Despite concerns about the impact of troubles in the crypto industry on the banking sector, the two banks that collapsed this week have different connections to the digital asset market. While Silvergate Bank, a bank focused on crypto, managed to avoid federal assistance, Silicon Valley Bank (SVB), which has weaker ties to digital assets, was forced into receivership by the Federal Deposit Insurance Corp. (FDIC).
Both California-based banks experienced similar collapses, with a flood of withdrawals causing executives to liquidate securities held as reserves. These multibillion-dollar sales resulted in significant write-downs as the values of portfolios were eroded by rising interest rates over the past year. The hikes in interest rates, driven by the Federal Reserve, led to drops in bond prices.
Despite the similarities in their collapses, the differing connections of the two banks to the crypto industry suggest that the impact of crypto on the banking sector is not as straightforward as feared. While Silvergate Bank’s demise may reinforce arguments that crypto poses a threat to traditional financial systems, the collapse of Silicon Valley Bank shows that weaknesses in the banking sector can arise from multiple factors.
The collapses of these two banks are expected to have a ripple effect on the wider banking industry, with increased scrutiny on banks’ risk management practices and the potential for stricter regulations. The events also highlight the need for financial institutions to be mindful of their exposure to digital assets and other emerging technologies, and to ensure they have adequate safeguards in place to manage potential risks.
The collapse of these two banks is a reminder of the fragility of the banking sector and the potential for unexpected events to trigger a crisis. As the industry continues to evolve and face new challenges, it is critical for banks to remain vigilant and adaptable to ensure they can weather whatever comes their way.
Silvergate Bank had enough liquidity on hand to satisfy depositors and pay back loans from the Federal Home Loan Bank of San Francisco. While Silvergate Bank ultimately did not survive, its executives were able to avoid taking government assistance. Although Silvergate Capital’s share price has plummeted since the day the bank reported its inability to file its annual report, its collapse had limited impact as shareholders were the only ones to suffer.
In contrast, Silicon Valley Bank’s collapse unnerved markets and investors to the extent that Janet Yellen, the U.S. Treasury Secretary, convened leaders from the Federal Reserve, Office of the Comptroller of the Currency, and FDIC to discuss developments around the bank. Yellen expressed confidence in banking regulators to take appropriate actions in response to the event, noting that the banking system remains resilient and regulators have effective tools to address this type of situation.
Silvergate Bank took significant risks in the crypto industry, and the crypto industry itself is generally characterized by risk. Additionally, Silvergate Bank’s supervisors allowed the bank to take on large amounts of crypto deposits and exposure to the nascent blockchain industry. However, the crypto industry cannot be blamed for draining the FDIC insurance fund in this instance.
This case study highlights the potential risks and weaknesses within the banking sector and how exposure to emerging technologies like blockchain and digital assets can impact financial institutions. It also emphasizes the need for adequate risk management practices and safeguards to protect against unexpected events. The collapse of these banks is expected to have a ripple effect on the wider banking industry, leading to increased scrutiny and potential regulatory changes.
Silvergate Bank, known for its crypto-friendly services, faced a devastating fourth quarter in 2022 as crypto clients scrambled to withdraw deposits following the collapse of FTX exchange. A glance at the bank’s filings with regulators reveals a stark contrast in the state of the bank from the end of September to the end of December. At the end of September, Silvergate had $13.3 billion of deposits, with about $1.9 billion of its assets in cash and $11.4 billion in investment securities. However, over the next three months, deposits plummeted to about $6.3 billion, forcing the bank to raise cash by selling down its book of securities to about $5.7 billion by the end of the year.
Experts likened the situation to a classic bank run. Thomas Braziel, managing partner at 507 Capital, noted that the securities’ value had fallen due to rising interest rates, causing the bank to realize significant losses as it liquidated them. Consequently, the bank’s equity capital was cut by roughly half during the quarter, falling to about $571.8 million, according to the filings.
The bank’s leverage ratio, a key measure of bank health monitored by supervisors, dropped to 5.1% at the end of the year from 10.5% three months earlier. This put Silvergate Bank on the edge, as it required a leverage ratio of at least 5.1% to be considered “well-capitalized,” according to filings with securities regulators. However, the capital cushion proved sufficient to absorb remaining losses as Silvergate Bank struggled to meet depositors’ needs in its final months.
The collapse of Silvergate Bank, despite its executives’ ability to avoid government assistance, will likely have significant repercussions for the crypto ecosystem and its ties to the U.S. banking sector. As one of the few regulated financial institutions offering banking services to crypto companies and exchanges, Silvergate’s downfall will probably reinforce U.S. regulators’ arguments that crypto poses a threat to the traditional financial system. In a statement earlier this year, U.S. banking regulators warned banks about the risks of serving crypto-related companies.
It is worth noting that Silvergate Bank’s collapse was not the only banking crisis in the industry. Silicon Valley Bank, which had a weaker tie to digital assets, also faced a rapid collapse, requiring Federal Deposit Insurance Corp. (FDIC) receivership. Comparisons have been drawn between the two California-based banks, with both suffering a flood of withdrawals that forced executives to liquidate securities held as reserves. However, Silvergate Bank’s collapse showed that it had enough liquidity on hand to satisfy depositors and pay back loans from the Federal Home Loan Bank of San Francisco without requiring government assistance.
What is the main lesson?
Silvergate Bank faced significant challenges in the fourth quarter of 2022, as clients withdrew their deposits in the wake of the collapse of FTX exchange. By the end of September, the bank held $13.3 billion in deposits, with $1.9 billion in cash and $11.4 billion in investment securities. However, deposits shrank to about $6.3 billion by the end of the year, and the bank had to sell its securities to raise cash, leading to significant losses. The bank’s equity capital was cut in half, and its leverage ratio dropped to 5.1% from 10.5% three months earlier. Despite this, the bank was able to meet depositors’ needs in its final months.
To satisfy the outflows, Silvergate Capital CEO Alan Lane initially used wholesale funding, but later sold the debt securities “to accommodate sustained lower deposit levels and maintain our highly liquid balance sheet.” As of the year’s end, the bank’s $4.5 billion of cash and remaining securities were set against $6.3 billion of deposits, allowing executives to easily meet any further withdrawals in 2023. Lane believed that Silvergate could “return to profitability in the second half of 2023” and remained committed to maintaining a highly liquid balance sheet with minimal credit exposure and a strong capital position to ensure maximum flexibility for customers.
However, regulatory filings show that Silvergate Bank had obtained $4.3 billion of advances in late 2022 from the Federal Home Loan Bank of San Francisco, a type of government-backed wholesale funding that’s available to banks but typically is seen as less preferable than cheaper deposit funding. Lane said that executives intended to reduce their reliance on wholesale funding. But in March 2023, Silvergate Capital disclosed that it had been forced to accelerate sales of securities to raise money to repay the advances from the Federal Home Loan Bank of San Francisco, leading to additional losses.
As a result, Silvergate Bank had to repay all advances outstanding to FHLBank San Francisco in full, which pushed it below the “well-capitalized” level. Silvergate Capital noted that it was “evaluating the impact that these subsequent events have on its ability to continue as a going concern.” In the following days, the company’s share price plummeted, and major clients announced they were pulling their business. Speculation arose that the bank might get taken over by the FDIC.
On March 8, Silvergate Capital announced that it intended to “voluntarily liquidate the bank in an orderly manner,” including the “full repayment of all deposits.” While the bank’s collapse was not pretty, depositors were ultimately satisfied, and there was no FDIC intervention.
Originally, many investors’ confidence in banking stocks was shaken after the collapse of Silvergate bank not long ago. By the collapse of SVB, investors had massively sold off bank stocks.
Shares of some mid-sized banks such as First Republic Bank and Signature Bank were suspended from trading on the morning of March 10 because of the deep discount.
The impact of rising interest rates on banks’ stock portfolios is not limited to SVB. At all FDIC-guaranteed banks, the total value of unrealized losses on securities portfolios amounted to $620 billion as of the fourth quarter of 2022.
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