Will Crypto Ever Be a Safe Investment?

Analysis by Andy Mukherjee | Bloomberg
January 4, 2023 at 11:32 p.m. EST

The Bitcoin logo on souvenirs during the listing ceremony for the CSOP Bitcoin Futures and CSOP Ether Futures exchange-traded funds (ETFs) at the Hong Kong Stock Exchange in Hong Kong, China, on Friday, Dec. 16, 2022. A pair of Hong Kong ETFs investing in Bitcoin and Ether futures raised $79 million as the city pushes ahead with a plan to become a crypto hub even as the sector globally reels from the FTX collapse. (Bloomberg)

In the annals of cryptocurrencies, 2022 will go down as the year when the industry nearly died. But then December saw the birth of a pair of exchange-traded funds in Hong Kong, offering new hope to both retail and professional investors.

Asia’s first futures ETFs for Bitcoin and Ether join a growing list of initiatives that will go some way toward ameliorating the current crisis of legitimacy facing virtual assets. A big dampener is the confusion surrounding safe custody of crypto holdings. Sam Bankman-Fried’s FTX, the most spectacular of last year’s string of crypto debacles, has brought the hapless customers of the failed Bahamas-based exchange in front of a bankruptcy judge in Delaware who’ll determine if they’re entitled to their funds ahead of other creditors.

But FTX is not the only test for crypto custody. Last month, a US bankruptcy judge ordered the insolvent Celsius Network LLC to return the roughly $50 million that had never earned any interest. However, the fate of billions of dollars of users’ funds stuck in interest-bearing accounts is still in question: Does the money belong to the debtor’s estate or the customers?

This anxiety-inducing uncertainty should ease with more crypto investments moving to normal bourses as regular securities, no different from stocks and bonds. That will bring customer assets under the umbrella of standard safeguards, precluding the need for costly legal maneuverings to recover one’s money. For instance, the newly launched CSOP Bitcoin Futures ETF will entrust custody of customer funds to HSBC Holdings Plc’s licensed Hong Kong trust company that, as Bloomberg Intelligence notes, undergoes regular bank examinations and audits.

This is what fund managers have been waiting for. Adults getting into the crypto playpen will bring grown-up rules with them. Nobody knows if any of today’s digital assets will amount to anything more than vehicles for speculation. But tokens of the future might represent meaningful economic value. On that premise alone, it may be worthwhile to create a safe and secure setup now for capital to flow toward them.

The Hong Kong crypto ETF is just one of several recent examples of the financial industry trying to provide protection in a legal vacuum. Bank of New York Mellon Corp., the custodian of $43 trillion in customer assets, recently opened its vaults to receive some institutional clients’ cryptocurrencies. BlackRock Inc. has also entered the fray by adding crypto to its Aladdin platform, used by pension funds and other large investors to oversee their portfolios. Fidelity Investments, the brokerage unit of the asset management behemoth, has been offering custody services to hedge funds since 2018. It’s now launching a zero-commission Bitcoin and Ether trading service for retail clients.

Olivier Fines, the London-based head of advocacy for Europe, Middle East and Africa at CFA Institute, cautions against reading too much into private, industry-level efforts. “The de facto insurance offered by a BNY Mellon, a Fidelity or an HSBC is very much a product of their size and scale; it’s not something smaller institutions can easily replicate. For there to be a competitive market in custodial services for crypto, new laws must fill the existing legal holes,” Fines said.

One such gap is in the US Securities and Exchange Commission’s Customer Protection Rule. Under it, broker-dealers are required to segregate customers’ cash and securities from their own. This is an important assurance to clients parting with their money. They would be loath to stand in line alongside general creditors to recoup pennies on the dollar in the event of the bankruptcy of an intermediary.

But is an exchange token — such as FTX’s cryptocurrency FTT or Binance’s BNB — a security or a utility? In its complaint against FTX co-founder Gary Wang and former Alameda Research Chief Executive Officer Caroline Ellison, the SEC is claiming that FTT is a security. So far though, “custodial protections, like other investor protections for digital assets, remain largely untested in court,” Fines and his Washington-based colleague Stephen Deane wrote in a new report that summarizes the investment management industry’s current views on putting crypto on their menu.

“Revolutionary or not, technology alone cannot offer protection from age-old financial misdeeds, ranging from market manipulation and front-running to fraudulent disclosures and Ponzi schemes,” says the CFA Institute report. “The crypto ecosystem urgently needs a strong, clearly defined regulatory framework.”

For too long, the focus of crypto supervision has been on preventing money-laundering. Customer protection wasn’t the priority. Now the pendulum is beginning to swing, though, perhaps a bit too much in the other direction. In March, the SEC came up with new accounting guidance for financial companies that have an obligation to safeguard customers’ crypto assets: They need to explicitly record a liability and a matching asset. But this requirement may backfire if it’s perceived to be too onerous. A bloated balance sheet will push up banks’ capital requirements, making them reluctant to offer custodial services to clients.

This regulatory tug of war will ultimately settle down, hopefully with investors feeling better protected than now and intermediaries not shying away from the field. The techno-anarchist founders of trustless blockchains won’t be pleased that the same large middlemen they wanted to banish are trying to hijack their creation. But with some luck, future historians of the industry would conclude that crypto’s worst vulnerabilities crawled out of the woodwork in 2022. After that, things progressively got better. Digital assets continued to remain unsuitable for the majority of risk-averse small investors, but at least they became a safer bet for those who didn’t mind the volatility.

Silvergate Capital shares plunge nearly 50% amid crypto-related negativity

By: Benson Toti
on Jan 5, 2023

Silvergate shares fell sharply after report investor deposits fell $8 billion after FTX collapse.

The crypto-friendly bank is also cutting its workforce by 40% amid crypto market downturn.

The company's shares fell nearly 50%, dropping to lows of $11.52 on Thursday.

Silvergate Capital Corp (NYSE: SI) shares dropped sharply on Thursday, with intraday declines as of midday more than 47% to see the crypto-focused bank’s stock trade around $11.52.
Silvergate shares fall as investors withdraw $8 billion in deposits

Losses for crypto-friendly bank’s shares followed the company’s fourth-quarter report before markets opened. Per the update, Silvergate customers, most probably concerned by the shocking collapse of crypto exchange FTX, moved to make massive withdrawals. In total, investor deposits fell from $11.9 billion to $3.8 billion. Crypto-related deposits fell more than $8.1 billlion during the quarter.

The company also recorded a huge decline in average customer deposits across board, which dropped by $4.7 billion to $7.3 billion.

Silvergate to cut workforce by 40%

Shares were also down as Silvergate management announced plans to cut its workforce.

According to the bank’s announcement, the move to lay off 40% of the workforce – about 200 employees – are part of the measures being taken to reduce costs as the broader crypto industry continues to battle with the effects of the brutal 2022 bear market.

According to Silvergate CEO Alan Lane, the measures taken have been in response to the crypto market’s outlook and events as the year drew to a close. He noted in a statement:

“In response to the rapid changes in the digital asset industry during the fourth quarter, we took commensurate steps to ensure that we were maintaining cash liquidity in order to satisfy potential deposit outflows, and we currently maintain a cash position in excess of our digital asset related deposits.”

The reaction in the market saw the company’s shares plummet more than 47%, with prices moving from around $22 to the aforementioned lows of $11.52.

Silvergate shares have declined more than 69% since FTX’s implosion. Indeed, with broader crypto sentiment down, the crypto-friendly bank’s stock has dipped even further after US prosecutors announced they had seized FTX-related bank accounts at Silvergate.