Yves here. Wolf Richter is correct to say that the crypto is unlikely to kick off a broader financial meltdown, since among other reasons, that would have happened already. Total crypto market cap is down by more than 2/3 from its market peak of $3 trillion.
Admittedly, it is possible that a further leg down might blow up a whale that also has extremely levered positions with institutions in TBTF land (thing Archegos). But again, Archegos put Credit Suisse in a lot of pain, but didn’t set off a broader unwind.
Readers might say, “But subprime was only $1.4 trillion and it blew up the global economy!” That is the conventional narrative. It is not correct. The 2007-2008 crisis was a derivatives crisis. Credit default swaps on subprime were 4 to 6 time the real economy value of subprime mortgage securitizations (about 70% of the total). Moreover, significant “insurers” of these wagers were highly leveraged, systemically important financial institutions. By contrast, Sam Bankman-Fried hoist on his own petard is very entertaining and won’t keep the Fed up at night.
This is the transcript of my podcast on Sunday, Oct 30, THE WOLF STREET REPORT.
Exactly a year ago, in November 2021, during peak crypto craziness, the market cap of all of the many thousands of crypto tokens combined, from bitcoin on down, hit $3 trillion globally. Today, the market cap is at about $850 billion, so that’s down by 72%. In other words, $2.1 trillion have vanished in 12 months.
All kinds of cryptos have imploded, some so-called stablecoins that are supposed to be pegged 1 to 1 to the US dollar, have collapsed overnight.
The collapse of the cryptos has triggered the collapse and bankruptcy of a number of crypto exchanges, crypto lenders, crypto hedge funds, crypto miners, etc.
It seems the fundamental principal in the crypto zone is that every firm must be deeply interconnected with other firms, each lending to the other, and lending to affiliated hedge funds that then make huge leveraged bets on cryptos, and they’re bidding up each other’s tokens. This, as I like to call it, makes for very smooth and efficient contagion.
They all went to heaven together until November 2021. And now they’re all going to heck together.
But where is the contagion to the broader market, to other asset classes, to banks, to other players in the economy?
FTX, Alameda Research, and affiliated companies imploded spectacularly over the past week and have now filed for bankruptcy, and it’s a huge mess that will drag out for a long time and produce a lot more of the kinds of sordid revelations we’ve already seen.
These sordid revelations and allegations emerging on an hourly basis come with huge numbers attached to them, a billion bucks here, $10 billion there, like $10 billion in customer funds being lent by FTX to its affiliated trading outfit Alameda Research where they were then incinerated or whatever. Reports emerged of funds disappearing even after the bankruptcy filing – perhaps due to a hack.
The amounts in cryptos that vanished appear to be in the billions of fiat dollars. Every day, there are new twists and turns and revelations of an utterly sordid business with multi-billion-dollar tentacles reaching in all directions.
Before FTX there were Voyager Digital and Celsius that both filed for bankruptcy in July. Three Arrows Capital, a hedge fund cross connected with Voyager, also filed for bankruptcy. It was the collapse of Three Arrows Capital that triggered the collapse of Voyager.
As the bankruptcy proceedings of FTX.com, FTX US, Alameda Research, and affiliated companies move forward, it will get even messier and more complex, there will be lots more revelations about counterparties and vanished cryptos, about lending customers’ cryptos to hedge funds and other exchanges and whatever, and about relying on homemade collateral, such as native tokens, that then imploded, and about the endless tentacles of cross-connections in the crypto zone. And there will be other crypto lenders that suddenly halt withdrawals and hire bankruptcy counsel.
In the wake of FTX’s bankruptcy, another crypto lender, BlockFi, halted withdrawals, preventing customers from taking their cryptos and fiat out. And it hired bankruptcy counsel. BlockFi reportedly loaned Alameda Research some funds, but Alameda Research collapsed, taking these cryptos down with it.
The funny thing is that in June, BlockFi was already in trouble and then got a $200 million bailout from FTX, all in cryptos.
So the contagion within the crypto zone is smooth and efficient. Not much gets in the way of slowing it down.
These crypto companies, and all kinds of other crypto companies, were funded as startups by some of the biggest names in the venture capital industry. Just about the entire VC industry jumped on this crypto stuff. And they just threw hundreds of millions of dollars