To get the full picture of what led to the demise of FTX and Alameda and crypto's very own Lehman Brothers moment, we have to start from the very beginning.

Early Days

SBF and Caroline Ellison, two of the central characters in the whole debacle and the respective (former) CEOs of FTX and Alameda, first met each other at the esteemed quantitative trading firm Jane Street, before leaving it behind to start Alameda Research to live out the philosophy of Effective Altruism. Ironically, SBF is the son of two Stanford Law professors and was born on the Stanford University Campus. Similarly, Caroline Elisson was born to two MIT economists.

With parents esteemed in the fields of Economy and Law, it seems almost baffling that the two ended up constituting the axis that a debacle characterized by poor financial planning and obvious criminality spins around. After all, this is what the man responsible for cleaning up Enron and now-CEO of FTX, John Ray III called “[...] a complete failure of corporate controls and such a complete absence of trustworthy financial information [...]” - the worst instance thereof he’s seen in his career.

Alameda

Alameda Research was founded in September 2017 by Sam Bankman-Fried and Tara Mac Aulay in Berkeley, California. The young firm quickly rose to prominence by utilizing inefficiencies in the market and exploiting the so-called Kimchi Gap to arbitrage between US and South East Asian exchanges, thereby profiting from the difference in demand for BTC between different markets. Caroline Elisson went on to join the firm immediately after leaving Jane Street in 2018.

Initially, Alameda Research and SBF held a few accounts on the BitMex trading leaderboard. The accounts; which seemed to be highly skilled traders who made some very profitable trades, quickly rose to the top of the board, which served to give Alameda early credibility among both investors and backers.

In this way, Alameda Research soon gained a reputation for being one of the top crypto trading firms and the trust of some of the biggest companies and investors worldwide. This led to them being able to secure additional funding by offering very favorable conditions to investors and backers - conditions that already then looked almost too good to be true and may very well have been outright illegal with respect to disclosing risk to investors. In the pitch deck that circulated on Telegram back in 2018, Alameda offered investors and lenders a baffling 15% annualized return with “no downside” and “guaranteed full payment”. An offer that the President and CEO of Healthy Markets, Tyler Gellasch, has called “[...] a flashing red-flag for investigators [...] and “[...] likely to be an exhibit in court cases.”

FTX

In May 2019, SBF and co-founder Gary Wang started FTX in the Bahamas. FTX quickly grew to become the third-largest crypto exchange when it peaked in 2021, serving more than one million customers worldwide.

As we know by now, the relationship between Alameda Research and FTX would prove to be very close - so close that the relationship was most likely illegal in itself. According to Argus and the Wall Street Journal Alameda utilized its close relationship with FTX to systematically front-run exchange listings and profit from the inside knowledge they had of upcoming listings on the exchange. The CEO of Argus, Owen Rapaport put it this way:

“Compared to the cases that we’ve seen so far, filed by the federal government, definitely the scale at which Alameda has been front running FTX listings over multiple months, is much, much greater[...]”

Argus believes that what they’re finding could indeed constitute insider trading, but no law enforcement agency has claimed this yet.

However, alleged insider trading is not the only vice that SBF and co. may have fallen into.
Allegedly, FTX and Alameda would utilize the fact that they controlled the majority of the supply of FTT and the ability to print additional tokens to print more tokens and withhold them from the open market. This allowed them to effectively pump the price of their own token way beyond what they would realistically fetch on the open market, and way beyond what its liquidity would allow them to cash out. The FTT tokens would then be used by Alameda as collateral for taking out loans and conducting leveraged trading. In this way, Alamada was seemingly leverage trading without correct valuation and liquidity to back their loans - a very risky endeavor at first glance.

However, the first-day petitions and pleadings filed by John Ray bring to light a string of additional revelations regarding the close relationship between Alameda and FTX. In the new findings, it’s revealed that Alameda was secretly exempt from FTX’s auto-liquidation software when trading on the platform. In this way, Alameda could in practice leverage trade on FTX risk-free. A shocking revelation, which puts earlier statements by then CEO of Alameda, Caroline Ellison, wherein she claimed that Alameda did not utilize stop losses as a risk management tool, into a new context; I mean, why would you need to when your positions literally cannot get liquidated?

The financial crime spree that the founders and executives of FTX and Alameda have allegedly been on does not end here though. In the first-day petitions and pleadings for FTX, John Ray goes on to account how FTX has also used software to intentionally conceal the misappropriation of user funds that were illegally loaned out to Alameda to fund their leverage trading. Once again, the relationship between Alameda and FTX appears to be so close that it becomes difficult to discern where one entity ends and the other begins.

In a similar vein, the so-called “Sam Coins” is another example of how the exact relationship between Alameda and FTX was indeed too close.

Sam Coins

FTT was not the only token that FTX and Alameda manipulated the supply and price of to create extra collateral for their leveraged positions. A string of coins dubbed “Sam Coins”, many of them launched on a DEX (Serum) owned by SBF, would prove to suffer the very same manipulative tactics that propped up the FTT token.
 

15/ As markets are thin, Alameda can prop up prices using a few million dollars to create a "fake" fully diluted valuation of say $1B.

Suddenly, $2M is $200M on *paper*.

This is an open secret for what industry insiders call "Sam coins". Note the circulating supply across them: pic.twitter.com/kv5eYq5xJ0

— Jason Choi (@mrjasonchoi) November 15, 2022

As Jason Choi puts it in a series of tweets, Alameda would systematically provide funding for new crypto projects on the condition that they would be listed on FTX. They would then go on to withhold the majority of the tokens from the market, which allowed them to pump the price by manipulating the circulating supply of the token. In this move of blatant market manipulation, Alameda was able to essentially 100x their collateralized funds on paper. As previously mentioned in this article, this barely works in theory, though, as the tokens would seldom have enough liquidity to support the liquidation of Alameda's position. Of course, this is not a problem one would worry too much about if one were in a situation where one's position could never be liquidated.

So where’d the money go?

Alameda and FTX lost a lot of other people’s funds, and trying to discern where all the money went is a monumental task that liquidators are still in the middle of undertaking. As John Ray put it in the first-day petitions and pleadings:  “Because of historical cash management failures, the Debtors do not yet know the exact amount of cash that the FTX Group held as of the Petition Date.”

In short; FTX and Alameda utilized financial practices and bookkeeping that were so bad that liquidators have no idea how many assets and liabilities the companies actually have. One of the big problems with having poor bookkeeping and fund management, as well as no clear division between the two firms, is also that it becomes close to impossible to figure out exactly whose funds were used where.

What we do know, is that a lot of funds were spent on lobbying, and SBF was a donor for both political parties in the United States - he actually donated more than $36M to the Democrats and had originally pledged to donate $1B more throughout 2024.

FTX also invested heavily in name recognition and made quite a lot of sports plays, most notably spending $210M on the naming rights for esports team TSM and $135M for the naming rights of Miami Heats arena. Similarly, funds were invested in acquiring celebrity endorsements by Tom Brady, Shaquille O'Neal, and Stephen Curry among others. Endorsers who are now the subject of a class action lawsuit in the US.

A lot of it was also spent on trying to salvage the precarious position that the firms found themselves in after the collapses of 3AC, Voyager, and Celsius earlier this year.

For example, FTX lend Voyager $200M and 15 000 BTC during their bankruptcy proceedings to avoid a liquidation of the FTT tokens that the company held - a liquidation that would undoubtedly have ended up in a crash of the FTT token price and subsequently a triggering of liquidations of loans collateralized with FTT. FTX would go even further than this, and end up winning the bid for the Voyager bankruptcy by offering $1,4B - a deal that has now obviously fallen through.

We also know that FTX and Alameda spent a significant amount of funds on buying property for their employees and advisors in the Bahamas. How much they spent on this, as well as the exact nature of the acquisitions, is unclear due to the poor financial management of the firm. As John Ray explains in the first-day petitions and pleadings:

“[...] corporate funds of the FTX Group were used to purchase homes and other personal items for employees and advisors. I understand that there does not appear to be documentation for certain of these transactions as loans, and that certain real estate was recorded in the personal name of these employees and advisors on the records of the Bahamas.”

Revelations from the bankruptcies proceedings filed by John Ray, also reveal that massive loans were given by Alameda Research to SBF and other executives of the firm: one to SBF of $1B, one to Nishad Singh of $543M, and one to Ryan Salame of $55M.

It seems then that a majority of the missing funds have been used to (i) fund the name-recognition and branding of FTX, (ii) lobby the Democrat and Republican parties of the US, (ii) clean up their own mess by acquiring bankrupt companies that held the FTT token, (iii) buy properties for employees and advisors of FTX and Alameda, (iv) give private loans to the founders and executives of FTX and Alameda.

Again, the problem of poor financial controls and bookkeeping makes it difficult to discern where exactly these funds come from. Were the funds earned legitimately through trading fees from FTX or leveraged trades by Alameda? Or were the funds misappropriated from user deposits? In the end, it may not matter much, since the blatant disregard for financial regulation and controls is illegal in itself, and user funds are clearly missing.

So, when did it all start to go wrong?

A question that many of us find ourselves pondering, is the question of how and when things went sideways for FTX and Alameda. Were they acting in bad faith from the very beginning, or did something happen along the way that made them decide to begin their fraudulent practices?

We know that the first red flags emerged already in 2018 when Alameda was promising investors a risk-free 15% return with no downsides, and we know that given the background of SBF, he should definitely have known better. After all, how does the son of two Stanford Law professors with a background in Jane Street think it’s kosher to solicit investors on false pretenses and misappropriate user funds?

In a recent interview by Vox that SBF may have more or less willingly participated in, the main character of the whole debacle sheds some light on his perspectives and thought process leading up to what should turn out to be crypto's very own Lehman Brothers event.

In the interview, SBF claims that things started to go awry and that a lot of user deposits were loaned out after FTX and Alameda lost a lot of money on the LUNA crash earlier this year. As he puts it himself “though in retrospect LUNA crash was when a lot of it [customer deposits] did [were lent out].”

When asked about whether there was a point where FTX actively chose to misappropriate user funds, SBF confirms that the illegal practices were present at FTX from the very beginning and that user funds would actually be directly deposited into a bank account owned and controlled by Alameda - not FTX. In this way, user funds were actually in the possession of Alameda from the very beginning and were never properly a part of the holdings of FTX.

It seems then that something was rotten in FTX from the very beginning. Already in 2018, Alameda began the practice of soliciting investors based on false pretenses and poor risk analysis, and according to SBF himself, user deposits to FTX were misappropriated from the very start. The problems were exacerbated when LUNA crashed and Alameda had to make riskier and riskier plays to recuperate their losses.

SBFs rivalry with Binance CEO, Changpeng Zhao, played a vital part in the very public and sudden downfall of FTX.

Binance originally bought 20% of FTX for around $100M but was bought out by SBF for $2B in 2021 after their relationship soured, when Binance allegedly blocked FTX’s attempts to acquire a license in Gibraltar. It’s rumored that FTX has been involved in several attacks on Binance and many have speculated that FTX had been waging an information war to discredit Binance in the court of public opinion.

Source: Twitter

It’s also widely believed that FTX and Alameda were behind an attempted attack on Binance Futures in September 2019:

6/ Around September 2019, Alameda allegedly attempted to manipulate futures on @binance, which was thwarted by the latter.

However, this would likely mark the beginning of the bad blood between Binance and FTX that spelled the end for FTX.https://t.co/bvwLQncRgG

— Jason Choi (@mrjasonchoi) November 15, 2022

The rivalry and bad blood between the two CEOs culminated when CZ tweeted that Binance would liquidate their holdings in FTT after Coindesk published a report calling into question the solvency of Alameda Research.

The tweet by CZ is by many considered the proverbial straw that broke the camel’s back and triggered a bankrun on FTX that would end up finally exposing their insolvency and shady practices.

In conclusion:

The FTX and Alameda debacle is far-reaching and no one has a grasp of the actual scope and reach of the contagion as well as where all of the money actually went just yet. Due to the poor financial controls and bookkeeping practices in FTX and Alameda, it will probably take liquidators months to unravel the ball of yarn that constitutes one of the biggest frauds in the history of crypto.

At the crux of the debacle are the facts that the finances and operations of FTX and Alameda were never separate, as well as the blatant market manipulation that allowed Alameda to pump their collateral and balance sheets to conduct leveraged trading on a false pretense.

What we do know is that things were bad in Alameda and FTX from the very beginning. The decisions to solicit investors on false pretenses and to utilize a bank account controlled by Alameda for FTX user deposits go back at least four years, and the executives should have known better, especially given their backgrounds and familial connections to prominent economists and law practitioners.

The shady and illegal practices of FTX and Alameda allowed them a huge advantage in the space, and they used that advantage to invest massively in lobbying, celebrity endorsements, and PR, which aided them in quickly becoming the third-largest exchange in the world, servicing more than a million users.

As the dominos continue to fall, an entire industry holds its breath and nervously awaits the fall-out of what may prove to be the biggest black swan event in crypto’s history.