Crypto’s Bre-X moment means regulations are finally on the way

There’s got to be a sense of schadenfreude in some circles of the mining business watching the implosion of FTX this month. 

Somehow, cryptocurrencies have competed with the mining sector as both a speculative investment — squeezing out money that might otherwise be directed to junior miners — and also been sold as a store of wealth and inflation hedge, competing with precious metals. 

While some have called crypto “digital gold,” the limits of that analogy became clear this month. 

The first two weeks of November saw the sudden and dramatic collapse of the cryptocurrency exchange only five years after it was founded by 30-year-old wunderkind Sam Bankman-Fried. 

Concerns about FTX’s balance sheet were first raised in early November. Those concerns were validated when a competitor, Binance, came in to buy the company, then cancelled the deal. 

“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,” Binance said. 

Investors pulled their money out and regulators in the Bahamas — where FTX and Bankman-Fried are based — moved to freeze the company’s assets. 

FTX, which was worth US$32 billion in February, filed for bankruptcy protection on Nov. 11. Reports have emerged that FTX transferred at least US$1 billion in clients’ funds (without their knowledge and through a “back door” software program to keep the manoeuvre on the down low) to Alameda Research, a company controlled by Bankman-Fried. 

In response to the FTX scandal, total market cap in the crypto sector declined by 11.3% in the first 24 hours to $848 billion, according to Canaccord Genuity. Bitcoin, which peaked at US$68,000 in November 2021, was already having a terrible year before the FTX news, dipping below US$19,000 in late September. At press time it was at about US$16,000. 

While exactly just what happened with FTX is still being investigated and no charges have yet been laid, analysts at Canaccord Genuity described it in a Nov. 10 report as the “digital currency equivalent of a run on a bank.” 

It’s also reminiscent of the biggest black eye to date in mining – the Bre-X Minerals fraud of the 1990s. 

While Bre-X was just one company, investors worldwide lost some $3 billion in the scam. It also destroyed confidence in the mining sector and led both regulators and the industry to cooperate on creating new standards to protect investors. 

The crypto space is subject to fraud and theft: the U.S. Federal Trade Commission estimates that U.S. investors lost US$1B in crypto scams last year. 

It’s safe to say that the FTX fiasco is likely to bring more regulation — finally — to the crypto space. 

‘Hands-off’ 

Before its fall, FTX was considered a leading exchange in the crypto industry — and above-board enough to attract risk-averse funds such as the Ontario Teachers Pension Plan, which has now written off its $95 million investment in FTX. (Notably, in August, Caisse de depot et placement du Quebec wrote off a US$150-million investment in Celsius Network — a cryptocurrency lending company that filed for bankruptcy protection in July.) 

In a Nov. 17 video, Jeffrey Christian, managing director of New York-based commodities research and consulting firm CMP Group, predicted further trouble for crypto investors over the long run. 

“Private cryptocurrencies are likely to disappear, and they’re going to likely disappear in ugly fashion that’s going to cost investors a lot of money,” he said. 

Christian noted that regulators have mostly taken a “hands-off” approach to crypto since it first emerged in 2009. 

While they believed there would be big losses in this unregulated market, they didn’t want to be the catalyst for such a collapse by stepping in to regulate. 

However, that’s starting to change now with fears of financial contagion becoming a real concern as the crypto market has grown to around US$3 trillion from US$500 billion over the past few years. 

In the meantime, Christian predicts that the FTX mess could spark a bit of a revival for precious metals, which have mostly languished this year as central banks continue to jack up interest rates. 

“In the long run, our view is that cryptocurrencies will implode — there’ll be bigger issues, there’ll be more thefts… Larger investors will lose more money and that will refocus investors’ attention on the values of owning some gold and silver – real tangible assets that are the antithesis of cryptocurrencies.”