations, crypto derivatives exchange FTX has stepped in to bail out the lending platform.
BlockFi has received a US$250 million revolving credit facility from FTX, BlockFi’s CEO Zac Prince announced in a tweet on Tuesday. And this isn’t the only bailout FTX CEO Sam Bankman-Fried has played a role in.
Last week, crypto broker Voyager Digital announced that it had received a similar credit facility from Alameda Research, the quantitative trading arm of FTX. The bailouts from FTX have prompted comparisons with the role played by financier J P Morgan in 1907 in stemming the panic. The investment banker pledged quite significant sums of his own to shore up the system, and encouraged other bankers to do the same. It also highlighted shortcomings of the US banking system and the absence of a backstop.
Cut to now, and here’s Bankman-Fried talking to NPR: “I do feel like we have a responsibility to seriously consider stepping in, even if it is at a loss to ourselves, to stem contagion.” He also said that actions by the US central bank are responsible for the turmoil spreading through crypto markets, referring to the rate hikes announced by the US Federal Reserve.
In August 2021, FTX also stepped in to rescue crypto exchange Liquid Group with a US$120 million loan after the latter suffered a hack that lost it US$90 million. While the libertarian ethos of crypto may dictate that failing firms should be allowed to burn down to the ground, the current turmoil seems to have left little room for the philosophy, given the scale of the contagion risk facing crypto markets.
In last week’s edition, we broke down how the absence of circuit breakers in crypto magnifies the domino effect. By stepping in as a capital backstop, FTX might just be hoping to stablise things—at least for a bit.
Because while FTX might be able to bailout a few large enterprises, given that more Fed hikes are on the horizon, it’s unlikely that the pain will stop anytime soon. But the lingering drawdown might just end up making key players in cryptoland—like FTX—even more crucial to its existence.
The global turmoil in crypto assets hasn’t left businesses closer to home untouched in any way. Indian crypto exchanges, already reeling from being cut off from the country’s payments systems and banking services, are now taking a hard look at how they plan to survive.
While exchanges like Vauld have already begun laying off employees, others are still in the introspection phase, according to two founders of two separate Indian crypto exchanges. “Most of them raised funding pretty recently, so they are okay for a bit. Down the road, things can get difficult,” an industry executive told The Ken, adding that functions like marketing and content partnerships are likely to be the first on the chopping block.
No surprise then that employees are getting jittery as well. Two crypto exchange executives who had left banks to join the sector expressed their confusion and told me that it’s unlikely banks will be rushing to hire them back. With crypto sector valuations dipping across the board, their stock-option compensation plans are also causing some heartburn, one of them added.
It’s increasingly clear that the enthusiasm surrounding crypto is stumbling. Indian exchanges have been starved of liquidity since Coinbase’s misadventures cut off their pipes to the banking system, and in casual conversations, even hardcore supporters are starting to question the viability of the sector.
If everyone dances as long as the music plays, then the current mood seems to indicate that we’re at that point in the party where the neighbours have just shown up at the door.
With that, let’s turn to some other things that happened in crypto over the last few days.
- Crypto exchange Coinbase has refused to rule out the possibility of additional job cuts after the company laid off 18% of its employees. [Financial Times]
- Bill Gates has reiterated his stance that crypto tokens and NFTs are fully based on the greater fool theory. [The Wall Street Journal]
- Coinbase-backed crypto exchange Vauld has laid off 30% of its workforce. [Moneycontrol]
- Three crypto platforms in Hong Kong have halted customer withdrawals following the deep slump in market prices. [Nikkei Asia]
- An outage at Cloudflare—a provider of internet infrastructure—on Tuesday tripped up operations at major crypto platforms like FTX and Etherscan. [TechCrunch]
- Short sellers betting against crypto stocks have seen an average return of 130% this year. [Bloomberg]
- Elon Musk is facing a class-action lawsuit that alleges his public messaging around dogecoin constitutes a ponzi scheme. [The Block]
Crypto’s reliance on miners—intermediaries that verify transactions and update ledgers—also gives rise to the potential for market manipulation, according to new research from the Bank of International Settlements (BIS).
Called Miner Extractable Value (MEV), the process involves miners adding on trades of their own before or after a large transaction (or both) to benefit from the movement in prices. “One out of 30 transactions is added by miners for this purpose. This share was even higher in early June 2022, due to a number of particularly large MEV transactions during the recent market stress,” the report noted.
While such activity is prohibited in traditional financial markets by design and regulation, in the absence of such guardrails for blockchain-based markets it only serves to highlight how ‘new finance’ has a proclivity for the same maladies that plagued its traditional cousin. [Link]
What caught my eye this week
The tokens in venture capital giant a16z’s portfolio have been hammered over the last three months. The 15 tokens tracked by Messari, a crypto research firm, have cumulatively lost 70% of their value over the last 90 days.
While the selloff is undoubtedly linked to the broader slump in crypto markets, it also follows close on the heels of the venture capital firm announcing a fresh US$4.5 billion crypto fund, even as its representatives have struggled to define use cases for ‘Web3’ in public interactions.
That’s all for this week’s edition. If you have any overarching thoughts (or even nitpicky ones) about this newsletter, please do write to me at [email protected].
I’ll see you again next week. Take care!