I know there is tremendous fear in the market this week due to the failure of the third-largest crypto exchange, FTX, as well as a hack at the largest crypto derivatives exchange, Deribit.
First and foremost, our investors' funds are safe. We are executing our trading algorithm as normal and we were not exposed to either the Deribit hack or the FTX failure. We exited the market in an orderly fashion according to our standing trading rules. It's business as usual at TrueCode Capital.
Our layered approach to risk has informed our decision that we do not use leverage or derivatives, which protected us from the Deribit hack. Similarly, we only work with US-based SOC 2-compliant exchanges, so we have not been affected by the failure of FTX.
So, what happened?
First, the crypto exchange FTX suspended withdrawals Tuesday, which sent ripples through the market as investors were reasonably concerned about whether the third-largest crypto exchange was going to survive the day. Their corporate token, FTT, which investors use for trading on the FTX exchange to receive lower fees dropped by 75% on Tuesday as investors sought to move their money off the platform and the small fee discount for trading using FTT was outweighed by the declining value of the token and the increased likelihood of total loss by continuing to hold it. Much like the Terra/LUNA tokens earlier this year, it is possible for FTT to become valueless in days.
To curb the liquidity crunch, rival exchange Binance swept in to acquire FTX, seemingly to prevent a total meltdown of the crypto market.
Second, the crypto derivatives exchange, Deribit, also suspended withdrawals after they fell victim to a hack of their crypto bridge. The bridge is a workaround some firms use in an attempt at interoperability between tokens in different markets, but this bridge is not as secure as the actual blockchains. Virtually all crypto derivatives, many DeFi projects, and a large percentage of Web3 projects are exposed to this crypto bridge problem, so there is little reason to expect these attacks to cease. They are too profitable for cybercriminals to ignore.
Deribit crypto exchange halts withdrawals amid $28M hot wallet hack
Personally, I have lived through several of these bear markets over the past decade and have seen numerous firms fail (including Mt. Gox). We see firms emerge during boom times, but few are able to survive the down times. While we may seem overly pedantic about managing the exogenous crypto risks for our Fund, this focus is borne of experience. To prosper in the crypto markets, you have to survive them.
Our defensive approach protected our Fund from total loss in a number of ways this week:
No derivatives, no leverage: So we did not have money on the Deribit derivatives exchange
US-based, SOC 2-compliant exchanges: So we did not have exposure to Deribit or FTX
US-based exchanges only: No exposure to FTX (Bahamas), nor Deribit (Panama)
Once-daily trading: Allowed us to exit at a higher price than the intra-day low
Manual trading: Prevented losses due to price distortions across exchanges
US-based: Our Fund is based in the US, so low-quality derivatives platforms cannot have us as clients
You'll notice that none of these protections have to do with our trading model, they are mostly features of our robust fund design. Deribit and FTX account for a substantial portion of total crypto derivatives trading, so there are many market-neutral crypto funds that will fail because they failed to properly assess the risks of their platforms. Many of these Funds are based offshore so they could take advantage of the low-quality overseas derivatives markets, which they improperly believed was a risk-free return instead of a risk premium.
We will continue navigating the crypto markets with an eye toward protecting investor capital from extreme events like the ones today.
The views of external contributors expressed in the article may differ from the official editorial direction of the Korea IT Times.-- Ed.
