Bank failures in Silicon Valley highlight the vulnerability of small banks; Bitcoin BTC price rises past $22.5K
Investors buoyed by the regulator’s statement are sending cryptos higher
After a jittery Thursday and Friday, crypto investors took heart over the weekend from a decision by federal regulators to restore all deposits at failed Silicon Valley Bank (SIVB) in full and an announcement by fintech Circle to cover some of its stablecoin USDC reserves .
Bitcoin recently traded at $22,482, up more than 9.3% in the last 24 hours. The largest cryptocurrency had plunged below $20,000 early Friday (UTC) as SIVB customers withdrew their money in droves, prompting the California Department of Financial Protection and Innovation to shut down the institution, a key player in the world’s technology sector. SIVB’s failure is the second largest in US history.
In a joint statement Sunday, U.S. Treasury Secretary Janet L. Yellen, Federal Reserve Chairman Jerome H. Powell, and FDIC Chairman Martin J. Gruenberg said Yellen, after weighing the recommendations of the FDIC and the Federal Reserve and consulting with U.S. President Joe Biden . had “authorized actions that enable the FDIC to complete actions in a manner that fully protects all depositors” at SIVB.
“Today, we are taking decisive action to protect the American economy by strengthening public confidence in our banking system,” the statement said.
Mark Connors, head of research at crypto-asset manager 3iQ, called the agency’s action “risk asset friendly at first blush” in a weekly report, although he cautiously noted: “Too many moving parts and M2 [monetary aggregate of currency and coins, savings deposits and shares in mutual money market funds] STILL contracts.”
But Connors also added: “The Fed continues to expand its control over the markets. What they announced tonight is the equivalent of guaranteeing bank deposits overnight in 2008.”
Ether also regained ground to change hands at $1,614, up 9.6% from Saturday at the same time. Other major cryptocurrencies that were hit hard last week as the impact on the crypto industry from SIVB’s collapse became apparent also bounced back over the weekend, with their biggest gains on Sunday. APT, the token of layer 1 protocol Aptos, and ADA, the native crypto of Ethereum rival Cardano, rose by 13% and 11% respectively. The CoinDesk Market Index, a measure of overall market performance, fell nearly 10%.
Payments technology company Circle Internet Financial said on Saturday it would “cover any shortfalls” in the assets backing its stablecoin USDC in the event it does not receive the full $3.3 billion in cash reserves it held at Silicon Valley Bank. In a blog post, Circle said it “will stand behind the USDC and cover any shortfalls using corporate resources, involving external capital if necessary.” The value of the stablecoin fell as low as $0.88 before the announcement, but is currently trading above $0.99 cents.
US stocks were swept up in banking worries with the tech-heavy Nasdaq and S&P 500 falling 1.8% and 1.4% respectively. The S&P ended down 5% for the week, its worst weekly performance since September 2022. As trade opened in Asia, the Nikkei 225 and Taiwan TSEC 50 index fell slightly.
3iQ’s Connors wrote that long-term regulatory measures to protect customers’ assets would continue a “game of regulatory crack-a-mole” leads to, among other things, a continued consolidation of the banking industry and acceleration of stable coin regulations.
“Outcome TBD,” Connors wrote.
SIVB collapse shows why small banks are vulnerable
Late last week, Silvergate Bank, a major fiat on and off the crypto market, announced it was engaging in voluntary liquidation and closure, sparking market panic. Its main competitor, Signature, was seized by regulators over the weekend.
While SIVB serviced some crypto companies, it did not service exchanges such as Silvergate or Signature
The Federal Reserve defines SIVB as a large bank (these institutions have over $50 billion in deposits), and Silvergate as a small bank. Some have said that if the FDIC does not act decisively on Monday, contagion will spread throughout the banking sector. The runs are already starting First Republic Bank and other regional actors.
Basically, this crisis is not about crypto. The performance of technology companies—considered a risky asset—in a high interest rate environment played a role, but it wasn’t everything either.
It’s about how small banks fared during stimulus-heavy Covid. These small banks are not as well known as SIVB but, like Silvergate, specialize in serving an industry or niche.
They are also the ones who run fintechs. Cross River Bank (assets $9.9 billion) is the financial plumbing behind Coinbase, Stripe and Affirm. Evolve Bank & Trust (assets $1.3 billion) is the bank behind Wise and Dave.
These small banks like the arrangement because it diversifies their customer base away from the usual local businesses like banks with small, regional institutions.
Tech startups, who move fast and disrupt things, prefer to use small banks over traditional big banks. It is a belief that they understand each other and will have a more personal, attentive experience rather than having an account with one of America’s largest banks. But in turn, this means that these small banks – which operate fintech – are far too exposed to the technology sector.
Covid, the curve and small banks
2020 saw a massive influx of cash assets onto their balance sheets, in part due to fiscal stimulus and the Fed’s asset purchases, which typically target a niche industry. As the impact of Covid on the economy subsided, the cash supply turned to loans, and since September 2021 the growth of cash assets in small bank balance sheets has turned negative.
Through 2022, small banks’ lending increased, while growth in cash remained negative.
“Banks are now sitting with reserves largely at their lowest comfort level – especially small banks,” TS Lombard economist Steven Blitz wrote in a February note. “[Small banks] are more aggressive in lending and in borrowing short-term liabilities to finance themselves.”
Given the size of these institutions, and the lack of cash on hand compared to larger banks, Blitz writes that their borrowing was more aggressive. In addition, their small size meant that they did not have the same level of regulation as their larger counterparts.
“Small banks, many of which are private and therefore have no shareholder concerns about the optics of borrowing from the discount window, have accordingly moved to use the Fed’s discount window facility,” Blitz wrote.
Both Silvergate and SIVB had large advances from FHLB on the balance sheet.
In the case of Silvergate, it ended 2022 with $4.3 billion of FHLB money on its balance sheet. This number increased dramatically from the $700 million it had at the end of September 2022 because it needed to shore up its cash position in the face of rapid withdrawals following the FTX collapse. Days before the collapse, it said the loans had been repaid in full – further deflating the balance sheet.
Tolerates peaks in loan costs
Borrowing long and borrowing short has been the model for banks since the beginning of time, but an inverted yield curve contradicts this.
An inverted yield curve occurs when short-term interest rates exceed long-term interest rates – an anomaly, since lending money over the long term should yield a higher interest rate for the lender.
At press time, the two-year government bond yielded a whole percentage point more than the 10-year loan. The two-year yield has increased by 300 basis points to 4.82% in 12 months.
The dramatic increase in borrowing costs for these banks is making life difficult, combined with a very technology-specific flight of deposits as investors prefer short-term, high-yield bonds to risky technology and crypto.
Startups are not raising new money given this environment and are burning what they have to stay afloat.
Silicon Valley Bank identified this as a problem in its Q1-23 mid-quarter update.
FRED data shows that the same is happening in these small banks that operate start-up-friendly fintechs.
What will happen if an agreement to save SVIB, the mothership of tech start-up funding, does not materialize? Or, if depositors only get 40-50% of their money? It’s going to be a technological deep freeze. Beware of small banks.
“The government has about 48 hours to fix a soon-to-be-irreversible error,” says Pershing Square CEO Bill Ackman tweeted at the weekend. “These withdrawals will drain liquidity from community, regional and other banks and begin the destruction of these vital institutions.”
“Already thousands of the fastest-growing, most innovative venture-backed companies in the United States will begin failing to take payroll next week,” he continued.
Is ether (ETH), the original cryptocurrency of the Ethereum blockchain and the second largest by market capitalization, an investment security? Penn State Dickinson Law Professor Tonya Evans joined “First Mover” to discuss. Additionally, Bitwise Crypto analyst Ryan Rasmussen shared his reaction to the crypto markets as US payrolls rose by 311,000 in February. And Rosetta Analytics co-founder Angelo Calvello weighed in on the collapse of crypto-friendly Silvergate Bank.