The Surprising Dissimilarities Between Silicon Valley Bank’s And Silvergate’s Crypto Failures!
Despite worries about how problems in the crypto industry will affect the banking industry, the two banks that failed this week had different ties to the market for digital assets. While Silicon Valley Bank (SVB), which has weaker ties to digital assets, was forced into receivership by the Federal Deposit Insurance Corp. (FDIC), Silvergate Bank, a bank focused on cryptocurrency, was able to avoid receiving federal assistance.
Similar collapses occurred at both California-based banks as a result of a wave of withdrawals that forced executives to sell off securities that had been held as reserves. Since portfolio values have been declining due to rising interest rates over the past year, these multibillion-dollar sales have resulted in sizeable write-downs. Bond prices fell as a result of the Federal Reserve’s increases in interest rates.
Despite the similarities in their collapses, the two banks’ different ties to the cryptocurrency industry imply that the impact of cryptocurrencies on the banking industry is more complicated than initially thought. While the failure of Silvergate Bank may support claims that cryptocurrencies threaten established financial systems, the failure of Silicon Valley Bank demonstrates that banking sector weaknesses can result from a variety of sources.
It is anticipated that the failure of these two banks will have a knock-on effect on the larger banking sector, leading to increased scrutiny of banks’ risk management procedures and the possibility of stricter regulations. The incidents also show how important it is for financial institutions to be aware of how exposed they are to digital assets and other new technologies, and to make sure they have enough security measures in place to manage any risks.
The failure of these two banks serves as a reminder of the banking industry’s vulnerability and the possibility that unanticipated events could lead to a crisis. Banks must be vigilant and adaptable to ensure they can handle whatever comes their way as the industry continues to change and face new challenges.
In order to satisfy depositors and repaid loans from the Federal Home Loan Bank of San Francisco, Silvergate Bank had sufficient liquidity on hand. Even though Silvergate Bank ultimately failed, its executives managed to forgo receiving government assistance. Despite the fact that Silvergate Capital’s share price has fallen significantly since the day the bank disclosed it couldn’t submit its annual report, the collapse had little effect because only the shareholders were hurt.
Contrarily, the failure of Silicon Valley Bank alarmed markets and investors to the point that Janet Yellen, the U.S. Treasury Secretary, called a meeting of the heads of the Federal Reserve, Office of the Comptroller of the Currency, and FDIC to talk about the situation surrounding the bank. Yellen expressed confidence in banking regulators to respond to the incident appropriately, noting that the banking system is still robust and that regulators have powerful tools to handle this kind of scenario.
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The crypto industry itself is generally known for risk, and Silvergate Bank took significant risks in it. Additionally, the bank’s overseers permitted Silvergate Bank to accept sizable crypto deposits and exposure to the developing blockchain sector. However, in this case, the FDIC insurance fund cannot be held responsible for being depleted by the cryptocurrency sector.
This case study highlights the banking industry’s potential risks and weaknesses as well as the potential effects of financial institutions’ exposure to cutting-edge technologies like blockchain and digital assets. Additionally, it emphasizes the necessity of effective risk management procedures and safety measures to guard against unforeseen events. It is anticipated that the failure of these banks will have a knock-on effect on the larger banking sector, resulting in increased scrutiny and potential regulatory changes.
Continued issues?
The fourth quarter of 2022 was disastrous for Silvergate Bank, which was known for its cryptocurrency-friendly services, as customers frantically tried to get their deposits out after the FTX exchange failed. When comparing the bank’s financial situation from the end of September to the end of December, one can see a stark contrast in the bank’s regulatory filings. Silvergate had $13.3 billion in deposits at the end of September, as well as $11.4 billion in investment securities and about $1.9 billion in cash. The bank was forced to raise cash by selling down its book of securities to about $5.7 billion by the end of the year after deposits plunged to about $6.3 billion over the course of the following three months.
The situation was compared by experts to a traditional bank run. According to Thomas Braziel, managing partner at 507 Capital, the bank realized sizeable losses when it sold the securities because their value had decreased as a result of rising interest rates. As a result, according to the filings, the bank’s equity capital decreased by about 50% during the quarter, coming in at about $571.8 million.
Leverage ratio for the bank, a crucial indicator of bank health tracked by supervisors, decreased to 5.1% at year’s end from 10.5% three months earlier. According to filings with securities regulators, Silvergate Bank needed a leverage ratio of at least 5.1% to be regarded as “well-capitalized,” which put it in a precarious position. However, as Silvergate Bank struggled to meet depositor demands in its final months, the capital cushion proved adequate to absorb any remaining losses.
Despite the fact that Silvergate Bank’s executives managed to avoid receiving government assistance, the bank’s failure will probably have a significant impact on the cryptocurrency ecosystem and its connections to the U.S. banking industry. Silvergate’s demise will probably support U.S. regulators’ claims that cryptocurrency poses a threat to the established financial system because it is one of the few regulated financial institutions providing banking services to cryptocurrency businesses and exchanges. U.S. banking regulators cautioned banks about the dangers of doing business with companies involved in cryptocurrencies in a statement earlier this year.
It is important to note that the failure of Silvergate Bank was not the only banking crisis that affected the sector. A rapid collapse of Silicon Valley Bank, which had a weaker connection to digital assets, necessitated Federal Deposit Insurance Corp. (FDIC) receivership. The two California-based banks have been compared because they both experienced a wave of withdrawals that compelled executives to sell securities held as reserves. The collapse of Silvergate Bank, however, revealed that it had sufficient liquidity on hand to pay back loans from the Federal Home Loan Bank of San Francisco and appease depositors without the need for assistance from the government.
What is the main lesson?
In the fourth quarter of 2022, Silvergate Bank encountered significant difficulties as a result of clients withdrawing their deposits following the demise of FTX exchange. The bank had $13.3 billion in deposits as of the end of September, along with $1.9 billion in cash and $11.4 billion in investment securities. By the end of the year, however, deposits had decreased to about $6.3 billion, and the bank had to sell its securities to raise money, which resulted in sizable losses. The bank’s equity capital was reduced in half, and three months earlier, its leverage ratio was 10.5% but is now only 5.1%. However, even in its final months, the bank was able to satisfy the demands of its depositors.
Silvergate Capital CEO Alan Lane used wholesale financing at first to cover the outflows, but later sold the debt securities “to accommodate sustained lower deposit levels and maintain our highly liquid balance sheet.” Executives can easily meet any additional withdrawals in 2023 thanks to the bank’s $4.5 billion in cash and remaining securities, which were set against $6.3 billion in deposits as of year’s end. Lane was confident that Silvergate could “return to profitability in the second half of 2023” and he remained committed to keeping a highly liquid balance sheet with little credit exposure and a strong capital position to give customers the most flexibility possible.
Nevertheless, regulatory filings reveal that Silvergate Bank had acquired $4.3 billion in advances from the Federal Home Loan Bank of San Francisco in late 2022. This type of government-backed wholesale funding is available to banks but is typically viewed as being less preferable than more affordable deposit funding. Executives, according to Lane, planned to rely less on wholesale financing. However, Silvergate Capital revealed in March 2023 that it had to make additional losses as a result of having to sell securities more quickly in order to raise cash to pay back the advances from the Federal Home Loan Bank of San Francisco.
Due to having to pay back all outstanding advances to FHLBank San Francisco, Silvergate Bank’s capitalization fell below the “well-capitalized” threshold. “Evaluating the impact that these subsequent events have on its ability to continue as a going concern,” Silvergate Capital stated in a statement. Major clients announced they were ending their business relationships with the company, and the share price of the company fell over the ensuing days. There was talk that the FDIC might take over the bank.
A voluntary bank liquidation in an orderly manner, including the “full repayment of all deposits,” was announced by Silvergate Capital on March 8. Although the bank’s demise was not pleasant, depositors ultimately received their money, and the FDIC did not step in.
Initially, the recent collapse of Silvergate bank caused a lot of investors’ confidence in banking stocks to be shaken. Investors had ferociously sold off bank stocks by the time SVB collapsed.
Due to the significant discount, trading in the shares of some mid-sized banks, including First Republic Bank and Signature Bank, was halted on March 10’s morning.
SVB is not the only bank stock portfolio affected by rising interest rates. As of the fourth quarter of 2022, the total amount of unrealized losses on securities portfolios at all banks covered by the FDIC came to $620 billion.
