Why I’m looking at this crypto stock in July

Kryptobank Silvergate capital (SAY -0.17%) will report earnings on July 19, and investors will be interested in getting a peek under the hood after what has been a very difficult quarter for cryptocurrencies. Crypto prices have fallen throughout the year, and trading volume is also down. While investors will have many questions regarding the quarter, here is the most important one I look at.

It’s all about the deposits

Silvergate Capital has built a real-time payment system to better facilitate crypto trading between institutional investors and crypto exchanges. Because cryptocurrencies are traded around the clock, but the US banking system does not work in real time, Silvergate’s platform, the Silvergate Exchange Network (SEN), is very appealing to crypto traders.

But Silvergate does not earn revenue by charging investors to join the platform. Rather, it benefits from customers with digital assets moving large sums of non-interest-bearing deposits into their custody. Because Silvergate does not have to pay interest on these assets to users, it can instead distribute them to interest-earning assets.

Image source: Silvergate Capital.

Based on its own reporting, Silvergate Capital has increased average deposits from $ 6.4 billion in the first quarter of 2021 to almost $ 15 billion at the end of the first quarter of this year. Non-interest-bearing deposits are also deposits of the highest quality a bank can collect. This has made Silvergate Capital incredibly asset-sensitive, which means that it benefits enormously from rising interest rates.

In its latest quarterly regulatory filing, the bank estimated that a 1% movement in federal funds interest rates would increase net interest income – profit banks earn on loans, securities and cash after financing these assets – by nearly 31.5% over next year. This makes Silvergate the most asset-sensitive bank I know of. The federal fund interest rate started the year at practically zero and may end in 2022 at 3% or higher.

But after intense cryptocurrency sales and much lower cryptocurrency trading activity, investors may wonder if there will be as much interest in SEN or if investors can leave the platform and take with them valuable assets. While the bank has an overall correlation to the price of Bitcoin (BTC 5.99%) and the crypto market, profits depend on the deposit base. If the deposit base shrinks significantly, it will be very detrimental to earnings.

Bank of America Analyst Brandon Berman recently said that average deposits from Silvergate’s digital currency business have a correlation of 93% to the quarterly change in the price of Bitcoin, the average Bitcoin price volatility and the quarterly change in trading volume. During the end of the first quarter, the price of Bitcoin fell from $ 45,528 to less than $ 20,000, and the volume of cryptocurrency trading has been lower in the second quarter of 2022 than in the first, but not significantly lower. Berman said he expects to see the bank’s average deposits range from 10% higher to 10% lower from the first quarter.

In the first quarter of 2022, Silvergate added $ 1.4 billion in average deposits. Asked in April about deposit trends and deposit costs, CEO Alan Lane said the bank encourages customers looking for returns on their deposits to take them to another bank. “And therefore we do not see a time when we will pay interest on these deposits,” Lane added, suggesting that the bank was not very concerned about the outflow of deposits at the time.

What would be a good sign?

It would be great if Silvergate could point to a certain amount of deposit growth, even though it is modest due to the tough quarter it was for crypto. The goal, in my opinion, is to see increasing crypto adoption and more investors entering the room. Who knows, maybe some new investors will even take advantage of this opportunity to buy dip? I also hope to see Silvergate’s pipeline of SEN clients remain robust.

As long as Silvergate shows that it still plays a major role in crypto adoption and trading, and continues to attract interest from new customers, I believe the bank has a very bright future.