After bumping around the key $20,000 support level since June after falling from almost $65,000 late last year, bitcoin has finally fallen through the floor this week and currently sits at around $17,374. The broader cryptocurrency market beyond Bitcoin has taken a similar hit, dropping to an overall market cap of around $885 billion from almost $3 trillion this time last year.

Until this week and Bitcoin’s fresh drop in value to comfortably below $20,000, there was still plenty of optimism among cryptocurrency enthusiasts that the “Crypto Winter” was simply part of what has become a 4 to 5-year cycle for the alternative asset class built on blockchain technology. When economic sentiment improved, leading to a recovery in the stock market and particular riskier growth stocks, Bitcoin and the wider ecosystem of cryptocurrencies would bounce back. As it did from value slumps in 2013 and 2018.

This week’s events have, however, dented that faith after the collapse of FTX, one of the world’s biggest and most secure-looking cryptocurrency exchanges. The demise of FTX caught the market by surprise, despite the difficulties of this year. It was seen as a powerhouse and safe harbour in the storm having stepped in the calm market nerves in spring and early summer by buying significant stakes in stressed crypto lenders BockFi and Voyager Digital.

FTX had the financial clout to make those moves after attracting a host of A-list investors including BlackRock, the world’s second-largest asset manager, and the Ontario Teachers’ Pension Plan early in the year at a valuation of $32 billion.

Now, just a few months later, FTX, which the research firm CryptoCompare estimates often handles over $1 billion in cryptocurrency transactions a day, may not survive. It needs to be bailed out with its 30-year-old billionaire founder Sam Bankman-Fried saying $8 billion needs to be raised to prevent the exchange’s complete collapse. Earlier in the week, а proposed rescue bid by rival crypto exchange Binance was withdrawn with the company releasing a statement on Twitter that read:

“In the beginning our hope was to support FTX’s customers and provide liquidity, but the issues are beyond our control or ability to help.”

Binance referred to news reports of mishandled customer funds and an alleged investigation by the US Securities and Exchange Commission in justification of its about turn.

FTX failing to secure the $8 billion it needs to survive would be, said Ian Taylor, head of the industry body Crypto UK, a “mini-Lehman moment for the crypto industry”, continuing:

“I am concerned that a major exchange falling over in a matter of days and needing to be bailed out is detrimental to the work we are trying to do in the policy space to create balanced and proportionate regulation.”

The new drop in cryptocurrency valuations this week suggests he is not the only person to share that concern.

What happened to FTX?

How did FTX go from boom to bust so quickly? The latter stages of the exchange’s collapse came as a result of FTX account holders rushing to take their assets out after the Binance statement. Binance chief executive Changpeng Zhao was quick to defend his own company’s role and suggestions it had an incentive to hasten the demise of a major competitor, saying:

“FTX going down is not good for anyone in the industry. User confidence is severely shaken.”

But while the aborted bailout didn’t help, it wasn’t the root of FTX’s troubles, which were sparked by a leaked balance sheet of sister company Alameda Research. The leaked document showed that the majority of assets held by the firm as of the end of June consisted of FTT, FTX’s proprietary token launched in 2019, and FTT collateral.

The token, backed by and traded on Alameda, was pushed to users by FTX, which offered discounts for its use on the platform. The over-exposure to FTT is being referred to by analysts as a “money-go-round”.

FTX and Alameda were shoring up their balance sheets with huge exposure to their own cryptocurrency, which meant any significant drop in its value would mean trouble. That reality being exposed by the crypto industry media CoinDesk, which published the leaked balance sheet, resulted in the inevitable – a rush to sell FTT whose value is now down 92% since May.

Source: CoinMarketCap.com

But how did FTX’s balance sheet fall into such a bad state of repair after it had raised $400 million as recently as January at a $32 billion valuation? Dow Jones has reported FTX lent Almeda billions of dollars to finance risky crypto bets, draining the exchange of liquidity and leaving it vulnerable to a rush of withdrawal requests – exactly what happened this week.

If the money-go-round between the two sisters was outright fraud or misconduct will be left to investigators to rule on but it seems unlikely that FTX can be saved. Yesterday, Bankman-Fried, known by his initials SBF, appeared to have thrown in the towel, tweeting to his 900,000 Twitter followers “I’m sorry … I f***ed up and should have done better.”

Sequoia Capital, one of the exchange’s high profile investors, has also given up hope, yesterday writing down its investment to zero.

*While this article was being written it was confirmed that FTX has filed for bankruptcy and Bankman-Fried has resigned as the company’s CEO.

What are the implications of the FTX collapse for the future of the cryptocurrency market?

The collapse of a cryptocurrency exchange, even a major one like FTX , won’t in itself sound the death knell for cryptocurrencies. However, it is another serious blow to confidence in the sector which has suffered this year as holders of crypto have seen the value of their assets plunge.

For critics, it is another stick to beat the sector with and many will feel the event further reinforces the argument that cryptocurrencies have always been based on the “greater fool” theory and have no intrinsic value. The counter argument to that is fiat currencies have no greater claim to intrinsic value but are simply deeply embedded in the economic system.

But even members of the financial markets establishment that have displayed a tacit willingness to acknowledge cryptocurrencies could have a future role appear concerned by this week’s turn of events. Especially the fact that a company credited with rescuing the sector just 4 months ago now needs rescuing itself.

Analysts at the investment bank JP Morgan, which has made significant investments in the sector and even released its own blockchain-based clearing system, JPM Coin, told clients in a note this week:

“What makes this . . . problematic is that the number of entities with stronger balance sheets able to rescue those with low capital and high leverage is shrinking.”

The biggest worry is contagion spreading out from FTX across the rest of the crypto sector. John Lo, managing partner of digital assets at the investment firm Recharge Capital is quoted by Time magazine, saying:

“I think it’ll be very bad: This is contagion to the maximum. We’re going to see household crypto names, lenders and funds go down completely. It’s going to get messy and protracted.”

It is likely to significantly slow down any progress towards real integration of the crypto sector with mainstream financial markets. Bankman-Fried was one of the sector’s highest profile advocates of such integration and was lobbying for bipartisan bill to place crypto exchanges and brokerages under light touch oversight by the Commodity Futures Trading Commission. That process may well suffer as a result of the FTX collapse.

The crypto sector may well now face a tougher regulatory environment, thinks Low:

“From a regulatory perspective, this really really winds back a lot of the goodwill that was built up in the past two-three years. It shows that centralised finance and cryptocurrency definitely needs to be regulated to a certain degree.”

There’s still a chance the cryptocurrencies sector regroups and emerges in a stronger, more sustainable form from the current Crypto Winter. But the cold snap will now almost certainly bite deeper and stretch on for longer than it otherwise would have. The next year and how the sector copes with this setback will be crucial to its hopes of the kind of bounceback the dotcom sector achieved from the debris of the bursting of that bubble in 2000.