Why will at least 80% of centralized crypto exchanges (CEXs) disappear?

By Stéphane Reverre & Chadi El Adnani @SUN ZU Lab

August 2023


It was October 2022 when we published an article titled “Why has liquidity become a question of survival for crypto venues?” urging centralized crypto exchanges to consider liquidity as the “gold standard” of their future profitability and deploy all necessary resources to monitor it and understand its drivers. Little did we know that one month later, the FTX/Alameda implosion would put the entire crypto ecosystem, and mostly centralized exchanges, on the brink of collapse.

Halfway through 2023, CEXs’ order book depths and trading volumes are ~10x thinner on average than 2022 levels, prompting us to express an even more aggressive view: “Why at least 80% of centralized crypto exchanges (CEXs) are going to disappear?Liquidity attracts more liquidity in the same way success is a magnet for even more triumphs. Add to that the looming regulatory pressure, and the bottom majority of CEXs will start falling like a domino chain, with the losers dying slowly.

Questions and comments can be addressed to c.eladnani@sunzulab.com or research@sunzulab.com

In TradFi, capital markets have been all about scale. Whether in banking, asset management, hedge fund, or trading venues sectors, the bigger are getting bigger! M&A has been one of the most significant value drivers for TradFi exchanges over the last 20 years, allowing groups to generate significant economies of scale by mutualizing costs from data centers, matching engines, and employees. Here is a selected list of the major acquisitions of the century:

Even though it is not exactly the same industry, The FDIC’s website provides additional valuable information on the evolution of the banking industry in the US. Between 1990 and 2022, the number of commercial banks insured with the FDIC went from 12,347 to 4,136, with the number of newly issued charters virtually near zero since 2008. As the retail and corporate segments increased significantly over the same period, the major remaining banks enjoyed the full benefits of consolidation and economies of scale with minimal efforts!

The list of exchanges’ failed M&A deals is even longer:

The remaining big five exchanges have also gone on an acquisition spree for data, analytics, indices, execution, settlement, and other infrastructure providers, as can be seen in the graph below, with the crown going to LSEG for its $27 bn acquisition of data and trading group Refinitiv, approved by EU regulators in 2021. 

Source: FT

Overall, the exchange business in Tradfi has seen many agitations up to the 2000s. This was followed by an accelerated consolidation wave, leading to the current market state post-2008’s GFC (“Global Financial Crisis”), where there is virtually no room for another newcomer due to the heavy regulation and high cost of capital (unless through an acquisition). The exact cause having the same effects, we expect the same level of consolidation to happen over the next couple of years for centralized crypto exchanges. This trend should be accelerated with the recent rise of “institutional” crypto trading venues, the latest being the launch of EDX Markets, backed by Citadel Securities, Charles Schwab, & Fidelity. EDX will operate as a non-custodial exchange, serving only institutional clients with plans to launch EDX Clearing to settle trades matched on the exchange, a feature still absent from nearly all CEXs.

Coinbase, the first crypto exchange to go public, provides us with a valuable sneak peek into its financials through regulatory filings:

Source: Coinbase Shareholder Letter Q1 2023

We can notice that, disregarding a slight uptick in Q1 23, transaction revenues have been free-falling since 2022, with total revenues divided by three over the period. However, revenues from subscriptions and other services more than doubled to $362 million. The compensation from diversification channels wasn’t enough to compensate for the loss from transaction revenues, as Net Revenue fell 37% YoY. Coinbase also introduced in May 2023 a new subscription service called “Coinbase One,” available for a monthly fee of $29.99 and providing a range of features that include zero trading fees, increased staking rewards, and round-the-clock customer support. The service was launched in the US, UK, Ireland, and Germany, with plans to extend its availability to 35 countries. Coinbase’s race and doubling down on revenue diversification is a strong distress signal for all other centralized crypto exchanges, which we are sure are in a far worse state than the leader Coinbase.

To put matters into perspective, here is a financial performance comparison in 2022 between Coinbase and the major TradFi exchanges around the world:

Source: 2022 10-K Forms and Annual Reports

The proportion of non-transactional revenues for TradFi exchanges (45% on average) is way higher than Coinbase’s figure. TradFi exchanges are also impressive cash cows, with an average EBITDA margin of 49% and an average profit margin of 31%. The fact that the leader of crypto centralized exchanges is nowhere near these profitability levels is one major alarming sign for the whole sector. The only path to recovery is through revenue diversification, and one surprisingly unexplored gold mine is data monetization!

Below are two examples of how Euronext and LSEG diversify their revenue streams:

Source: Euronext Q4 and FY 2022 results
Source: LSEG 2022 Annual Report

Centralized crypto venues should realize the magnitude of the problem and face the fact: if the market leader still hasn’t found a magic formula to profitability, maybe the solution isn’t different from what has been a major success in TradFi for years!

The path to recovery and survival, in our view, starts with asking the right questions:

A thorough internal process revue around the previous questions should give the first movers among CEXs the opportunity to:

We have been connected to 40+ major centralized crypto exchanges at SUN ZU Lab for years. Our cutting-edge technology and deep market microstructure expertise provide us with a sharp view of tick-level order book activity in these exchanges, most often giving us a better understanding of their trading dynamics than management teams lacking internal resources. We have the right combination to accompany a centralized crypto venue to answer the previous problems before it is too late!

Let’s discuss

About SUN ZU Lab:

SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring better data to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboards, API streams, and historical files. SUN ZU Lab provides crypto professionals with actionable data to monitor the market.

Market Making Overview: TradFi vs Crypto

By Stéphane Reverre & Chadi El Adnani @SUN ZU Lab

June 2023

Link to PDF version

Market Making Overview: TradFi vs Crypto – SUN ZU Lab

[NB: See the glossary at the end of the article for a definition of technical terms]

Liquidity(*) is the gasoline of any exchange, whether traditional or crypto, and the engines pumping it are called Market Makers. We define them in this article and go over their role, strategies, and risks, as well as a thorough comparison between market making in Tradfi and crypto.

We have already provided in-depth detail about TradFi and crypto market liquidity here, and why liquidity has become a question of survival for crypto venues here, so let us dive right into the nitty-gritty of market making.

Questions and comments can be addressed to c.eladnani@sunzulab.com or research@sunzulab.com.

Market Making in TradFi

Historically, cash equity markets used to execute auctions manually to match buyers and sellers, and it could take seconds to fill a marketable order. Today, they are mainly electronic, with trading occurring on fully-automated exchanges and dark pools. In contrast, fixed Income markets remain primarily dealer-driven and over-the-counter (OTC)(*), in many cases still trading via person-to-person telephone interactions – although electronic trading is taking ground under regulatory pressure. Contrary to equities, foreign-exchange (FX) markets are dominated by a handful of the world’s largest banks and market-making firms, who stand ready to provide two-sided markets and liquidity even when central banks intervene, driving periods of high market volatility.

Registered market makers (MM)(*) generally provide transparent two-sided bid-ask(*) quotes at all times when a market is open, meaning that MMs will publish a price and amount that they are willing to buy or sell at throughout the trading session. In fact, Reg NMS(*) requires that registered MMs provide firm quotes immediately accessible to incoming orders. They are also usually constrained to maintain spreads below a maximum limit, a minimum order book depth and presence in the order book a minimum duration within trading sessions (the uptime requirement). As a result, MMs collect trading profits from their activity, in addition to incentives (for example, rebates against regular trading fees) offered for displaying orders at certain venues (from exchanges or issuers who want to maintain adequate liquidity). Liquidity providers are mostly passive in the order book, but they may occasionally aggressively take liquidity in some circumstances to manage their risk and inventory.

It is essential to note that MMs have a mandate to provide liquidity (i.e. help investors trade better), but absolutely not to move the price. This is achieved by keeping the MM obligation symmetric, with a bid AND ask price at the same time and a maximum spread to make sure MM prices are not too far from the actual price.

In the US, for example, the regulatory requirement is that the Designated Market Maker (DMM) must always be willing to buy or sell one round lot (usually 100 shares). They are further required to quote at the National Best Bid or Offer (NBBO) at least 15% (10%) of the trading day for securities trading over (under) 1,000,000 shares per day. When they are not at the NBBO, their quotes can be at most 8% away for stocks in the S&P 500 or Russell 1000 indexes. For other stocks, the maximum amount their quotes may be away from the NBBO is 28% for stocks trading at or over $1 and 30% otherwise. Market making obligations are only active during regular trading hours (9:30 AM – 4:00 PM) on most days: market makers are not required to quote outside these time frames.

On the European markets operated by NYSE/Euronext, there are two types of market makers – auction or permanent. The former add liquidity for stocks only traded through call auctions and the latter for stocks traded continuously. Auction market makers (also called “liquidity providers”, LP), are only required to maintain a spread during the order collection phase of each auction. The maximum spread width for both market makers is between 2% and 5% (€0.10 and €0.25) for stocks trading above (at or less than) €5. Euronext LPs obtain a reduction in fees and may receive side payments from the companies they trade. Such a payment occurs under a “liquidity contract”, under which a market maker receives a pre-agreed remuneration from the issuer to maintain a certain liquidity. Trading profits (and/or losses) are usually carried by the issuer (i.e. the market maker is insulated from market risk).

Market Making in TradFi overall is a heavily regulated and transparent business; regulators surveil MMs to ensure they comply with their obligations. Regulators (or exchanges) can impose both positive and negative obligations on market makers, requiring them to provide liquidity to the market or preventing them from executing a trade if a retail order could execute instead of it, for example. For example, EUREX (a European derivatives exchange) states here the specifics of Regulatory Market-Making, according to MiFID II, and Commercial Liquidity Provisioning on its platform. In practice, MMs sign a contract with exchanges, and the list and details of contractual MMs are public for everyone to see. The idea is that an investor looking for liquidity may directly contact a MM.

Market Making strategies, risks & examples

Here is an overview of the most common market making strategies in TradFi:

Delta Neutral Market Making: A market maker seeks to self-hedge against the inventory risk and wants to offload it in another trading venue. For that, a MM would place limit orders on an exchange with low liquidity, and when those are filled, immediately send a market order (on the opposite side) to an exchange with higher liquidity.

High-frequency “at touch” Market Making: A common strategy for MMs is submitting limit buy/sell orders at the best bid/ask prices. The MMs bid/ask order spread is then equal to that of the limit order book (LOB). Sometimes, MMs will submit orders at prices marginally higher than the bid and lower than the ask to gain order execution priority. However, this is only possible when spreads are not already very tight. Alternatively, a market maker could place their orders further into the LOB queue (lower bid and higher ask). This strategy produces higher margins but also a lower order execution rate.

Last Price: In this case, MMs will reference the last price a security traded at when placing their bid/ask quotes, submitting bid/ask orders one or two ticks away in either direction. This strategy provides a higher return than the “at touch”; however, this comes at the expense of higher end-of-day inventory of the given security.

Grid Market Making: In this case, a market maker places limit orders throughout the book, of increasing size, around a moving average of the price, and then leaves them there. The idea is that the price will ‘walk through’ the orders throughout the day, earning the spreads between buys and sells.

These strategies work well when prices are relatively stable but may lose money heavily during sustained momentum or volatility periods. When prices keep going up, the MM will find it extremely difficult to execute bid orders, accumulating an increasingly significant losing-money short position, and the same applies in the opposite direction. MMs should pay close attention to market volatility and order book imbalances to avoid being trapped in such situations.

According to studies published in 2014 and 2021, market makers are likely to reduce their market participation in periods of significant volatility. MMs often farther into the LOB in such situations to avoid being caught out by significant and abrupt changes in the market, reducing liquidity and potentially making markets even choppier. In addition to reduced trading volumes in periods of volatility, MMs will adjust their quoting price based on movements in the order book, monitoring the LOB for any order imbalances. For example, MMs will adjust their ask/bid quotes if the volume difference between bid and ask quotes grows, expecting an uptrend in price movements.

It is also interesting to note that when MMs operate under a contract with an exchange, they will often benefit from specific technical provisions: typically, the exchange will implement a “market maker protection” which essentially cancels all orders (at once) from a MM when violent price moves occur. There are also different modalities for order management (for example, a “bulk order” functionality, whereas regular investors can only send single orders, one at a time). Those features act as an incentive for MMs to stay in the market even when volatility rises (i.e. when they are most needed) by offering specific risk management tools.

All else equal, strategies accounting for order book imbalances increase returns and end-of-day inventory. Those adjusting the bid/ask quote for volatility will also increase returns while decreasing inventory. These two strategies are hence often combined to achieve optimal performance.

One of the most significant risks of market making is the inventory risk. MMs have to store a particular amount of assets to fill a buy/sell order, and the inventory risk manifests itself every time markets start forming a trend (upwards or downwards) for a sustainable period. The inventory risk in a scenario of decreasing prices results in the risk of having more of an asset at the wrong time, with difficulties to find buyers to unwind it. This risk is vastly larger in crypto markets, where prices are  more volatile.

To illustrate the above, let us give a quick example of how a basic market-making trade takes place, a MM active on a stock X shows a bid and ask price with a quote of $10.00 – 10.05 (not necessarily the same bid and ask volumes). This means that the MM is willing to buy X stocks for $10.00 and sell them at $10.05, earning a spread of 5 cents per share (in the absence of market movement, this is indeed a maximum gain). If everything goes well, the MM could buy and sell 10,000 shares at these quotes, earning $500 from this trade.

If, on the contrary, a large sell order takes place, the MM could find itself long Y shares with the best ask down to $99.95, for example. The MM is faced with the choice to hold its position if it believes prices will reverse higher, post an order to sell at $99.95, or even choose to simply trade out of the position by selling to the prevailing highest-priced buy order, locking in a trading loss.

Crypto Market Making

The market making business in the crypto space has little to do with its older, more established counterpart in TradFi. After 14 years, crypto markets are still in a “far west” state. It is not an exaggeration to say that exchanges are far from mature, from both a technical and regulatory standpoint: liquidity is low (to very low), highly concentrated on a few instruments, slippage risks are high, manipulation is frequent, and there are clear probabilities of flash crashes when large orders appear.

Market Making agreements in crypto are also different from TradFi in many aspects, mainly:

The terms of the market-making agreement, also known as the Liquidity Consulting Agreement (LCA), often evolve around compensation: MMs will receive financial incentives to reward improvements in a token’s liquidity and market value. Typical components are  service fees, options, or KPI-based fees:

Examples of such crypto market making agreements are public and can be found here or here.

Crypto markets also bring the question of CEXs vs DEXs market making. Market making on centralized exchanges is similar in principle to what professional firms do in Tradfi. Another critical concept is the difference between “maker” and “taker” orders. The former refers to orders where the buyer or the seller defines a price limit at which they are willing to buy or sell. Taker orders, by contrast, are orders that are executed immediately at the best bid or offer. Thus, maker orders add liquidity, and taker orders remove it. Crypto market makers must be meticulous when managing their inventory to not pay excessive taker fees (example of the fee structure on Coinbase).

Regarding market making on DEXs, we previously highlighted the process of price discovery in DeFi protocols, taking the example of liquidity pools in Automated Market Makers (AMMs) with a focus on Uniswap (qualitative and quantitative analysis).

Market depth comparison between BTC/USD (~$60m/$45m bid/ask volume at 200 bps) and MATIC/USD (~$2.3m/$1.3m bid/ask volume at 200 bps), on Binance.Us, Bitstamp, Coinbase-Pro, Kraken and Bitfinex

Source: SUN ZU Lab Live Dashboard



No Investment Advice

The contents of this document are for informational purposes only and do not constitute an offer or solicitation to invest in units of a fund. They do not constitute investment advice or a proposal for financial advisory services and are subject to correction and modification. They do not constitute trading advice or any advice about cryptocurrencies or digital assets. SUN ZU Lab does not recommend that any cryptocurrency should be bought, sold, or held by you. You are strongly advised to conduct due diligence and consult your financial advisor before making investment decisions.

Accuracy of Information

SUN ZU Lab will strive to ensure the accuracy of the information in this report, although it will not hold any responsibility for any missing or wrong information. SUN ZU Lab provides all information in this report and on its website.

You understand that you are using any information available here at your own risk.

Non Endorsement

The appearance of third-party advertisements and hyperlinks in this report or on SUN ZU Lab’s website does not constitute an endorsement, guarantee, warranty, or recommendation by SUN ZU Lab. You are advised to conduct your due diligence before using any third-party services.

About SUN ZU Lab

SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring transparency to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboards & API streams or customized reporting. SUN ZU Lab provides crypto professionals with actionable data to monitor the market and optimize investment decisions.

(2/2) Commentary notes on Credit Suisse’s rescue deal and recent banking turmoils

By Stéphane Reverre and Chadi El Adnani @SUN ZU Lab

March 2023

Following the first article last week, where we analyzed in detail the behind-the-scenes of SVB’s fall, and after another crazy weekend with the mega-deal between UBS and Credit Suisse, one of the biggest since the GFC in 2008, we are happy to provide some further analyses on the ongoing situation.

Deal terms:

Swiss authorities sprinted over the weekend to engineer a takeover of spiraling Credit Suisse before the markets opened on Monday, a globally accomplished mission. However, nervousness was mounting on Monday in the markets following Sunday’s announcement that UBS will buy Credit Suisse for CHF 3 bn, a 95% discount to the bank’s 2010 market capitalization levels. Under the deal’s terms, Credit Suisse shareholders will receive one UBS share for every 22.48 Credit Suisse shares held, or CHF 0.76 per share (Credit Suisse closed Friday at 1.86 Swiss francs). This rescue, organized by the Swiss authorities to avoid a loss of confidence in the global banking system, was made at the cost of significant guarantees given by the Swiss government to UBS. Credit Suisse declared it intends to hand out bonuses to its staff despite the rescue deal.

Moreover, following the historic deal on Sunday, FINMA ordered that CHF 16 bn of Credit Suisse’s additional Tier one (AT1) bonds be written down to zero. AT1s were introduced as part of the post-GFC regulatory reforms to push banks to increase their capital levels. They are a form of contingent convertible security (coco) that can be converted into equity in case of trouble. This surprising decision will likely shock the market due to the hierarchy inversion between equity and bondholders. European financial regulators expressed concerns around the Swiss authorities’ decision, issuing statements on Monday to reassure holders of additional tier 1 (AT1) bonds in eurozone banks that they would not suffer the same fate as those at Credit Suisse.

How did we get here?

The 167-year-old financial institution was mismanaged for years before its collapse: conviction for cocaine-money laundering in June 2022, leaks about $8 bn in accounts of criminals, dictators, and rights abusers held by the bank in February 2022, $5.5 bn loss following Archegos default and Greensill fund collapse in March 2021, etc. Last week, the global panic surrounding the banking industry caused massive outflows from the bank (up to $10 bn per day, according to the WSJ), bringing CS to the brink of collapse.

How is the situation looking from the US side?

We learned that SVB priorly hired BlackRock’s consulting arm, Financial Markets Advisory (FMA), to analyze the potential impact of various risks on its securities portfolio. The report found that the bank lagged behind similar banks on 11 of 11 factors considered and was “substantially below” them on 10 out of 11. BlackRock’s consultants found that SVB could not generate real-time or even weekly updates about the state of its securities portfolio, but the bank didn’t take any follow-up actions. The bank was also on the Fed’s radar for over a year before its collapse; the WSJ reported that SVB was using an incorrect model as it assessed its own risks amid rising interest rates and spent much of 2022 under a supervisory review. The fair conclusion is that we’re facing a massive failure of risk management, nothing more, nothing less. Senior management failed to adjust its practices and business mix and assess the implication of the yet all-too-visible inflationary pressures with its train of rate hikes.

Regarding the upcoming FOMC meeting this week, Whatever decision the Fed takes will be heavily criticized. Suppose it decides to raise its main policy rate by 50 basis points (which would be legitimate given the level of inflation). In that case, it will be criticized for adding to the banking sector’s difficulties. This will also be the case if it raises its rate by only 25 basis points (which the market sees as the most likely scenario). Some analysts consider that it could take a break from monetary policy. This is challenging as it risks losing credibility in the fight against high inflation. Moreover, resuming a rate hike cycle quickly after stopping it is difficult. Finally, a rate cut would risk accentuating the panic and underlining that the situation on the banking front is undoubtedly worse than expected… In any case, the Fed seems bound to fail on Wednesday.

What happened as well?

Last thoughts:

After Lehman Brothers, Bear Sterns, SVB, Credit Suisse, First Republic… senior bank management should not doubt anymore: poor risk management will kill in the blink of an eye. Crypto players, whether CeFi or DeFi, should not feel immune from this. If we had one primary piece of advice to the community, it would be K.Y.R, Know Your Risks! which is probably not so frequent in crypto.


No Investment Advice

The contents of this document are for informational purposes only and do not constitute an offer or solicitation to invest in units of a fund. They do not constitute investment advice or a proposal for financial advisory services and are subject to correction and modification. They do not constitute trading advice or any advice about cryptocurrencies or digital assets. SUN ZU Lab does not recommend that any cryptocurrency should be bought, sold, or held by you. You are strongly advised to conduct due diligence and consult your financial advisor before making investment decisions.

Accuracy of Information

SUN ZU Lab will strive to ensure the accuracy of the information in this report, although it will not hold any responsibility for any missing or wrong information. SUN ZU Lab provides all information in this report and on its website.

You understand that you are using any information available here at your own risk.

Non Endorsement

The appearance of third-party advertisements and hyperlinks in this report or on SUN ZU Lab’s website does not constitute an endorsement, guarantee, warranty, or recommendation by SUN ZU Lab. You are advised to conduct your due diligence before using any third-party services.

About SUN ZU Lab

SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring transparency to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboards & API streams or customized reporting. SUN ZU Lab provides crypto professionals with actionable data to monitor the market and optimize investment decisions.

(1/2) Commentary notes on SVB’s failure Credit Suisse, implications for crypto, and where do we go from here

By Stéphane Reverre and Chadi El Adnani @SUN ZU Lab

March 2023

To be clear from the start, we do not try to undermine the gravity of what happened this weekend. The implosion of Silicon Valley Bank (SVB) on Friday could have quickly turned, under other circumstances, into a full-blown banking crisis in the US and worldwide. Contagion fears are far from over, as underlined by the events around Credit Suisse yesterday. We would like, however, to share some of our thoughts to reassure and clarify some points. There is already plenty of (more or less) good analyses around the bank’s failure, so we’ll dive straight into it.

1 — Summary of the events

The US banking sector had its worst week since the GFC in 2008. In a span of 2 days, Silvergate Capital collapsed, while Silicon Valley Bank (SVB) sent chills through the industry after it launched a failed effort to raise more than $2 billion in capital to bolster its capital base. SVB worked with nearly half of US VC-backed tech companies, and VC funds responded to this news by advising portfolio companies to withdraw capital. The media reported that Founder’s Fund and a16z advised portfolio companies to take these actions. SVB responded by informing select customers that it has ~$180B of available liquidity and top-tier capital ratios relative to its peers. Later the same week, US regulators closed SVB before moving to close Signature Bank as well, the last of the three crypto-friendly banks in the US. Now, one cannot help but wonder: would such a dramatic collapse have taken place if VCs had not advised their portfolio companies to withdraw their money? Intrinsically it was in their best interest to get their money out as quickly as possible, ironically though it was probably also in their best interest not to.

From the European side, stock markets fell sharply Wednesday, with banking stocks deep in negative territory following more bad news from Credit Suisse. The bank fell 24% amid growing concerns about a run after its biggest backer, Saudi National Bank, said it would not provide any further financial support.

2 — This was a very usual bank run on a very unusual bank

While Signature Bank faced a criminal probe ahead of its collapse, according to Bloomberg, Silvergate and SVB suffered from a lack of client diversification (crypto focus for the former and VC-backed tech for the latter). The events are also causing new investor concerns about some of the US and EU’s largest financial institutions. This is linked to two main factors, rising interest rates and the inversion of the yield curve, which recently dipped below 100 bps for the first time since 1981 for the 10Y-2Y yields. The inversion significantly affects banks as they usually invest their short-term client deposits into long-term bonds. As the yield curve inverts, they have to pay more on deposits than they earn on their investments, while higher rates lower the value of their existing bonds. In this context, SVB was forced to sell all its available-for-sale bonds at a $1.8 billion loss as its startup clients withdrew deposits. This situation is not unique to SVB; many banks have parked depositor money in fixed-rate government bonds that have lost value due to the rapid rise in interest rates. The FDIC recently reported that US banks are sitting on $620 bn of combined unrealized losses in their securities portfolios. SVB would have been capable of staying afloat had there not been this panic movement that eventually caused the run. (…apparently, they were already in trouble at the end of 2022 when losses were much higher than 2 bln$)

Many economists have thoroughly studied the mechanics of a bank run, but at the core of it, a run is a self-fulfilling prophecy that could annihilate the most robust of banks. As soon as a critical mass of clients is persuaded that the bank is likely to suffer a run, a race to zero is triggered by everyone trying to pull their money in an attempt to get ahead of everyone else. It all comes down to the confidence factor, and SVB’s failure was not the first but one of the biggest. There have been more than 500 bank failures in the US alone since 2008.

To prevent this vicious circle from getting into action, the FDIC in the US insures all accounts up to $250,000, which for a standard bank should amount to around 50% of the client base. The problem was that most of the deposits in SVB (c. 95%) were not FDIC insured as they were over the $250,000 limit. This is maybe the biggest cause of SVB’s woes: lack of client diversification outside the tech VC-backed startup base. It also needs to be clarified why so many startups were incentivized to use SVB as a bank instead of relying on a more classic and robust choice, such as JPM or BoA. Some plausible explanation would be that SVB was a primary lender to these startups, with the condition to keep their money in the bank. From this point, all it took was a bunch of prominent VCs, led by Peter Thiel’s Founders’ Fund, advising their portfolio companies to pull their money out of SVB to run the bank in less than two days.

3 — The worst is never certain — “Le pire n’est jamais certain”

Over the weekend, much speculation existed about whether the US government would intervene to save the situation. Sunday evening, the Treasury, the Fed, and the FDIC released a joint statement to inform SVB depositors that they would have access to all their money on Monday. The US startup ecosystem was saved from an “extinction-level” event, but there was little doubt that the US government would allow something this dramatic to happen.

Secretary of the Treasury Janet Yellen set things straight over the weekend: “Let me be clear that, during the financial crisis, there were investors and owners of systemic large banks that were bailed out . . . and the reforms that have been put in place means we are not going to do that again…”. The released joint statement later added that “Shareholders and certain unsecured debtholders will not be protected. Senior management has also been removed. Any losses to the Deposit Insurance Fund to support uninsured depositors will be recovered by a special assessment on banks, as required by law.”

Regarding the CS situation, Switzerland’s Central Bank pledged to fund the bank with liquidity “if necessary,” a first for a global bank since the GFC. In a joint statement with FINMA, they insisted that CS was sound and “meets the capital and liquidity requirements imposed on systemically important banks. Later the same day, we learned that CS would borrow around CHF 50 bn from a Swiss National Bank liquidity facility and repurchase certain OpCo senior debt securities of up to CHF 3 bn.

4 — Who lost what exactly?

Officials insisted this was NOT a bailout, as only the banks’ clients were getting their money back. President Biden later added, “That’s how capitalism works, “ referring to SVB and Signature Bank investors who lost their money.

As a reminder, the Basel III accord raised banks’ minimum total capital requirements to 8%, as a percentage of the bank’s risk-weighted assets (RWA), with a minimum Tier 1 capital ratio of 6%. Tier 1 refers to a bank’s core capital, equity, and the disclosed reserves that appear on the bank’s financial statements. Here, major US banks maintain Tier 1 capital ratios well above 10%. The Basel accords also require a minimum of 100% LCR ratios as of 2019 (The Liquidity Coverage Ratio (LCR) refers to the proportion of highly liquid assets held by banks to ensure their ability to meet short-term obligations). SVB was a category IV bank; although it was the 16th largest bank, it was never subjected to the Fed’s LCR requirements.

SVB’s regulatory disclosures at the end of 2022 show the following:

The bank shows $17 bn of Tier 1 Capital and $111.4 bn of Risk-Weighted Assets for a CET1 capital ratio of 15.26%.

SVB Financial Group’s consolidated balance sheet is detailed below:

Was the bank solvent? Theoretically, yes! as of the end of 2022 it held:

These securities offer all the liquidity guarantees since they are HQLA-eligible (High-Quality Liquid Assets) and guaranteed by US state agencies. However, these securities are bonds whose value falls mathematically when rates rise, and the Fed’s rates have increased dramatically and faster than anyone had expected last year from 0.25% to 4.5%.

Moreover, the necessary disposal of part of the AFS securities to ensure the bank’s liquidity generated the aforementioned $1.8 bn in losses. The bank also disclosed in a footnote of its December 10-K Form that the HTM book had $15 bn of unrealized losses. Considering that SVB’s capital stood at $16 bn at the end of 2022, the bank only had limited capital to absorb the losses even before the run began. On paper, everything looked ok, but in reality, the rapid rise in interest rates had devastated SVB’s capital buffer (Before Collapse of Silicon Valley Bank, the Fed Spotted Big Problems). The fair conclusion is that we’re facing a massive failure of risk management, nothing more, nothing less. It is a failure of senior management to adjust its practices and business mix and to assess the implication of the yet all-too-visible inflationary pressures with its train of rate hikes.

Here lies another important part of the problem. In a recent article following the events, the CFA Institute criticized HTM accounting, calling it “Hide-Til-Maturity” and advising FASB to eliminate it. They continue to precise that “Overall, SVB’s total assets at 12/31/2022 were $211.8 billion of which only approximately $40 billion (cash and available-for-sale (AFS) securities) were at fair value and immediately available to pay the $173 billion in deposit liabilities — which are all due within the next year, according to SVB’s contractual obligations table.

Another interesting observation, rather than selling its securities on the market, SVB has liquidity lines in the form of repo agreements with bank counterparties, the FHLB, or the Fed, allowing it to collateralize its investment-grade bonds with cash. However, the management has decided to sell part of its bond portfolio quickly. We still need a convincing reason as to why they took this decision.

The deposits’ details were the following:

From the $173.1 bn in total deposits, $165.4 bn (95%) exceeded the FDIC insurance limit.

5 — What now?

Now that the FDIC controls SVB, its assets will be sold to the highest bidder. An auction on the assets already started Sunday, but there are very few banks capable of absorbing the significant quantity, and a deal has yet to be reached. SVB did not pose a systemic risk, and the US government’s quick actions over the weekend ensured the contagion didn’t spread. The events still negatively influence sentiment towards the financial sector, particularly US regional banks.

On the other hand, Credit Suisse is part of the closed club of Bulge Bracket banks imposing a global systemic-level risk. The fact that quotes for Credit Suisse’s 1yr CDS exceeded 3000 bps on Wednesday is historic and approaching a rarely-seen level that typically signals serious investor concerns.

Circle’s USDC was one of SVB’s most significant casualties over the weekend, as the firm confirmed having $3.3 bn of its $40 bn reserves in the failed bank. Over the weekend, USDC lost over 10% of its value, trading as low as $0.87 before regaining its peg on relatively joyful news Sunday evening. It is interesting to note the parallel with Tether’s USDT, which was trading at a premium for most of the weekend. In times of crisis, the market preferred Tether’s opacity to Circle’s mishandled communication. Some argued that trusting one entity with 8% of the stablecoin’s reserves was a strategic mistake.

The closure of Silvergate, SVB, and Signature, the last of the three crypto-friendly banks, creates a significant gap in the market as the industry lost 3 of its major fiat on-ramp/off-ramp partners. This will create a considerable liquidity decrease in the ecosystem, and other banks and financial intermediaries will have to step in to fill this gap.

Before last week, Fed Chair Jerome Powell seemed determined to continue hiking rates until inflation returns to a long-lost 2% threshold. With the second and third largest bank failures in US history happening in less than two days, some economists predict that Powell will change his strategy to put the health of banks above all other considerations. Goldman Sachs no longer expects a rate increase at the Fed’s meeting next week, while Nomura made an even bolder prediction of a rate cut. According to Bloomberg, The ECB will forgo earlier guidance for a half-point interest-rate increase at this week’s meeting and only hike by half that amount amid concerns over the financial sector’s health. The European Central Bank should either delay or pare back this week’s planned interest-rate increase to avoid a policy error reminiscent of 2011, added former executive board member Lorenzo Bini Smaghi.

We have indeed avoided, for now, a 2008-level crisis. Still, the events will not go unnoticed, with many debates underway regarding the utility and threshold of the FDIC insurance, regulation of mid-sized banks, and the Fed’s monetary policies in times of crisis. One thing is clear; we should, at all costs, avoid creating unnecessary panic given the current fragility of the world economy.


No Investment Advice

The contents of this document are for informational purposes only and do not constitute an offer or solicitation to invest in units of a fund. They do not constitute investment advice or a proposal for financial advisory services and are subject to correction and modification. They do not constitute trading advice or any advice about cryptocurrencies or digital assets. SUN ZU Lab does not recommend that any cryptocurrency should be bought, sold, or held by you. You are strongly advised to conduct due diligence and consult your financial advisor before making investment decisions.

Accuracy of Information

SUN ZU Lab will strive to ensure the accuracy of the information in this report, although it will not hold any responsibility for any missing or wrong information. SUN ZU Lab provides all information in this report and on its website.

You understand that you are using any information available here at your own risk.

Non Endorsement

The appearance of third-party advertisements and hyperlinks in this report or on SUN ZU Lab’s website does not constitute an endorsement, guarantee, warranty, or recommendation by SUN ZU Lab. You are advised to conduct your due diligence before using any third-party services.

About SUN ZU Lab

SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring transparency to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboards & API streams or customized reporting. SUN ZU Lab provides crypto professionals with actionable data to monitor the market and optimize investment decisions.

FTX Post-Mortem Analysis – Why Transparency Matters?

By Chadi El Adnani @SUN ZU Lab

November 2022

“In the midst of chaos, there is also opportunity”

Sun Tzu – 500 BC

This quote by our spiritual father, Sun Tzu, has never been more true in the crypto ecosystem as we all battle to survive the most significant blow ever to the nascent industry. FTX’s bankruptcy was described as crypto’s Lehman Brothers moment, or as more evidence came to light, more “Enron” than “Lehman” moment. Trying to cover this story as it unfolded before our shocked eyes was like trying to catch a bullet bare-handed. This article provides a preliminary post-mortem analysis of where the situation stands today. Unfortunately, we sincerely believe that we have only seen the tip of the iceberg, and we brace for many more casualties to be affected in the near future. We have already covered in SUN ZU Lab’s weekly insights (here & here) the story’s timeline and the significant headlines surrounding it. We will therefore move directly into a more technical analysis.

As a reminder, FTX and Alameda Research constituted the bulk of ex-crypto billionaire Sam Bankman-Fried’s empire. The former being the exchange arm and the latter being the trading firm.

Understand the man to understand his actions:

Sam Bankman-Fried (SBF) had a reputation for being very smart and a highly talented trader. However, as more revelations come to light, we are convinced now that his supposedly spectacular trading returns (as well as some of his peers) were mainly driven by 2020 and 2021’s bull run. His crypto empire’s implosion is due instead to his betting big philosophy! A leveraging strategy mainly fueled FTX and Alameda’s stratospheric rise in the last two years via deceptive fundraises and financial engineering before eventually using plain fraud, as was revealed by the preliminary investigation.

In this Twitter thread, we get an interesting glimpse of SBF’s motives behind creating FTX; he explains, among others, that he was deeply frustrated by two things in the way other crypto exchanges operated. Contrary to TradFi, where an exchange focuses on managing its order book matching engine, leaving margin handling to the clearing house, a crypto exchange has to handle both responsibilities. He was therefore losing millions from what he called “socialized losses”, where the collectivity ends up paying the losses of a liquidated negative account. The second reason was that he viewed BTC’s price as being hit every time it suffered selling pressure from a cascade of liquidated accounts, which wasn’t fair from his point of view.

He initially addressed white papers proposing new ways of functioning to other exchanges before creating FTX as a new crypto derivatives exchange where, we cite: “The entire margin system is reworked to a way almost no exchanges in crypto work. We can take huge size & also have lots of leverage & have a solid blocker against ever having clawbacks.”

A trending video of Alameda’s CEO Caroline Ellison resurfaced where she was saying: “Being comfortable with risk is very important. We tend not to have things like stop-losses, I think those aren’t necessarily a great risk-management tool. I’m trying to think of a good example of a trade where I’ve lost a ton of money … well, I don’t know, I probably don’t want to go into specifics too much.”

We can see a recipe for disaster starting to take form.

A complicated SBF-Ellison / FTX-Alameda love story

Alameda Research and FTX were supposed to be entirely separate entities in theory. We instead learn that Alameda’s CEO Caroline Ellison has dated at times SBF. More shockingly, several top execs from FTX and Alameda lived in the same luxury penthouse in the Bahamas, where Ellison was rumoured to have access to FTX screens showing client trades. A recent Wall Street Journal report indicates that Alameda was frontrunning FTX token listings. Between the start of 2021 and March 2022, the trading firm held $60 million worth of 18 different tokens that were eventually listed on FTX.

This intimacy could also explain why SBF later allowed customer funds to be used to pay for Alameda’s loans, building a software backdoor to outwit FTX compliance systems.

FTX and Alameda’s Balance Sheets were bad, very bad!

The massive bank run suffered between November 6 and 11 drove FTX and Alameda eventually to the ground, and the word bank is chosen wisely as it appears FTX was more a bank than an exchange! They suffered as much as $6 billion of withdrawals in the final 72 hours, except they didn’t have customers’ money as FTX had loaned it to Alameda, which used it to make venture capital investments!!

Let us stop a moment on the last revelation. Every first-year finance student could tell you to never, never use extra-short-term liabilities (client funds, with a theoretical maturity of 0) to finance the riskiest and most illiquid investment in the spectrum (VC investments, with an expected maturity higher than ten years).

Ellison explains in an interview with the New York Times that lenders moved to recall their loans around the time the crypto market crashed this spring. But as the funds that Alameda had spent were no longer easily available, the company used FTX customer funds in an emergency procedure to make the payments.

Let’s go back first to where troubles began to appear. Anyone remotely familiar with the hedge fund space knows that the financials (P&L and Balance Sheet, among others) are protected at all costs. The fact that Coindesk managed to put their hands on that “secret sauce” leaves a place for a plethora of conspiracy theories. We refrain from venturing into that territory.

On November 2, CoinDesk published an article highlighting the following facts from a private document they reviewed:

To put things into perspective, this puts a total of $5.8 billion in FTT tokens on Alameda’s balance sheet as of June 30. The market capitalization of circulating FTT was around $3.3 billion that day. Indeed, a quick look at FTT’s page on Etherscan shows that over 74% of the token’s total supply is held by two addresses belonging to FTX and Alameda.

FFT’s page – Source Etherscan

This partial information meant that most of Alameda’s net equity was comprised of FTT tokens, printed out of “thin air” by its sister company FTX.

In a volatile and fragile global crypto environment, rumours were quickly forming about how SBF could be just another flywheel / Ponzi scheme magician! Here is what we mean by a flywheel scheme in crypto:

  1. Create a token
  2. Artificially pump its price (wash trading through a market maker)
  3. Mark the artificial gains in the balance sheet
  4. lure the community and investors with “realized” gains
  5. Raise capital through equity sales, ICOs or loans
  6. the hype continues to fuel the token’s price, and the loop continues!

The fears were extreme, especially since the Celsius bankruptcy and the CEL token explosion still haunt most of us. Celsius was a multi-billion dollar crypto lending firm, or Ponzi scheme, which was destroyed in part by its own token, CEL!

As it appears, this is exactly what SBF was doing with some of his investments, known as “Sam coins”, including Serum, Raydium and FTT.

The way it would work with our exchange/trading firm duo is that Alameda would fund a project at a $50 million fully diluted valuation (considering the total number of tokens to be issued) with $5 million, for example. FTX would then list the token on its exchange, releasing only a tiny fraction of the total tokens to the market. Given the illiquidity of this token, Alameda could easily deploy a few millions to artificially inflate the fully diluted valuation 100x, increasing the stake’s value on its books to $500 million. This inflated figure is then used as collateral for borrowing purposes.

The Financial Times shared a copy of an FTX balance sheet dated November 10, shared with prospective investors one day before the company filed for bankruptcy.

Here is a visualization of this balance sheet provided by Visual Capitalist:

FTX Balance sheet provided by Visual Capitalist
FTX balance sheet | Source: Visual Capitalist

We fell from our seats when we first saw this balance sheet! And we wouldn’t put it better than Bloomberg’s Matt Levine:

“It’s an Excel file full of the howling of ghosts and the shrieking of tortured souls. If you look too long at that spreadsheet, you will go insane.”

Citing the FT, we learn that “A spreadsheet listing FTX international’s assets and liabilities, seen by the Financial Times, point at the issues that brought Bankman-Fried crashing back down to earth. It references $5bn of withdrawals last Sunday, and a negative $8bn entry described as “hidden, poorly internally labled ‘fiat@’ account”.

“Bankman-Fried told the Financial Times the $8bn related to funds “accidentally” extended to his trading firm, Alameda, but declined to comment further.”

When we look at the “less-liquid assets” category, the most considerable number is $2.2 billion of SRM, the Serum DEX native token (we will talk later about Serum). This is a clear example of the flywheel scheme described above in the article. As of November 17, CoinMarketCap shows a $70 million market cap for SRM (market cap of circulating tokens) against a $2.7 billion fully diluted market cap (theoretical figure taking into account the token’s max supply). The FTX team are basing their $2.2 billion valuation on an impossible illiquid scenario.

Okay, but one big question remains: how did they manage to burn through more than $10-15 billion of “realized” profits?

In our eyes, the bad VC investments and mishandling of client funds don’t explain alone the $8 billion hole in the balance sheet, especially when taking into account FTX and Alameda’s extremely profitable history due to high trading fees and lucrative venture deals. The only plausible explanation we see is that Alameda was bleeding money for a long time in 2022’s harsh bear market and possibly long before that, slowly decaying from its market-neutral market-making strategies into taking losing directional bets.

This seems to be exactly what we learned from a recent motion filed in the Delaware district court handling the bankruptcy procedure. The entities’ 2021 tax returns collectively showed a net operating loss carryover of $3.7 billion, meaning that the main entities (FTX & Alameda) had posted that much in losses since their inception. This completely contradicts the image SBF was circulating of his businesses and is quite shocking when considering that several competing crypto exchanges and trading firms, such as Wintermute or Coinbase, have realized significant gains over 2020 and 2021’s roaring crypto bull runs!

We end this paragraph on the wise words of newly appointed FTX CEO John Ray III: “Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here. From compromised systems integrity and faulty regulatory oversight abroad, to the concentration of control in the hands of a very small group of inexperienced, unsophisticated and potentially compromised individuals, this situation is unprecedented.”

The biggest winners & losers:


It is tough to choose one big loser from the FTX fiasco. There is obviously SBF himself, whose net fortune went from $26 billion at its peak to less than $1 billion. FTX employees are set to lose big, having most of their wealth linked to the exchange. VC and institutional investors have bet big on the disgraced young prodigy: between 2021 and 2022, SBF raised more than $1.5 billion from esteemed investors such as SoftBank, Sequoia Capital, Temasek, Tiger Global Management, Paradigm or the Ontario Teachers’ Pension Plan. Without forgetting the more than a million creditors still waiting to see how this insolvency will be unpicked. It was typically revealed in a court filing that FTX owes almost $3.1 billion to its top 50 creditors. 

We want to focus on the Solana ecosystem as one major casualty. The Solana Foundation declared days after the bankruptcy that it held 134.54m SRM tokens and 3.43m FTT tokens on FTX when withdrawals went dark on November 6. Those assets were worth around $107m and $83m one day before the freeze. It also held a 3.2 million common stock ownership in FTX.

As we can see, Solana and FTX maintained deep financial ties. The problem gets bigger when considering Serum, a DEX created by SBF and at the centre of much of Solana-based DeFi. SBF even went on to call Serum the “truly, fully trustless” backbone of Defi on the Solana blockchain. DeFi protocols across the Solana ecosystem were rushing to unplug from Serum after the post-bankruptcy hack at FTX. It was reported that the true power over Serum rested with FTX and SBF, which continue to hold the program update authority keys. This led the Solana community to move to create a new version of Serum that they could govern without influence from FTX.

The total value locked (TVL) on the Solana network has seen a 70% drop in November 2022 alone, reaching lows of $300 million from a $10 billion peak in November 2021. SOL is down more than 60% since the start of the month and the Coindesk article release.

In a previous article by SUN ZU Lab titled “What is Tokenomics and why does it matter?”, we interestingly took the Solana case study to highlight the importance of good governance practices that protect users. One of the main questions we left our readers to reflect upon was the following: Is it really that decentralized? – We now have our answer!


There aren’t many winners from this situation, except maybe DEX’s, which are seeing an impressive peak in interest since FTX’s implosion. Uniswap, in particular, has risen to become the world’s second-largest venue for trading Ethereum, having recorded more than $1 billion in ETH trades in 24h, surpassing Coinbase (c. $0.6bn). Since the news that Binance was about to bail out FTX, DEXs around the crypto ecosystem saw $31 billion in trade volumes, with Uniswap alone accounting for $20 billion.

We want to highlight, however, that while DeFi’s “permissionless, trustless self-custody” ideology seems to be winning short term, we don’t bet a lot on new institutional money going directly into DeFi, mainly for KYC and AML reasons, among others.

How did crypto markets react to all this?

Whether we analyze crypto markets from a price, bid-ask spread or volume perspective, we see that the turning point in FTX’s downfall was the announcement of Binance’s non-binding offer to buy its rival (11/08/22 around 5 PM UTC). It was the first major event that worried the markets that something was off. FTT’s price dropped by more than 80% in the following hours, while bid-ask spreads on FTT briefly reached 400 bps.

Bid ask spread | Why transparency matters

Could we have seen this coming?

Yes! We have already voiced our opinions and concerns over crypto risk assessment in general and how crypto venues should be managed and audited in these previous articles: “Everything you’ve always wanted to ask your crypto exchange” and “Crypto Risk Assessment: Way to Go“. FTX was ranked among the top crypto exchanges, just days before its fall, by major industry players, non of which were able to underline the significant governance, operational or counterpart risks surrounding FTX and Alameda. We believe the crypto industry now has few shots “to get this right” after this spectacular failure.

We put the emphasis again on this table from the Crypto Risk Assessment article, which summarizes, in our opinion, the significant risks that should be closely monitored and audited regarding crypto exchanges.

crypto risk assessment and the need for transparency

The magnitude scale is as follows (applied to capital at risk, whether it is a nominal amount for cash products or notional amounts for derivatives):

+ (very small to small): a fraction of a percent to a few percents

++ (medium to significant): a few percents to a few tens of percents

+++ (high to very high): up to 100% and beyond. The vital prognostic of the firm may be engaged

who knows? This one is exactly what it reads; possible losses range from trivial to life-threatening

We also highlight this chart from the Financial Stability Oversight Council’s (FSOC) latest report, released in early October 2022. It highlights the major parties related to loans or investments made by 3AC, where we can see all the now-troubled actors following the explosion of the Terra ecosystem.

Where do we see things going from here?

For one thing, the FTX and Alameda implosion will hurt crypto liquidity badly. Alameda was one of the largest market makers in a space dominated by a handful of actors, among which we can cite Wintermute, B2C2 or Genesis. More disturbing, 56 market makers and fund managers reported FTX exposures of up to $500 million in an invite-only Telegram chat reviewed by TechCrunch.

As of November 24, the expanding list of FTX casualties now accounts for crypto-giants Genesis and Grayscale, BlockFi, Gemini, Multicoin and CoinHouse to cite a few. Genesis Global announced having lent around $2.8 billion to various crypto firms, including large loans to its parent company DCG. It confirmed that it had hired investment bank Moelis & Co to explore how to shore up its crypto-lending business’ liquidity and address clients’ needs days after halting withdrawals.

The bankruptcy procedure will surely be a long, drawn-out court case in which depositors will try to recoup their losses. But at which cost and after how many years?

FTX’s failure is unsurprisingly sparking a massive regulatory response, with several US state and federal agencies launching or expanding investigations into the company, including the DoJ, the SEC, the Securities Commission of the Bahamas and the Bahamas’ Financial Crimes Investigation Branch. More globally, crypto regulation in most markets has been slow to materialize. We see that changing in the wake of these recent events, with MiCA regulation in Europe heading for final approvals in 2023.

As this situation continues to evolve, we can’t yet draw final lessons and conclusions, except repeating our core message and belief at SUN ZU Lab: liquidity and transparency are core constituents to every efficient market worthy of the name. Remove one or both, and even “Too Big To Fail” giants start to shake.

We would be happy to hear your thoughts. You can address questions and comments to c.eladnani@sunzulab.com or research@sunzulab.com

About SUN ZU Lab

SUN ZU Lab is a leading data solutions provider based in Paris, on a mission to bring transparency to the global crypto ecosystem through independent quantitative analyses. We collect the most granular market data from major liquidity venues, analyze it, and deliver our solutions through real-time dashboard & API stream or customized reporting. SUN ZU Lab provides crypto professionals with actionable data to monitor the market and optimize investment decisions.

The safe-haven hunt in 2022 : is Bitcoin the answer?

By Chadi El Adnani, Crypto Research Analyst @SUN ZU Lab

July 2022

We revisit in this article a question studied by Sun Zu Lab in 2020 during the financial crisis caused by the Covid-19 pandemic: did bitcoin resist the market downturn better than other assets in 2022, and would it have been strategically interesting for investors to shift some of their positions to bitcoin before the downturn? the answer to these questions is still negative, as it was the case in 2020. We study in this analysis the behavior of various assets over the year 2022, specifically bitcoin, ether, equity markets (S&P 500), bond markets (US interest rates) and gold.

This result does not constitute an absolute answer to the intrinsic value of digital assets, but rather provides insights into a specific situation.

Economic context

2022 has been marked so far by the Russian invasion of Ukraine which, added to an economic context already weakened by the Covid-19 pandemic, has accentuated the slowdown of the world economy which could enter a long period of stagflation (low growth and high inflation). According to World Bank figures, global growth is expected to fall from 5.7% in 2021 to 2.9% in 2022, significantly lower than the 4.1% figure announced last January. We cannot help but notice the very visible parallel with the 1970s stagflation period. The comparison is striking: persistent supply disruptions that fuel inflation (Russian gas shortages, the effects of the prolonged severe lockdown in China on various value chains, etc.), coupled with the end of a long period of very accommodating monetary policy in major advanced economies: key interest rates close to 0%; Fed balance sheet in excess of $8.5 trillion (35% of US. GDP, an all-time record), etc. Added to this are projections of a slowdown in global growth and the fragility of emerging and developing countries in the face of the urging need to tighten monetary policies to curb inflation. 

In this unique context, we wanted to put ourselves in the shoes of investors to understand whether it is in their best interest to move from one asset class to another, and especially whether cryptos represent an effective safe haven in times of crisis. We model the S&P 500 by its most liquid ETF: Spider (ticker SPY, NAV as of 06/17/22: $378 billion). Gold is modeled by its most liquid physical ETF (ticker GLD, $63 billion NAV). U.S. government bonds are modeled by the iShares 7Y-10Y ETF (ticker IEF, $18 billion NAV). Prices are closing prices and all execution issues are neglected. Access considerations are also neglected: the products used here are easy to access, anyone can open a securities account with an online broker or a crypto exchange in a few days. Data is extracted from Yahoo finance. 

Finally, the « safe haven » concept reflects the idea that certain assets, financial or otherwise, provide a safe haven in the event of economic and financial turmoil. We often find in this category the US and German bonds, due to the almost absolute confidence in the strength of their economic fabric and their ability to always repay their debts. The Japanese Yen has often been considered a safe haven as well.


Without further ado, here is the relative performance of the 5 assets during 2022:

Bitcoin performance

The numbers speak for themselves: only gold managed a stable performance in 2022 (0.2%), while BTC or ETH under-performed the bond and equity markets (-55.8% and -70.5% respectively). 

Another way to answer the original question is to calculate the “flight to quality” percentage of investors who switched asset classes. Indeed, this type of behavior is extremely common; cautious investors forecasting the increase in interest rates and inflation at the beginning of the year might have chosen to move some of their positions to safer assets, such as gold, US sovereign bonds, or even Bitcoin? Let’s look at the results:

Bitcoin performance vs benchmarl

The red curve reads as follows: investors choosing to switch their position on 12/31/21 from gold to Bitcoin would have realized a loss of 56% between 12/31/21 and 6/17/22 (compared to a situation where they would have remained invested in gold). The graphs show exactly how much gain/loss was received for switching, depending on when the switch took place.

It appears that the choice to “pivot” from another asset to BTC has never paid off in 2022. Gold, on the other hand, has well played its role as a safe haven, providing positive gains at almost any time of the year on S&P > gold and bond > gold pivots.


Rather than analyzing the assets’ volatility as defined by the classic financial formula, i.e. the annualized standard deviation of daily returns, let’s look at a more intuitive measure: the intra-day variation. We compute the 30-day moving average of daily amplitudes for the five assets.

The graph shows that over the year 2022, Bitcoin and Ether have varied on average between 3% and 8% from their highest to lowest price on a single day. In contrast, the S&P 500, gold and bonds only vary by 1% to 2.5% (or even less). Investors should keep in mind then that the amplitude of movements in crypto markets is 4 to 5 times greater than in traditional markets, which requires careful monitoring to deal with these risky assets.

Bitcoin's volatility


Finally, let’s analyze liquidity as characterized by daily volumes. This is a post-trade measure of liquidity, i.e. the liquidity that has been achieved through transactions. We could also study a pre-trade measure: the liquidity available before execution in the exchanges’ order books , which is a little more complex to compute.

The graphs below show average trading volumes (30-day moving average) in 2022, with 1-month volatility (annualized standard deviation) as the second axis:

The S&P 500 ETF is one of the most liquid instruments in the world, with $30 to $60 billion traded every day. The causal relationship between volatility and volume is immediately apparent.

Liquidity of Bitcoin by SUN ZU Lab

For the gold ETF GLD, we have daily trading volumes between $1 and $3.5 billion, but the causal relationship is still perfectly visible.

Liquidity of Bitcoin analysed by SUN ZU Lab

Regarding Bitcoin, we have first of all a confirmation of its very volatile character, with annualized volatility varying between 40% and 80%. This graph also raises discrepancies already made by Sun Zu Lab in 2020: it appears that the volatility/volume causality is still not respected, with peaks of volatility in February-March that are not accompanied by any increase in volume, and on the contrary periods like April when the volume seems to grow by itself!

The two circled areas on the chart are anomalies, likely due to the fact that the officially announced volumes are greatly overestimated and that the magnitude of phantom volumes varies over time. The S&P 500, gold and the bond ETF, not included here, show a rather stable “structural” liquidity: when the volatility peaks stop, the average volume goes back down to a base level.


The answer to the question “is BTC a credible alternative to the volatility of traditional markets?” is negative, again, over the year 2022. Unquestionably, gold and sovereign bonds are still the “safe haven” they have been for a long time. On the other hand, the liquidity of bitcoin (and ether) is still problematic; the volumes traded do not follow the same logic expressed historically by investors in the traditional markets.

Questions and comments can be addressed to c.eladnani@sunzulab.com or research@sunzulab.com

About SUN ZU Lab

SUN ZU Lab is a French Fintech that aims to become the leading independent provider of digital asset market quantitative analytics tools and services. Leveraging the founding team’s 70+ years of experience in international capital markets and trading technology, SUN ZU Lab provides crypto professionals with unprecedented liquidity analytics in the form of quant reports, dashboards, real-time augmented data feeds, and bespoke studies.

What is Tokenomics and why does it matter?

A brief historical perspective to better understand the stakes behind tokenomics

Let’s start this article with the famous experience of Philip II, King of Spain in the 16th century, with the Eldorado discovery and the massive rise in inflation that followed throughout the entirety of Europe!  

In the 16th century, Spain conquered Latin America and discovered an immeasurable wealth within gold and silver mines. The kingdom hit the jackpot, and its financial deficits appeared long behind it. Nevertheless, this wasn’t the case; the problem came from the Crown of Spain being over-indebted to many European creditors, leading the massive silver and gold discoveries to only make a quick passage through Spain before enriching the coffers of its French and Dutch neighbors. The European market ended up flooded with coins, so the immense Spanish wealth was diminished relative to other European kingdoms.

In the end, the excessive amount of silver and gold imported, and above all distributed, in Europe caused a substantial devaluation of what Philip II could think of as his Eldorado. A better financial management could have allowed him to preserve his reserves of invaluable minerals and thus be able to develop on a more critical scale of time his fabulous treasure.

This story shows the importance of the quantity put into circulation on the valuation of an asset. This analysis works perfectly for the cryptocurrency market as well; any analysis of an asset’s ecosystem requires careful attention to the notions of quantity in circulation, total quantity, and inflation management.

Inflation and the importance of tokenomics

While the media usually describes inflation as a rise in the price of everyday consumer goods, it is, in reality, the value of money that tends to fall rather than prices getting higher. This notion of inflation is at the heart of tokenomics, a merger of “token” and “economics” used to refer to all the elements that make a particular cryptocurrency valuable and exciting to investors. In this regard, two predominant models exist: deflationary and inflationary tokens.

This is the model Bitcoin uses, i.e. a fixed total supply and less and less money issued over time. Many cryptocurrencies are governed under this model, like Solana, Litecoin, Tron, and many others, alongside the king of cryptos.

In the case of Bitcoin, for example, a block is mined about every 10 minutes, rewarding the miner 6.25 BTC (when Bitcoin started, it was 50 BTC per block, then 25, 12.5, 6.25, etc). The reward is halved every 210K blocks, leading to a halving every 4 years with the 10 minutes mining-time per block assumption. Without changes to the protocol, the final Bitcoin will be mined around the year 2140.

Many blockchains have been coded without incorporating a limited amount of token issuance. This choice can be made for a variety of reasons, usually involving the use to be made of the blockchain in question. The Ethereum protocol, for example, operates under this model. However, some mechanisms are put in place to limit inflation or even to create a deflationary system.

This is the objective of implementing future updates of the Ethereum network. While the annual rate of ETH token issuance is currently equal to nearly 4.5%, the switch from Proof of Work to Proof of Stake should allow developers to reduce this rate to less than 1%. The network also introduced a burn mechanism, meaning that part of the fees paid by Ethereum users in the future will not be returned to validators, but will be removed altogether. This could not only achieve a balance with the issuance rate, but potentially lead to a decrease in the number of tokens in circulation in case of high network usage.

Both models have strengths and weaknesses, with reasonable justifications behind their use. For example, the Ethereum white paper indicates that a stable issuance rate would prevent the excessive concentration of wealth in the hands of a few actors/validators. Whereas Bitcoin’s deflationary system, as previously stated, allowed for the growing development of its ecosystem by paying miners large amounts of Bitcoin when it was not worth the tens of thousands of dollars it is worth today.

More generally, looking into a project’s tokenomics before getting involved is always a good idea. This can help answer questions like:

Main differences between deflationary and inflationary tokens:

Solana case study

Let’s take a deep dive into one of the most prominent blockchains’ tokenomics. Solana has a native token called SOL that has two primary use cases within the network:

The Solana team distributed tokens in five different funding rounds, four of which were private sales. These private sales began in Q1 2019 and culminated in a $20 million Series A led by Multicoin Capital, announced in July 2019. Additional participants included Distributed Global, BlockTower Capital, Foundation Capital, Blockchange VC, Slow Ventures, NEO Global Capital, Passport Capital, and Rockaway Ventures. The firms received SOL tokens in exchange for their investments, although the number of tokens allocated to investors was not disclosed.

The initial distribution of SOL tokens was as follows:

Source: compiled by SUN ZU Lab from web sources

According to Messari data, vesting schedules were as follows: Solana’s three pre-launch private sales all came with a nine-month lockup after the network launched. The project’s public auction sale (held in March 2020) did not come with a lockup schedule, and the SOL tokens distributed in that sale were fully liquid once the network launched. The founder’s allocation (13% of the initial supply) was also subject to a nine-month lockup post-network launch. After the lockup period ends, these tokens will vest monthly for another two years (expected to fully vest by January 2023). This last clause is a good protection for investors as team members’ tokens are locked-up for a longer period. The Grant Pool and Community Reserve (both overseen by the Solana Foundation) contain ~39% of the initial SOL supply combined. These allocations began to vest in small amounts since Solana’s mainnet launch.

Inflation stands at an initial annual inflation rate of 8%. However, this inflation rate will decrease at an annual rate of 15% (“dis-inflation rate”). The inflation decrease is thus non-linear and much more important in the first years. Solana’s inflation rate will continue to decrease until it reaches an annual rate of 1.5%, which the network should reach in about ten years or 2031. 1.5% will remain the long-term inflation rate for Solana unless the network’s governance system votes to change it.

Proposed Inflation schedule curve – Source: https://docs.solana.com/inflation/inflation_schedule

Major identified issues with current projects’ tokenomics

Using the Solana example, we can see that more than 50% of the tokens in circulation are concentrated, during a long period after the project’s launch, in the hands of the core team, VCs and early investors. This is hardly an exception to Solana as similar distributions are very common within the blockchain ecosystem projects. Can we talk seriously about the benefits of blockchain decentralization with such capital and governance concentration, without forgetting technical knowledge concentration as well?

Blockchain projects often come with varying lock-up periods that can last from less than a year to five years for early investors and the founding team, who usually cash out their investments after this period. What we identify as a significant issue after the end of the lock-up period is the huge and asymmetric risk-return transfer between this first group, which realized a pretty good return on their initial investments and are completely de-risked at this stage, and retail investors joining the project at a stage where core decision-makers are no longer incentivised to ensure the well-functioning of the project.

Cryptocurrency projects often use ICOs (Initial Coin Offering), among other fundraising techniques, to raise funds through the issue of crypto-assets in exchange for either fiat currency or an established cryptocurrency like bitcoin or ether. The issuing entity usually accounts for digital assets collected as an intangible asset, or as a financial instrument in the case of stablecoins for example as they are redeemable for cash. The accounting for tokens distributed on the other hand depends on the promise given to investors under the terms of the ICO, which could include: free or discounted access to the entity’s goods or services for a specified or indefinite period of time; a share of the profits of the entity or access to an exchange through which it can transact with other users of the exchange in buying goods or services. Digital asset projects may also offer equity tokens, which are a type of security tokens that work more like a traditional stock asset, giving their holders some form of ownership in their investments. The use of these equity instruments remains restricted nevertheless, raising the question of the rights and guarantees given to retail investors in particular in exchange for the funds given to the cryptocurrency project?   

What we refer to as double-dipping practices, in this case, relates to VCs investing in cryptocurrency projects and realising important capital gains on their equity shares as well as digital token holdings. This privilege is almost unique to the cryptocurrency ecosystem, raising some questions again about asymmetric information advantages against retail investors: compared to traditional VC funding, crypto VC investors enjoy a double economic as well as governance advantage, having control over token and equity.


Tokenomics is an important aspect of cryptocurrency which covers almost anything to do with the token. Professional as well as retail investors should spend a lot of time studying a project’s tokenomics before investing to be well aware of the financial and governance rights attributed to them via the token purchase. There is an absolute need in our view for regulation on this particular topic to evolve in order to provide better transparency and eventually protection levels for investors.

This article has been written by Chadi El Adnani – Crypto Research Analyst @SUN ZU Lab

About SUN ZU Lab

SUN ZU Lab is a leading independent provider of liquidity analysis for investors already active or crypto-curious. We provide quantitative research on the liquidity of all digital assets to help investors improve their execution strategies and source the highest level of liquidity at the lowest cost.

Our product line includes research reports, software tools, and bespoke developments to fulfil the needs of the most demanding digital investor.

Questions can be addressed to research@sunzulab.com or c.eladnani@sunzulab.com