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 at each of them, willy-nilly, without oversight, without controls, just wanting to ride up the crypto-gravy train, and they just handed piles of money to some dazzling crypto characters and let them run with it, and they ran with it, and now the money is gone, and customer money may be gone, and billions of dollars of other people’s money are gone.
FTX had dozens of venture capital investors that invested $2 billion in FTX over the past two years, with the last round of funding earlier this year at a valuation of $32 billion.
These investors include well-known names, such as Sequoia Capital, SoftBank, Lightspeed, BlackRock, and a bunch of others. Their investments in FTX have vanished. And this is how the contagion from the crypto collapse spread to VC funds.
Contagion has also spread to companies that are straddling the crypto zone, for example to banks that have some exposure to crypto firms.
Silvergate Bank has specialized in dealing with crypto firms, and it has exposure to FTX. The bank is owned by Silvergate Capital, which also has some crypto exposure, and the shares of Silvergate Capital have collapsed by 85% from the peak crypto craziness a year ago.
Signature Bank, which tied its fortunes to cryptos, well, its shares are down 61% from the high.
SVB Financial Group, which owns Silicon Valley Bank, is heavily exposed to the entire startup scene, including crypto startup companies. Its shares have plunged by 69% from the high.
If regular commercial banks have some exposure to these collapsed companies, it’s going to be minor amounts for the bank. Banks are in the business of taking this kind of credit risk. And they can take those losses.
Robinhood is exposed to all kinds of stuff, but it said specifically that it has no “direct” exposure to FTX, though FTX founder and former CEO Sam Bankman-Fried owns a large equity stake in Robinhood.
Contagion has been spreading to other publicly traded companies with direct or indirect exposure to cryptos, whose shares have all plunged, such as crypto exchange Coinbase, whose shares collapsed by 86% from the high; MicroStrategy which is a dotcom-bust survivor and enterprise software company that decided to sell bonds and buy bitcoin with the proceeds, turning itself into a leveraged bitcoin fund, well, its shares have plunged 86% from their high.
Many of the crypto miners in the US have turned into penny stocks, down 97% or whatever. One bitcoin miner in the US, which wasn’t publicly traded, already filed for bankruptcy. Others have warned that they might have to file for bankruptcy. The problem for them is that the high cost of electricity makes it uneconomical to mine bitcoin, after the price of bitcoin collapsed.
As FTX gets dismembered and dissected, lots of people and entities will lose lots or all of their money, and when everything is said and done, it will be counted in the billions, or tens of billions of dollars.
The Luna crypto crash vaporized $60 billion, like overnight, but that was global, like all these things, it’s not just US money that vanishes, it’s global money. And outside of the crypto zone, the Luna implosion barely made a dent.
All this is minor stuff compared to a big stock such as Meta plunging 70% or Tesla plunging 50%. Tesla’s drop alone wiped out $620 billion. Amazon’s drop wiped out something like $800 billion. But like cryptos, this is all global money. People around the world invest in US stocks.
So, with cryptos and crypto-companies imploding, and the contagion spreading into neighboring areas, why hasn’t there been more contagion into the broader markets and the economy?
At one point, cryptos had a market cap of $3 trillion, now it’s down to $850 billion, over two-thirds has already vanished, and outside of the crypto zone – beyond all the mess and chaos in the crypto zone – the crypto implosion has been orderly. Really no big deal. But why?
It was money – or what people thought was money – that came out of nowhere over the prior years, and over the past 12 months, it went back to nowhere.
It was easy-come-easy-go money, much of it hadn’t been converted into fiat yet, hadn’t made its way to bank accounts yet. And for a lot of people, it was the gains that evaporated, more than their own capital.
And part of it had to do with where this money was lost. Lots of people lost lots of money, but that was spread around the globe. Those losses hit crypto investors around the world, not just in the US.
And a big part has to do with the numbers. They’re just not big enough. The US stock markets are around $40 trillion. The cryptos never amounted to one-tenth of that. Two-thirds of the losses are now already behind us. And the remainder of crypto, what’s left of it, just amounts to 2% of the stock market. If that remnant too goes away, like goes to zero, people outside the crypto zone won’t even notice – that remaining $850 billion on a global scale is just too small.
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