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Eigen Value's avatar

I think this simplification, while probably close to the big picture (clearly it is a story of overleverage of crap collateral), misses some technical points:

A) the spot margin lending system cannot of its own bankrupt the exchange because it is opt in, FTX clients needed to (1) switch on spot margin (2) actually allocate positive coins or fiat balances to it. That's the max borrowers could take out, and yield auctions balanced that market. The terms were that FTX would "try" to make up a default, but it did not guarantee it, so if someone withdrew all the ETH or USD participating in the lending system by depositing a lot of shitcoin, and the shitcoin zeroes, lenders just get nothing or the shitcoin but the exchange is not bankrupt. Cash accounts and uncommitted balances in margin accounts should still be backed 1:1 so there was fraud at some point.

B) There is a haircut based on the square root of position size (listed in tables of borrowable coins), so if 1 account puts a lot of 1 shitcoin, the collateral requirements gets bigger. Alameda could not bypass without fraud (either a switch server side, or creating 100000 sock puppet accounts).

C) Why did SBF bail out Alameda? It looks it's the other way round: clients deposited FTX funds in that "mislabeled" Alameda bank account, and it looks like Alameda thought it was their own money from PNL or fundraising or whatever and basically spent it (if they did not keep records of what startups they were investing in, it's thinkable that they could not be bothered to reconcile cash balances). When the exchange is growing the exchange does not actually need the margin at all, as deposit are more than withdrawals on most days and regular withdrawals could be handled from the "correctly labeled" FTX bank accounts. If they discovered that too late, there was no way out: Alameda had already taken client funds inadvertently. Then it looks they tried to take some more of non-lending client assets to bet their way out of the hole, which might have worked out in a crypto rebound.

A remark is that this construct with "deposit shitcoin/withdraw a large part of the current value as fiat or blue chip coin" is common in many exchanges. If someone has a big bag of shitcoins they can dump it on all exchanges that take it to effect a synthetic sale without (initial) market impact, which makes lending markets very fragile even if operated by the book.

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Freddie deBoer's avatar

I would still like a plain-language explanation of what crypto and "defi" do that traditional finance doesn't do. What problem is being solved?

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