Q9 Weekly | Barbarians at the Silvergate

9 March 2023

• BTC falls to a three-week low on interest rates concerns
• USDT claims highest market share in 15-months
• Silvergate Bank to shut down

Interest rates and Silvergate Bank’s woes have been dragging on the crypto market this week. Fed Chair Jerome Powell’s hawkish testimony to Congress spurred traders to price in a higher “terminal rate”, weighing on risk assets. Powell mentioned that the current trend shows that the Fed’s inflation-fighting job is not over, stating that “the latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated”.

Meanwhile Silvergate announced it will shut down in the face of market turmoil. The bank is best known for serving some of the largest firms in the crypto industry with fiat ramps and commercial banking services.

Bitcoin (-8.2%) and Ethereum (-7.8%) both slipped to $21.7k and $1.5k respectively. Many coins fell over 20% including ZRX (-28%), FTM (-24%), REN (-23%), YFI (-21%), BAT (-21%), AXS (-21%), NEAR (-21%), and COMP (-21%).

Stacks (STX) was a noticeable underperformer, dropping 37% over the week. The Bitcoin Layer-2 has made quite a splash in the past month or so. While Polygon and Immutable X help Ethereum scale, Stacks is focused on Bitcoin, where it has enabled NFTs known as Ordinals. Stacks has expanded Bitcoin beyond just peer-to-peer transactions, which has caught the eye of the crypto community. Its native token, STX, still leads all crypto assets with market caps in excess of $1bn in year-to-date performance (up 187%).

STX/USD and BTC/USD, YTD

Source: TradingView

Birds of a Tether

Tether’s USDT stablecoin market share has risen to its highest level in 15-months, surpassing 54%, its highest level since Nov 2021.

Tether’s gain came mostly at the expense of rival Binance USD, which has been in rapid decline since its issuer, Paxos, announced on Feb 13th that it would halt minting new BUSD tokens due to pressure from the New York Department of Financial Services. Since then, BUSD has shrunk below $9bn from a $16bn market cap.

USDT’s market cap has grown some $5.3bn this year so far to $71.6bn, with $3bn of the gains after mid-February. Circle’s rival stablecoin, USDC, has also gained $3bn since the Paxos announcement; however, its $44bn market cap is still lower than at the start of 2023. The total stablecoin market is worth $136bn.

Top 5 Stablecoin Statistics

Source: CoinGecko

Market Cap of Stablecoins Since 2015

Source: CoinGecko

Gating the Crypto System

Silvergate — a cornerstone of the crypto world and the industries go-to bank — plans to wind down operations in the face of turmoil in digital currency markets.

In a press release, the firm cited “recent industry and regulatory developments”, and announced that a “voluntary liquidation of the bank is the best path forward”. The banks share price is down more than 90% since its lofty heights a year ago.

Silvergate had developed into the world’s largest crypto bank, attracting as much as $14bn in customer deposits — about 90% of which were crypto related.

However, its fortunes tumbled along with FTX and Gensis. The bank wasn’t engaged in many of the risky practices that led to the downfall of other firms (ie uncollateralized loans and hedge fund bets). Rather, an old-fashioned bank run caused by concerns over FTX’s financial stability led to a liquidity and solvency crisis, and its ultimate demise.

Customers rushed in the past few months to pull money out of Silvergate and in January it reported that customers had withdrawn more than $8bn, forcing it to sell held-to-maturity assets to fund the bank run, accruing losses on the sale of the securities of $718mn. ie… FTX sparked a mass exodus into dollars, and Silvergate suddenly had to come up with a bunch of money. Unfortunately, that meant selling its bonds at a loss in order to pay its obligations. Bloomberg’s Matt Levine has a good take on all the gory details. In response, Coinbase, Galaxy Digital, Crypto.com, Circle, Paxos (and many others) all stated they stopped using Silvergate.

Silvergate also says that they’re facing potential investigations from bank regulators and the Department of Justice.

Why it Matters

Silvergate’s troubles are a problem for the entire crypto industry. There are several concerns about what the crypto landscape will look like without Silvergate, especially when it comes to where companies will turn to get cash.

• Crypto Banking. Very few banks will touch crypto because of its risks — and most traditional banks don’t let crypto clients transact in dollars 24/7. Access to banking that moves at the pace crypto does is rare, and only one other US bank can do it. This is going to push funds and market makers further offshore.
• Fiat Ramps. Silvergate was effectively a pass-through point for crypto. It was an important on- and off-ramp from the dollar (and euro) into crypto. Getting cash in and out of crypto will now be harder.
• The SEN Network. It also shut down the lauded Silvergate Exchange Network, which let crypto exchanges like Coinbase, Gemini, and Kraken move money between themselves and other institutions. This was important technology for the crypto ecosystem.
• Stablecoins. For stablecoins issued by Circle, Paxos, and Gemini (among others) the SEN was important for making and burning their tokens, which were issued when someone deposited a dollar in their Silvergate bank accounts. Silvergate’s job was to create a token when someone put a dollar into, say, USDC and to burn a token when someone took a dollar out.

Silvergate’s Services

Source: Silvergate Investor Presentation, 2021

The Silvergate Exchange Network (SEN)

Source: Silvergate Investor Presentation, 2021

What to Expect

There isn’t going to be contagion like FTX. Silvergate was just a pass-through bank for crypto — it didn’t take on enormous leverage or misappropriate client assets. The problem here is less that some exchange or stablecoin is going to suffer a massive loss of customer money and more that it is now even harder for crypto companies to get banking.

The crypto industry desperately needs banks — but many of Silvergate’s competitors were already pulling away from the sector even before this debacle. Metropolitan said in January that it was getting all the way out of crypto. And in December, Signature said it was going to get rid of $8bn to $10bn in digital asset-related funds.

Silvergate’s collapse will now surely draw scrutiny from lawmakers, especially those who are concerned about crypto contagion reaching the traditional financial sector. Its troubles will likely remain a key talking point for regulators and the crypto industry in the months ahead.

But ultimately, Silvergate dealt in liquidity, and a liquidity problem can become a solvency problem real fast. The entire crypto industry just got a lot more fragile.

In the News…

• Binance.US can move ahead with plan to acquire Voyager Digital’s assets, judge rules
• FTX says $8.9bn in customer funds are missing
• SEC Chair Gensler says crypto exchanges may not be ‘qualified custodians’
• Webinar: Crypto Crime Series 2023
• Ethereum L2 Scroll reaches $1.8bn valuation in new funding round
• Crypto exchange Bybit suspends USD deposits
• Crypto Funding: DeFi replaces CeFi as VC Favorite
• SEC files emergency action against BKCoin for running $100mn ‘Ponzi-like’ scheme
• Alpha Sigma Capital and Transform Ventures raise $100mn for two blockchain funds
• Believer, a new approach to gaming, raises $55mn from Lightspeed, a16z and more
• Kresus has raised $25mn for a web3 application from Liberty
• Crypto payroll startup Toku raises $20mn
• Zero-Knowledge technology has great potential: FS Insight
• Stablecoin issuer MakerDAO proposes additional $750mn US Treasury purchase