Silvergate Capital: The Latest Crypto Casualty

Overview

The shares of crypto-focused bank Silvergate Capital (NYSE:SI), trading on the New York Stock Exchange (NYSE), have fallen in price by over 63% in the past week.

The effects of the crypto contagion seem far from over, as crypto-friendly bank Silvergate faces fresh insolvency concerns that have dampened the February crypto market rally.

The Backstory

Silvergate is known as the payment “rails” of crypto, connecting the crypto industry to the traditional banking system. Big-name crypto firms have used Silvergate to process crypto-related transactions. However, the bank has now been ditched by most of its clients and has suffered declining deposits. Crypto-related deposits dropped by 68% in the last quarter of 2022.

Coinbase said it has stopped "accepting or initiating payments in light of the recent Silvergate developments." Paxos has also stopped processing transactions through Silvergate. Other crypto firms that have severed ties with Silvergate are Circle, Bitstamp, Crypto.com, Gemini, and Galaxy.

Silvergate’s woes began in late 2022, following the collapse of FTX and the cans of worms it opened in the crypto industry. Lately, the woes have worsened as Silvergate revealed in a filing with the US Securities and Exchange Commission (SEC) that its annual 10-K report — a legally required document that shows a company's financial and business state — would be delayed. The announced delay of the 10-K filling raised immediate concerns about the financial state of the crypto-friendly bank.

The bank, in the SEC filing, expressed concerns over its ability to operate smoothly in the coming months.

In January, Silvergate reported a net loss, attributable to common shareholders, of nearly $1 billion for the fourth quarter of 2022. To keep up with customers’ withdrawals, Silvergate liquidated its balance sheet debt (sold debt securities), resulting in a loss of $718 million. Silvergate has hinted that these losses could result in the bank not being well-capitalized.

The bank processed over $8 billion in customers’ withdrawals in Q4 2022, resulting in a bank run. Silvergate took $4.8 billion in advances from the Federal Home Loan Bank (OTCPK:FHLB) in the fourth quarter of 2022 to manage the bank run it experienced.

To stay afloat, the bank took measures, including laying off about 40% of its staff and shutting down the Silvergate Exchange Network (SEN), its proprietary, round-the-clock payment network.

As Silvergate prepares for what it expects will be a sustained period of lower deposits, it is taking several actions to help ensure the business is resilient, including managing its expense base and evaluating its product portfolio and customer relationships going forward. In addition, Silvergate has made the difficult decision to substantively reduce its workforce to account for the economic realities facing its business and the digital asset industry today,” the report released in January stated.

Source: Silvergate

Under the Microscope of the Authorities

The series of crypto-related implosions that occurred in 2022 has drawn the attention of financial and governmental authorities. In the US, the SEC has continued to scrutinize crypto firms.

In December, a group of US Senators asked Silvergate to release complete records of FTX transactions it processed. The Senators requested to gain clarity on FTX-Silvergate ties.

Alan Lane, Silvergate CEO, stated that FTX's deposits represented less than 10% of the total deposits from all Silvergate's digital assets customers, waving off the fears of possible Silvergate insolvency.

Silvergate still faces a slew of inquiries from US authorities, including the US Department of Justice (DoJ) fraud unit. The DoJ opened a fraud investigation earlier this year to look into Silvergate’s dealings with Sam Bankman-Fried’s fallen crypto exchange FTX and its trading arm Alameda Research.

The White House is Aware

During a recent White House press briefing, White House press secretary Karine Jean-Pierre said the Biden administration knows about the Silvergate situation. The administration also monitors the crypto-focused bank's situation, "comparing it with those at other crypto companies," Jean-Pierre said.

Karine Jean-Pierre pointed to recent guidelines that the US banking regulators have issued on how banks can protect themselves from crypto-related risks.

"In recent weeks, banking regulators have released guidelines on how banks should protect themselves from risks associated with crypto," she said.

"As you know, this is a president that has repeatedly called on Congress to take action to protect everyday Americans from the risk posed by digital assets, and he will continue to do so," Jean-Pierre added.

The Press Secretary declined to comment further or specifically on the Silvergate situation.

Takeaway

The recent delay in filing the annual 10-K report has created an ominous feeling in the crypto community and among investors who own Silvergate shares.

Though the bank is under investigation by regulatory agencies, Silvergate has not yet been accused of wrongdoing. The main concern is its ability to continue to operate smoothly.

If Silvergate becomes insolvent, the effects will be drastic on the crypto space. But as we know how resilient the crypto space and community are, there will be a rise from the ashes, and alternative payment "rails" will be sought.

Digital Asset Capital Management, a crypto hedge fund that oversees over $400 million worth of assets, used Silvergate's SEN network to move funds to and from Coinbase. However, as Coinbase announced severing ties with Silvergate, the hedge fund has sought alternatives with Swiss banks.

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