Understanding the importance of the Silvergate case and its impact on the cryptocurrency ecosystem

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The Silvergate crypto bank has been in the spotlight for some time, and the bankruptcy of this giant is now seriously under consideration. But what does Silvergate Bank represent in the cryptocurrency ecosystem, how much weight does it carry, and most importantly, what impact would the end of its operations have for the crypto market?

What is Silvergate?

Lately, the name Silvergate has been on everyone’s lips. This crypto-bank, which has so far operated in the shadow of retail investors, its services being mainly aimed at institutions and exchanges, has nevertheless a leading role in our ecosystem.

Founded in 1988, Silvergate started out as a small California bank offering traditional services and operating on a human scale with a small number of branches. Gradually, the bank evolved before taking a 90 degree turn towards the cryptocurrency sector under the leadership of Alan Lane, who remains its current CEO.

At the time, when Bitcoin (BTC) and the crypto ecosystem were nowhere near as democratized as they are today, this was a small revolution, and it is what has allowed Silvergate to become one of the leading crypto-friendly banks in the U.S. crypto exchanges to this day.

Alan Lane, the CEO of Silvergate who was himself investing in BTC in a personal capacity, had thus decided to set up the territory’s first crypto-bank. Quickly, Silvergate made a name for itself in the industry and success followed: in 2017, 4 years after its change of direction, the bank registered 250 clients for nearly $2 billion in assets under management. Only 2 years later, Silvergate became a public company and listed on the New York Stock Exchange (NYSE), the world’s largest stock exchange.

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From 2019 to 2021, Silvergate’s stock, traded under the ticker SI, prints a meteoric rise of 1,580% due to the momentum the crypto market was experiencing over that period.

Evolution of SI action

Figure 1 – SI stock performance on the NYSE from May 2020 to December 2021

At this point, 90% of the deposits made at Silvergate come from the cryptocurrency sector, the overwhelming majority. The bank is becoming a reference in the institutional and exchange community, offering its services to Coinbase, FTX.US, Gemini, Paxos, Crypto.com and BlockFi, among others.

Silvergate’s customers (there will be 1,500 by 2022) also take advantage of the Silvergate Exchange Network (SEN), a banking network set up by the crypto-bank to handle instant transfers between its various customers at any time throughout the year.

A great asset when you compare this to traditional banking networks, especially since more traditional banks are historically hostile to companies operating in the cryptocurrency sector.

As a result, through 2022, Silvergate is enjoying steady expansion and a prominent place in the crypto ecosystem and is far and away the leader in its industry.

Cascading disasters for Silvergate in 2022

But Silvergate’s smooth growth is coming to an end during the year 2022. And unfortunately for the crypto-bank, this is more due to an unprecedented panic wind than internal mismanagement.

As the chart below shows, Silvergate’s share value has been falling steadily throughout 2022, wiping out one by one the setbacks that the crypto ecosystem has experienced during this sad period.

So, like the crypto market, Silvergate had to deal with the collapse of Terra (LUNA), and then the collapse of the investment fund Three Arrows Capital (3AC), which was also exposed to a large number of players in the ecosystem.

Silvergate important dates

Figure 2 – SI share price and key dates for Silvergate since the beginning of 2022

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From June to August 2022, Silvergate still manages to weather the market tumult and continues to reap profits. As such, the company recorded a net profit of $40.6 million in the third quarter of 2022, an encouraging figure as the crypto-bank had reported a net profit of $75.5 million for the entire year of 2021.

But the worries start to become serious with the collapse of the FTX empire led by Sam Bankman-Fried, the one who defined himself as a philanthropic billionaire, but who will have finally used his own clients’ money for totally illegal purposes, between buying real estate and embezzlement with his various companies.

On December 6, 2022, U.S. Senators began investigating Silvergate’s role in the financial transactions between FTX and Alameda Research. The senators accused the bank of “serious failures” to monitor and report suspicious activity between the two entities under the aegis of Sam Bankman-Fried. At the same time, Silvergate reveals that FTX’s deposits alone accounted for about 10% of its total assets under management at the time of a report.

In January 2023, the company is trying to keep its head above water by stabilizing its balance sheet. As a result, the crypto-bank finds itself forced to lay off 40% of its staff, a massive layoff accompanied by $8 million in expenses to fund various compensation and other benefits for its former employees.

Ten days later, the final word came: Silvergate reported $1 billion in net losses for the fourth quarter of 2022 alone, and this was accompanied by a colossal drop in its share price. The verdict is clear: the year 2022 will have caused a net loss of $948 million for the bank.

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Why such a difficult last quarter? Because Silvergate’s customers have simply triggered a bank run because they fear the bank’s potential insolvency. In other words, they expect the bank to be unable to pay its debts and thus, mechanically, allow them to withdraw their funds. Deposits have also been less with the crypto-bank, which has completely disrupted its accounting plan.

It should be noted that the Federal Deposit Insurance Corporation (FDIC), the agency responsible for guaranteeing the bank deposits of U.S. customers up to $250,000, should logically be able to play its role in case the worst-case scenario occurs, although such an amount is relatively small compared to the deposits made by Silvergate customers.

What future for the Silvergate crypto bank?

Most experts expect Silvergate to file for Chapter 11 bankruptcy protection in the U.S. while it finds a way to get back on track, if at all. This widely used protection allows companies unable to pay their debts to continue to operate until they can repay their debts. Their operations also come under court supervision.

The bank could consider short-term loans from other banks, but these loans require liquidity guarantees, which Silvergate is unable to provide.

Currently, the bank is in a situation where its liabilities, i.e., the volume of customer deposits, are being continually reduced as a result of massive withdrawals. The bank’s bond holdings are steadily declining in value due to rising interest rates in the U.S., putting Silvergate in a kind of vice with an unfavorable outcome.

Moreover, Silvergate is gradually being abandoned by its leading customers, as was the case with Coinbase, Paxos, Galaxy Digital, Bitstamp, Circle, Crypto.com and Gemini, to name but a few.

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