Cumberland: ‘FTX Bankruptcy Has Triggered Some Important Market Structure Changes’

On Monday (14 November 2022), crypto trading firm Cumberland DRW LLC, which is a subsidiary of privately held trading firm DRAW Holdings, explained how the collapse of crypto exchange FTX has impacted the structure of the crypto market. 

FTX issued the following press release on 11 November 2022:

Anyway, earlier today (14 November 2022), Cumberland said:

Last week was Cumberland’s most active week ever. Beneath the chaos and explosive volumes, the FTX bankruptcy has triggered some important market structure changes… For some time now, the various functions of crypto spot trading have been trending toward a model of all-in-one platform centralization: liquidity, clearing, settlement, custody, and even lending were coalescing under a very limited number of roofs…

A similar trend was taking shape in the crypto derivatives market, where the providers of leverage were one and the same as the providers of liquidity…The events of last week triggered a handbrake turn, and while it’s still too early to predict, crypto market structure now seems likely to mirror FX – a world where assets and capital aren’t parked on centralized exchanges…

Instead, digital assets will reside in countless silos around the world and the functions of custody, lending, settlement, clearing, and [most importantly] liquidity will be offered by an array of intermediary nodes and providers in an interconnected but non-interdependent web… Over-the-counter trading is the lifeblood of spot FX liquidity and will only become more important for crypto going forward; after all, currencies are bearer assets and so is crypto…

Thus, in 2023, we expect to see the emergence of a variety of regulated entities who will become the trustworthy providers of various well-defined market services… Each will carve out their niche and partner with a network of other providers to offer a full-service stack to end users, much like banks around the world currently aggregate OTC FX liquidity into their settlement mechanisms and offer options for leverage, custody, etc to clients…

Centralized exchanges had every incentive to push the all-in-one model. In hindsight, some of those incentives were perverse – FTX was happy to offer 20x leverage because doing so increased the probability that a user would be force-liquidated by Alameda at an unattractive price… Ultimately, markets involve trust and the events of last week damaged trust in the crypto industry. That said, FTX’s insolvency absolutely must be differentiated from the viability of blockchain technology…

While it’s disheartening to watch a large digital asset empire crumble into a modern incarnation of Lehman/Enron/Madoff/Theranos, no relevant chain stopped processing blocks last week. These industry-defining events are usually the predecessors of market recovery.

On 18 October 2022, explained why — despite what some people may think — the crypto market is far from dead:

Much has been made of the recent muted price action, with an embedded conclusion that lower volatility represents a lack of interest in the digital asset space.

This analysis is deeply problematic, however, because it obfuscates the critical difference between trading volumes and price volatility. Volatility is indeed muted, but volumes, while certainly off the highs of the year, remain absolutely massive: $50B worth of linear bitcoin derivatives clear on exchanges each day, and this figure excludes spot, on-chain activity, and any non-BTC-related trading. Total economic activity in crypto is probably north of $100B/day, which is roughly 1/5th the figure for US equities.

Recent volatility-driven concerns about the health of the crypto space likely stem from comparisons to the bear market of 2018, when volumes were dire. This time is different: an enormous amount of value is clearing at this price set, indicating equilibrium for a large & growing marketplace, not the price pattern of a stranded asset in its death throes.

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