Crypto’s Big Bang? Why the FTX Collapse Is a Good Thing

Crypto’s Big Bang? Why the FTX Collapse Is a Good Thing

In a year filled with dramatic – and often painful – financial stories, it seems the biggest and most surprising was saved for last: the FTX collapse. And while many investors are hurting today, I believe the fallout will ultimately benefit us all.

No one saw it coming. Sam Bankman Fried was celebrated as a boy-genius entrepreneur who could virtually do no wrong – even more so, thanks to his pledge to give away all his money. But that image, along with the accounts of thousands of investors, came crashing down in November amid allegations of massive fraud.

So how can there be any good when thousands of people lose their money? The answer, in my view: the SEC and FINRA finally have the political capital to fix the broken crypto marketplace.

What’s changed?

For most of its existence, FTX was largely free of regulation. In their view, cryptocurrencies could be issued and traded as commodities – which are very different than securities. Following this rationale, the firm justified in the US and abroad that it should only have to comply with the relatively light commodity trading rules. But that all has since changed.

Prior to the firm’s collapse, the SEC declared the company’s token, FTT, a security. The ramifications were dramatic. The issuance and trading of this taken now had to abide by the securities rules put in place by the SEC and supervised by FINRA. The simple fact that FTX was not a broker-dealer and did not properly issue FTT meant that they violed a very large number of these rules.

Assuming FTX was a FINRA-regulated entity, here are a few examples of the rules it appeared to violate (trust me, there are a lot):

• FINRA Rule 5130 prohibits firms and individuals from participating in any manner in the offer, sale, or distribution of an unregistered security.
• FINRA Rule 4512 requires broker-dealers to adopt written policies and procedures regarding the safeguarding of customer assets, including cash and securities, that are in the broker-dealer’s possession or control.
• FINRA rule 2111 requires broker-dealers to have reasonable grounds for believing that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the customer’s investment profile.

Where do we go from here?

Frankly, this list doesn’t even scratch the surface of the rules FTX likely  failed to follow or outright ignored. Likely, the firm will be sanctioned by the SEC. Add to that the criminal allegations the Justice Department is pursuing – and I believe this could be a singular event to morph the unbridled world of crypto currencies into a regulated world of securities. Big Bang events like this are often tumultuous and painful. But I think the regulation it helps create can bring meaningful protections for investors in the future.