Written by 6:00 am Bitcoin

How crypto crashed in 2022

UNITED STATES - MAY 12: Sam Bankman-Fried, CEO of FTX US Derivatives, testifies during the House Agriculture Committee hearing titled Changing Market Roles: The FTX Proposal and Trends in New Clearinghouse Models, in Longworth Building on Thursday, May 12, 2022. (Tom Williams/CQ-Roll Call, Inc via Getty Images)

Sam Bankman-Fried’s FTX crypto exchange filed for bankruptcy on 11 November 2022. Photo: Tom Williams/CQ-Roll Call, Inc via Getty

The cryptocurrency market has had a turbulent year with personalities like Sam Bankman-Fried brought low and the head of the European Central Bank (ECB) declaring bitcoin (BTC-USD) is on the “road to irrelevance“.

However, others argue that crypto has endured worse in the past and its adoption rate is growing despite an array of bad press.

Yahoo finance UK looks back over 2022, a year of “crypto winter”, where investor nerves were well and truly tested.

The cryptocurrency market cap hit a high of over $3tn (£2.46tn) in November 2021, but has now fallen to $904bn, according to data from Statistia.

Check: Crypto live prices

The capital inflow that swelled the crypto market in November 2021 was composed of mostly retail investors.

These same investors took the worst of the damage when the market began to buckle in 2022, when funds were drained from centralised exchanges and lending platforms, which have been operating as the de-facto banks in the largely unregulated and experimental crypto sector.

However, after crypto exchange FTX collapsed, dealing a critical hit to the industry’s reputation, these “banks” look more like casinos, as FTX was reported to have played against its unwitting customers using customers’ own cash.

The cryptocurrency market cap from January 2022 until now

The cryptocurrency market cap from January 2022 until now

A strong start to the year

On New Year’s Day 2022, bitcoin and ethereum (ETH-USD) stepped into 2022 trading at $47,000 and $3,800 respectively ⁠– slightly down from their all-time highs of $68,000 for bitcoin and $4,600 for ethereum in November 2021.

However, as we head towards the end of the year, the price of bitcoin is sitting around $17,258 while ethereum is at $1,283.

The early months of 2022 saw the crypto market climbing steadily amid more institutional adoption.

In mid-March, Bitcoin broke through the $42,000 mark on the news that Ray Dalio’s Bridgewater Associates hedge fund was set to invest in the digital asset.

Read more: FTX bankruptcy sees 80,000 UK crypto investors lose funds

The news that the world’s largest hedge fund, with $150bn in assets, was to invest in bitcoin was interpreted as a significant signal that institutional finance was preparing for the long-term upward trajectory of blockchain-based companies.

Just as crypto advocates speculated that improved communication with regulators and institutional adoption of crypto payments would help stabilise the industry the first domino of the year fell, eventually seeing the crypto-market shrink by over two-thirds in size.

The first domino to fall ⁠– Terra’s UST stablecoin

Many blue-chip cryptocurrencies experienced a steady decline throughout 2022. Most of the market tags on the heels of bitcoin, which has slumped approximately 65% year-to-date.

Investor pessimism was exacerbated by the bankruptcies that followed the crash of Terra’s UST stablecoin in early May.

On 7 May 2022, $2bn of the UST stablecoin was “unstaked” and immediately sold, causing it to unpeg and drop to $0.91.

This caused an immediate bank run where UST holders rushed to “unstake” and sell their coins.

Read more: Crypto tanks after FTX implosion

Investors stake cryptocurrencies for set periods of time to help validate transactions on the network. For doing this they receive an amount of cryptocurrency as a reward every time they validate a block in the blockchain.

The rapid interplay of trades between UST and its support crypto-asset Luna saw the price of Luna fall from $82.55 to $0.000001 per token in one week.

This eliminated $18bn of value in the cryptocurrency sector.

The second domino to fall ⁠– Three Arrows Capital

Many cryptocurrency-focused hedge funds, and other cryptocurrency companies, held large amounts of the Luna cryptocurrency that was connected “algorithmically” to the stablecoin UST.

One of the most prominent holders of Luna was the crypto-hedge fund Three Arrows Capital (3AC).

Because of smart contract staking agreements, 3AC could not sell large portions of the Luna that they held and were forced to incur up to a 99% loss on their investment. On 1 July 3AC filed for Chapter 15 bankruptcy.

The third domino to fall ⁠– Voyager

Creditors and debtors in the crypto-sphere are tightly connected and when one domino falls many follow.

Voyager Digital (VYGVQ), a cryptocurrency brokerage and lender publicly listed on the Toronto Stock Exchange, had given Singapore-based hedge fund 3AC loans which it used for cross-bets across the entire crypto sector.

Voyager had offered a $650m unsecured loan to 3AC, the firm’s single largest lending to any customer.

After pausing customer trading, deposits, and withdrawals, on July 5, Voyager filed for chapter 11 bankruptcy, only five days after 3AC’s bankruptcy filing.

Before its collapse Voyager Digital had 3.5 million customers and around $5.9bn in assets.

Fourth domino to fall ⁠– Celsius

On 12 June, crypto-lender Celsius, headed by entrepreneur Alex Mashinsky, announced that it was pausing client withdrawals, sparking market volatility and widespread speculation about contagion spreading from Terra’s UST stablecoin collapse. On 13July, Celsius filed for bankruptcy.

On the same day, Celsius’ cryptocurrency (USD-CEL) collapsed 70% in one hour from a previous high of $0.49 to $0.15.

However, the price of Cel has risen over the year to $0.63.

Celsius’s schedule of assets and liabilities have since revealed that the platform’s executives removed at least $17m in crypto from the platform ahead of its bankruptcy filing in July.

The crypto ecosystem has been haemorrhaging capital throughout 2022, mostly from retail investors who can’t afford to lose funds as the cost of living squeeze tightens.

Before the bankruptcy of Celsius, Mashinsky withdrew about $10m in crypto in May, according to Coindesk.

Celsius co-founder Daniel Leon withdrew about $7m, and an additional $4m worth of the CEL token was denoted as “collateral” between 17 and 31 May.

Because the blockchain is transparent, crypto-enthusiasts are also able to track fund movements in days where it would have taken months or years in the past, using the harder-to-access or opaque record-keeping of traditional financing.

UNITED STATES - MAY 12: From right, Terrence A. Duffy, CEO of the Chicago Mercantile Exchange, Sam Bankman-Fried, CEO of FTX US Derivatives, Christopher Edmonds, chief development officer of the Intercontinental Exchange, and Christopher Perkins, president of CoinFund, testify during the House Agriculture Committee hearing titled Changing Market Roles: The FTX Proposal and Trends in New Clearinghouse Models, in Longworth Building on Thursday, May 12, 2022. (Tom Williams/CQ-Roll Call, Inc via Getty Images)

After the rapid collapse of several crypto-lenders in a short time, the then head of FTX, Sam Bankman-Fried, announced that he and his company had ‘a few billion’ available to shore up struggling firms. Photo: Tom Williams/CQ-Roll Call, Inc via Getty

Sam Bankman-Fried of FTX comes to the aid of the crypto-industry

Although crypto exchange FTX would ultimately also fall, it basked for a short period in the limelight as the saviour of the crypto industry.

After the rapid collapse of several crypto-lenders in a short time, the then head of FTX, Bankman-Fried, announced that he and his company had “a few billion” available to shore up struggling firms.

Crypto-lender BlockFi was one of the distressed crypto firms that availed of additional liquidity supplied by FTX.

Support from FTX, with its highly visible brand, bolstered customer confidence in the strength and safety of BlockFi’s platform.

BlockFi was then able to maintain its operations over the summer while several other trading platforms and exchanges were forced to declare bankruptcy.

3AC was one of BlockFi’s largest borrower clients, and its collapse, along with several other borrowers, led to material losses for BlockFi.

The collapse of UST, along with the halting of withdrawals and bankruptcies of Celsius, Voyager and 3AC, led to significant customer withdrawals from BlockFi.

Ethereum’s successful ‘merge’ to proof of stake

On 15 September, the Ethereum (ETH-USD) blockchain ‘merged’ to become a low-energy proof of stake blockchain.

The move was hailed as a success by the blockchain’s co-founder Vitalik Buterin.

Ethereum Foundation said switching to proof of stake as a way of validating transactions utilises about 99.95% less energy than the proof of work method which uses fossil fuels to power the generators.

The second biggest cryptocurrency by market cap switching to a low-energy method of validating transactions was a positive for the blockchain industry’s reputation in the midst of the planet’s climate emergency.

The fifth domino ⁠– FTX

The FTX exchange was set up on the offshore finance haven of the Bahamas in May 2019.

In early November, public reports began to circulate citing leaked, internal financial statements and questioning the health and liquidity of both FTX and its trading arm Alameda Research.

Coindesk journalist Ian Allison blew the lid on the irregularities in Alameda Research’s balance sheet. Allison said a large proportion of the $14.6bn in assets held by Alameda Research was in FTX’s own FTT (FTT-USD) token.

The coin that could be freely created by FTX dominated the reserves that Alameda Research used as collateral for loans.

With outstanding liabilities of an estimated $5.1bn at Alameda Research, holders of FTT experienced rising panic that margin calls on those loans might decimate the value of FTX’s native token.

However, the collapse of FTX began in earnest when Binance CEO Changpeng ‘ZC’ Zhao stoked a bank run on the FTX exchange with a tweet stating that his exchange would liquidate its holdings in FTX’s native FTT token.

Read more: FTX implosion sees $5bn crypto withdrawn from exchanges

After Binance’s announcement, many investors dumped their FTT bags and within two days, FTT tumbled from $22.06 to $3.38.

FTX was backed by FTT which was sold at low prices to Alameda Research and the trading arm of the exchange was heavily stacked with FTX’s token, to the tune of $3.66bn (£3.05bn) “unlocked FTT” and $2.16bn “FTT collateral” as assets.

When FTX artificially inflated the value of FTT, Alameda was able to use FTT as collateral for trading on the FTX exchange.

Binance reportedly was initially interested in acquiring FTX after its “liquidity crunch”, but it later reneged.

To explain its u-turn, Binance tweeted: “As a result of corporate due diligence, as well as the latest news reports regarding mishandled customer funds and alleged US agency investigations, we have decided that we will not pursue the potential acquisition of FTX.com.”

On 17 November, FTX filed for bankruptcy at a court in Delaware.

The new administrator of FTX, John J Ray III, said he had, “never in my career seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here. From compromised systems integrity and faulty regulatory oversight abroad, to concentration of control in the hands of a very small group of inexperienced, unsophisticated, and potentially compromised individuals, this situation is unprecedented”.

Sixth domino to fall ⁠– Blockfi

In July, FTX had signed a deal with crypto-lender BlockFi to provide it with a $400m revolving credit facility with an option to buy it for up to $240m.

After the bankruptcy filing, Alameda Research defaulted on approximately $680m of collateralised loan obligations to BlockFi.

On 27 November, BlockFi filed for bankruptcy and subsequently stated it would sue Sam Bankman-Fried’s holding company, after suffering a liquidity crisis due to FTX exposure.

The company told customers: “BlockFi has voluntarily filed petitions for Chapter 11 reorganisation.

“This action follows the shocking events surrounding FTX and associated corporate entities (“FTX”) and the difficult but necessary decision we made, as a result, to pause most activities on our platform.”

Read more: Club for women in crypto promises to close gender funding gap

In the bankruptcy filing, BlockFi’s financial advisor Mark Renzi said: “Although the debtors’ exposure to FTX is a major cause of this bankruptcy filing, the debtors do not face the myriad issues apparently facing FTX.”

Renzi added that BlockFi intends to seek authority to honour client withdrawal requests from its customer wallet accounts.

He said: “BlockFi clients may ultimately recover a substantial portion of their investments.”

Why did crypto crash in 2022?

Money does not just disappear it just changes wallet. After the November 2021 all-time high, where did over $2tn in crypto-funds drain to?

The transparency of blockchain transactions and the bankruptcy filings have led to speculation that large amounts of user funds were sequestered by executives in the run-up to Chapter 11 filings.

Also, high-leverage shorting of the market by insiders who have early knowledge of price movements could also have contributed to the crash.

According to Crypto Banter podcast host Ran Neuner: “The cause of the crypto crash, and everything that has happened, is down to leverage”.

Neuner added that leverage trading built the bull market through 2021 and the first half of 2022, but also caused its collapse.

Read more: ‘Get your money off exchanges’, warns Bitboy Crypto after FTX scandal

Now more than ever the adage of “not your keys, not your coins” rings true.

Both retail and institutional investors have felt the pain first-hand of allowing opaque, off-shore and centralised crypto-platforms to have control of their funds.

At the end of 2022, some critics say the cryptocurrency sector looks more corrupt and more centralised than its forebears ⁠– an unfortunately ironic performance by an industry hailed as a decentralised alternative to the corruption of centralised institutions.

Watch: Crypto and climate change: Can blockchain tech stop global warming? | The Crypto Mile

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