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The crypto ‘infection’ that helped bring down SVB

PoliticsWorld PoliticsThe crypto 'infection' that helped bring down SVB
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As US banking regulators begin a post-mortem of the Silicon Valley bank, some pundits are pointing the finger at crypto markets, whose own collapse over the past year has left the tech-focused lender hopelessly exposed.

The conventional wisdom about crypto is that it is “self-referential” – a separate universe to traditional finance – and that its inherent volatility can be contained. The emerging “infection” theory is that there are enough relationships to spark extreme upheavals, much as a virus can sometimes jump from one species to another.

Here’s what happened, according to former US Congressman Barney Frank, who wrote sweeping new banking regulations after the 2008 banking crisis and joined crypto-friendly Signature Bank as a board member in 2015.

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“I think, if it wasn’t for the extreme panic about FTX and crypto, this wouldn’t have happened,” Frank Said Political this week. “It was not something that could have been anticipated by the regulators.”

FTX, the crypto exchange that collapsed in November amid allegations of massive fraud, capped a year of turmoil in crypto markets, as investors began pulling money out of risky ventures in response to rising interest rates, which This in turn exposed the shaky foundations underpinning the industry. The upcoming “crypto winter” slashes the industry’s value by two-thirds from its peak of $3 trillion in 2021.

Policymakers tried to reassure the public that the crypto market, scarred by volatility, scams and fraudsters seeking to profit from investors fearing missing out, would naturally be contained. With the collapse of the SVB, this claim faces its greatest test yet.

patient Zero

Under the theory of contagion, “Patient Zero” can be traced to the implosion of TeraUSD, an “algorithmic stablecoin”, which relied on financial engineering to maintain its value at par with the US dollar. That promise fell through in May last year after a massive selloff caused panic among investors who used virtual assets as a safe haven to park cash amid punt-taking in the crypto market. Was. The origin of the crash is still a matter of debate but rising interest rates are often cited as one of the main culprits.

The demise of TerraUSD was catastrophic for a major crypto hedge fund called Three Arrows Capital, better known as 3AC. The money managers invested $200 million in Luna, a crypto token whose value was used to boost TeraUSD, which became the third largest stablecoin on the market. a British Virgin Islands court ordered 3AC will liquidate its assets at the end of June.

The end of the fund created even more problems for the industry. Major crypto lending businesses such as BlockFi, Celsius Network and Voyager had lent hundreds of millions of dollars to 3AC to finance their market bets and were now facing massive losses.

Customers who had deposited their digital assets with the industry lender were suddenly locked out of their accounts, prompting FTX – then the third largest crypto exchange – to step in and bail out Blockfi and Voyager. Meanwhile, central banks continued to raise rates.

For a few months the infection seemed to be under control until it was revealed in November that FTX was using client cash to place risky bets elsewhere. The exchange shut down shortly thereafter as its customers rushed to withdraw their funds from the platform. Meanwhile, BlockFi and Voyager are left stranded.

the outbreak widens

This is the point where the risk aversion in the crypto industry may have sparked a species boom in the banking sector.

Silvergate Bank and Signature Bank, two smaller banks that also failed last week, had extensive business with crypto exchanges including FTX. Silvergate tried to To humiliate Its exposure to FTX however recorded a loss of $1 billion after investors withdrew more than $8 billion in deposits in the last three months of 2022. Signature also did its best to distance itself from FTX, which accounts for about 0.1 percent of its deposits.

FTX, the crypto exchange that collapsed in November amid massive fraud allegations, capped a year of turmoil in the crypto markets. Leon Neal/Getty Images

SVB had no direct link to FTX, but was not immune to widespread contagion. Its depositors, including tech startups, crypto firms and VCs, began burning through their cash reserves to run their businesses after venture capital funding dried up.

Former NatWest banker and industry expert Frances Coppola said, “SVB and Silvergate had similar balance sheet structures and risks – large mismatch durations, lots of non-performing deposits backed by securities that are not marked to market, and Inadequate regulatory capital as unrealized fair value losses are excluded.” told Politico.

Eventually, the deposit drain forced SVB to liquidate underwater assets to accommodate its customers, while trying to hedge losses on bond portfolios and a bigger bet on interest rates. As word got out, withdrawals turned into a crypto bubble as frictionless and hype-driven as a bank run.

Zachary Warmbrodt and Izabella Kaminska contributed reporting from Washington and London, respectively.

This article has been updated to correct the value of the crypto industry.

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