(Bloomberg) -- It was the Winklevoss twins, those Olympic rowers and Harvard schoolmates of Mark Zuckerberg, who made Ryan Horban feel comfortable enough to enter the risky realm of cryptocurrency lending.

Investing FOMO was raging early last year and Horban watched as tweet after tweet crossed his feed, each boasting of the fortunes everyone else seemed to be making. He took the plunge and put some coins into Gemini Earn, a Winklevoss vehicle that paid depositors interest rates of 7.4% at one point.

“There are so many bad actors in the space,” said Horban, a 40-year-old Californian who works in ecommerce. But Cameron and Tyler Winklevoss “are names that have credibility,” he said. 

Then the unthinkable happened: FTX, one of the most well-known and influential operations in crypto, started to blow up. Horban got scared. He put in a request to withdraw his coins, a few thousand dollars worth, from Gemini Trust Co. on Nov. 10. 

No luck. Like hundreds of thousands of others lured into the high-risk, high-return world of crypto’s version of shadow banks, he still hasn’t gotten his tokens back. 

Evangelists of the crypto industry insist problems like these are simply growing pains that, while unfortunate, are valuable lessons that will make lending projects more resilient in the future. 

Yet for investors like Horban who fear they’re getting burned, and even for those who’ve so far avoided the worst of the FTX fallout, it’s becoming clear that the party’s over.

The rush to the exits is causing pain throughout the industry, and casting doubt on the future of the lending projects that helped fuel the breakneck growth in digital-asset speculation.   

Despite all the modern technology at work, this crypto crisis resembles financial panics from more than a century ago, when men in top hats stormed brick-and-mortar banks in desperate attempts to access their savings. 

These days, digital-age bank runs have crippled not only FTX but a growing list of newfangled businesses with colorful names, from BlockFi to Genesis. And as was the case with the failed banks of the 1800s, there’s no Federal Reserve or FDIC to step in and restore calm as panic sets into this nascent financial system. 

Earlier Problems

The problems started earlier this year, when the failure of the Terra blockchain -- and one of its apps that was paying out yields of almost 20% -- vaporized some $60 billion in token value and helped lead to the collapse of hedge fund Three Arrows Capital, lender Celsius Network and brokerage Voyager Digital. 

Another round of contagion was set off this month with FTX’s implosion, as Sam Bankman-Fried’s empire filed for bankruptcy and the man who oversaw the liquidation of Enron Corp. called it the biggest failure of corporate controls he’s seen in his career. 

Genesis, a prominent digital-asset brokerage that’s part of Barry Silbert’s Digital Currency Group, revealed it had $175 million locked in an account at FTX. Shortly thereafter, it halted lending redemptions. Gemini, which lists Genesis Global as its only accredited borrower, had to delay withdrawals from its yield product for retail investors.

“Crypto also has the same problems as traditional finance in terms of counterparty risk,” said John Griffin, a finance professor at the University of Texas at Austin. “But the problems are magnified here because it has no Fed backstop and no cohesive regulatory framework.”

As with any crisis, some platforms are holding up better than others. Lender Nexo said it had no net exposure to Bankman-Fried’s FTX and Alameda Research trading firm. Another lender, Ledn, said it “has no exposure to Genesis and is fully operational,” while its outstanding loan to Alameda and its assets on FTX have “no impact on our clients’ assets.”

Yet many in the industry worry that the contagion has yet to spread to more companies that act as crypto-lending intermediaries. They’re known as centralized finance, or CeFi, operations in contrast to decentralized finance, or DeFi, protocols that can be just a collection of automated algorithms in the cloud. 

“We do not know the health of other CeFi lenders, and that is by their design,” said Sidney Powell, chief executive officer of Maple Finance, a crypto-capital marketplace where $1.9 billion in loans has been issued. “Balance sheets are opaque and it is unclear what assets are actually being held and how customer funds are being used. When you leave humans to oversee billions in customer assets with no transparency or oversight, more times than not customer interests come second.”

Told You So

Indeed, for many in DeFi -- who trust these rational, transparent algos more than the centralized companies run by humans -- the latest troubles are providing a “told-you-so” moment. 

Chris Zuehlke, the global head of Cumberland, the crypto offshoot of Chicago-based trading giant DRW, said when Celsius and Voyager started having trouble, it was hard to get a handle on their financial health since all the relevant information was not sitting on a blockchain for anyone to see. 

Now, with FTX’s bankruptcy putting another set of customer funds at risk, some crypto investors are turning to DeFi to avoid a similar fate, fund flows show.

Of course, DeFi isn’t without its own risks. The Terra blockchain’s Anchor lending protocol was, technically, a decentralized-finance project, though its control by Do Kwon and his Terraform Labs meant it wasn’t exactly the DeFi utopia that proponents prefer. 

Still, transactions were transparent and viewable by all, withdrawals were never suspended, and no bankruptcy courts ever got involved. It’s just that when it failed, those withdrawals occurred at pennies on the dollar -- or less -- compared with what depositors had put in. 

Trust Issues

But the million-Bitcoin question: Will casual investors reeling from the latest crisis be willing to plunge into the DeFi rabbit hole, and trust those algos -- which, while transparent, are still susceptible to hacks and market manipulation -- more than influential figures like the Winklevoss twins?  

With everyone waiting for the next shoe to drop, liquidity has been sucked out of crypto markets. Most large lenders are in bankruptcy or teetering on the brink. And it was lending that fueled, in large part, the last crypto bull market.   

Some individual investors, like Horban, haven’t given up entirely on crypto. Still, he’s not willing to leave his coins in accounts with exchanges. The “not your keys, not your coins” motto of early crypto adopters, which refers to the passkeys needed to prove ownership of crypto on the blockchain, is having a revival as reality sinks in that those keys were held by the likes of FTX and Gemini rather than investors who had accounts with them. Many are moving their tokens to “cold storage” hard drives not connected to the internet -- the equivalent of keeping your savings under the mattress rather than in a bank.  

In Brooklyn, Sam Rosenbaum is thinking about her $30,000 crypto nestegg trapped in an account with Gemini. The 31-year-old, who works in venture capital, also viewed the Winklevoss name as a sign of Gemini’s trustworthiness when it came to those yields that were way above what’s earned in a traditional bank account. (Natalie Rix, a spokesperson for Gemini, didn’t immediately return a request for comment.) 

About $22,000 of Rosenbaum’s balance was in Gemini dollars -- a token she assumed was less risky because it was pegged one-for-one to the US dollar, not some token whose value swings wildly. She says she’ll probably stick with traditional investments like real estate going forward. 

“It would be a long time before I do a lending product again,” Rosenbaum said.

“I was dodging all the bullets and was, like, I have the good one,” she said. “But there might not be a good one.”

--With assistance from Vildana Hajric and Muyao Shen.

©2022 Bloomberg L.P.