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After a Week

(Note: I wrote this post last Sunday and never sent it out. Just got busy and forgot to. It’s kind of interesting for me to read over again in retrospect of another week. Wherever it says “Note:” is where I added some updated comments this morning)

Whatever success I have in the stock market generally comes from juxtaposing two opposing views at the same time: what makes sense that will happen and what actually is happening.

There have been plenty of bearish voices the last few months and they have been wrong.  These are not your usual contras.  One investor that I personally hold in high esteem, Michael Burry, tweeted this a week or two ago.

While Burry is not forthcoming on reasons (in fact we only get to see his tweets for a blink of the eye before he deletes them) others are more specific.  One follow of mine that has been mostly right throughout this bear market put numbers to it:

$230 x 17-18x = S&P 500 at 3,910 – 4,140.  There’s your range.

So far, that is not bullish or bearish.  But as he pointed out, there is plenty of downside to those assumptions.  Earnings could easily come in much lower next year if there is a recession.  A 17-18x multiple is quite high if rates are in the 5% range.  It could easily be 14-15x – which would result in a pretty big drop from here.

This potential downside to 2023 earnings estimates seems be getting realized by the bank estimates.

On November 7^th Goldman Sachs reduced their 2023 S&P earnings estimate from $234 to $224.

Last week Morgan Stanley reduced their estimates to $195 from $212.

This week J.P Morgan did it one better, reducing next year earnings to $205, down 9% from an earlier forecast of $225.

You kind of look at all this and can’t help but think, hmmm, this doesn’t seem like a great time to be going hog-wild risk-on here.

And yet….

Stocks go up. (Note: Maybe that is ending though?)

Let me tell you why I hate macro so much.  It is such a waste of time.  Yet it isn’t.

You do a bunch of work and you form an opinion that seems based in fundamentals and reason.  And then the market opens up and does the opposite, so you dump all those thoughts for the time being and just trend follow the direction of least resistance.

Which makes it seem like a waste of time.

But acting on big picture macro isn’t really what it is for.  I think it is more for reacting.

Your big picture assessment is sitting in the back of your mind.  It informs you by degree.  If you are bearish, it does not mean you don’t act bullish-ly if the market is bullish.  It means you act less bullish.  And you turn more quickly if the market turns.

Right now, while the market seems expensive, there are pockets that do not.

Consider Dicks Sporting Goods.   I didn’t make a lot of trades the last 4 weeks (Note: 5 weeks now, still not too many trades).  Less than 10.  Dicks Sporting Goods was one of them.

Buying Dicks was a bit odd for me.  Quite honestly, I thought these pandemic sporting good winners would go up in flames once we got back to normal (remember I used to own Big 5 Sporting Goods last year and I had revisited the stock a few times, but wasn’t convinced enough to buy it back).

I came across Dicks on the morning of their earnings release.  Just going through my usual morning routine, reading the press releases of companies reporting.

Dicks reported and they were extremely good numbers.  No real deterioration.  A lot of free cash flow.

And the stock?  Well, it is cheap… if those number are close to sustainable – which, with that earnings release, we know they are for at least another couple months.

Yet lots of investors are short Dicks.  The short interest is 21%.  I can see why – same reason I was thinking sporting goods was done.   Collapse in sales, collapse in profits.

Except that hasn’t happened.  At least not yet.   Dicks did $1.3 billion of FCF in 2020.  They did $1.3 billion of FCF in 2021.   They are well on their way to doing a billion+ this year.  The stock had a $8b market cap that morning I bought it after earnings.  The market had bid it up a couple bucks but really not much at all.

So I don’t know.  Maybe Dicks is still going to implode.   If the recession is extreme enough, it probably has to.  I feel like this is a favorite of hedge fund shorting, who certainly know more than me.

But this is a stock trading at 7-8x FCF on a FCF number they have hit for 3 years running now.  It is a stock with a large, short interest that isn’t working out right now and is staring down being short a company at a single digit free cash flow multiple.

This is a trade and I admit I still don’t know what exactly is sustainable for Dicks so I don’t know how much patience I have with it.  Dicks is a good example in another way – a stock I am long but don’t have a lot of conviction in.  The reason you don’t see any real stock writeups from me (other than that Snap one a month back).

The point I’m making here is more general – that this a market that is expensive and in some ways it really isn’t.  And there are a lot of people offsides the ways it maybe isn’t expensive if things don’t go down just right. (Note: still holding Dicks this week, still have very tepid conviction)

So I don’t know.  I just don’t know…

Let’s see, what else… well, my Home Capital idea did not go well.  I’ve said it before – I don’t make a short more than 0.5% because you just never know.  Fortunately, I stick by this rule religiously, and so even when a huge premium takeover bid for Home Capital happened, I only took a small punch in the mouth from it.

To be honest, I cannot fathom an economic reason why you buy Home Capital now at the price it was bought for.  It makes zero sense to me.  You are buying it at a higher price than it has ever traded at, at a time when Canadian real estate transactions are at their lowest point in many major markets in 20 years?

It really is like, huh?   As I made clear in my post on Home Capital, the business is probably not as sensitive to default as you might think because of the short-term nature of their loans and deposits, but it is extremely sensitive to transaction volume and those have fallen off the cliff.  GTA home sales for November were down 54%.  Vancouver home sales down 53%.  Calgary sales down 20%.  I mean this is not good for Home Capital.

Anyway, if you ask me the whole thing smells a bit odd. (Note: this whole situation still seems odd to me. The Canadian RE market looks worse today then even a week ago. I took a small put position bet on HCG as a low-probability bet that the deal falls through. If HCG falls back to its pre-deal level it will make ~30x. If it doesn’t, I lose the small amount I put into the puts).

Final thing I’ll mention is a second bet that hasn’t really worked out yet.  I have still not given up on my SaaS bets but I have to admit, my patience is wearing thin.

A couple months ago I took bets on Datadog, Zoom and Adobe.  They were all pretty bombed out and it just seemed to me like it was worth betting on at least a bounce. 

Of the three, only Adobe really worked.   It worked because it was bombed out so bad.   One thing that has worked pretty well in this market is to wait until a stock is absolutely decimated and hated and then buy it.  It happened with Netflix.  With Meta.  And Adobe. 

I bought the stock in the $270s and sold it in the $320s.  That is a long way from where Adobe was a few months ago.  But it is also a quick 15% gain.

With Zoom and Datadog though, it hasn’t really worked.  I already sold Zoom after earnings.  The trouble I had with their earnings is just that even though Zoom is a heck of a lot cheaper than it was a year ago or even a few months ago, its not really cheap, cheap.  It is still a 19x PE, a 11x EV/EBITDA, and its not growing all that much at the moment.  So its like, I don’t know…

As for Datadog, they are really not cheap, even still.  I worked through a bunch of discounted cash flow scenarios for Datadog and I still only can get a fair value of $100 and that is even before you account for stock compensation dilution.  So again, I’m holding it still for the moment, but I don’t know… (Note: still holding Datadog, also even though I was quite negative about SaaS last weekend, I also held onto SentinelOne and Twilio, at least for another week).

(Note: like I said at the start, I wrote this post last Sunday, so before the Eiger results came out. So these were my pre-results thoughts, which as I note, I unfortunately did not follow up on)

One last loser I will talk about.  Eiger.  I’ve talked about it a bunch and I’ve been basically wrong on it. And now, with a read-out coming up on their HDV program, I feel more like making sure I limit my losses than trying to make it all back.  I plan to sell down my Eiger position by half and take the loss (Note: So, I didn’t actually do this. I took the loss).

This one is all about managing the risk.  I guess-estimate that if the HDV numbers (which they are going to release sometime this month) miss, the stock is probably going to go down another $2.  If the results are good enough, it could go up $2-$4.  So I basically asked myself, how much risk am I willing to take on this.  I have to size appropriately.

(Note: I wish I would have done the following but didn’t) I am actually considering dropping the position entirely to just buy some calls on the stock – to keep the upside but make the downside a fixed number.   I may do that this week if the option prices make sense.  It is a good situation for it because it’s a fixed event, a known timeline, and you can fix your loss.

(Last Note: So yeah the Eiger results were unexpectedly poor. I read the Citigroup note that came out Friday and they said that lonafarnib still will likely be approved, they gave it a 75% chance, but with a far smaller revenue potential – $250mm max.

The problem essentially is that the drug works for about 16-24 weeks and then effect wanes. See the slide below, particularly the virological response:

Eiger doctors running the study were as surprised as anyone. If you go back to the Phase 2 trial (those results below) you saw the leveling out, but it wasn’t really evident that the effect would reverse like it did:

If the drug is approved it would be as a short-term stop-gap for 6 months or so. It has some value because its an oral drug with few side effects (compared to the other options) it does seem to work quite fast and the other drug is a daily injection that works more slowly.

Like I said above, even though going into the study I was wary, for some reason I held on to the stock, I guess showing a blind side of having held it so long, wanting to see it through.

Mauled to Exhaustion

Bear markets are exhausting.

For one, there is the whole losing money business.  For two there is the increased difficulty of it all.   For three, bear markets uncover truths that just make you tired.

In a bull market you can have a thesis and you can watch it play out.  You can feel the exhilaration of being right as the market confirms what you knew (really suspected) all along.

In a bear market you realize that this is mostly hooey.

It is not that you can’t have a thesis or an idea.  Bear markets are obviously great for the short-selling ideas.  You can bet against a business and do wonderfully.

But even then, what underlies the win is the impermanence.  Every short is just the broken thesis of a former long.   While some longs may be scams that deserve to go down, most are not.  A bull thesis that may have rightly been right for a month or a year or a decade now turns out to be terribly, terribly wrong.

So what was it?  Right or wrong?

It is just circumstance.  If circumstances had been different the perfect short may have been the perfect long, at least until those circumstances changed.  Look at the group that has fought Tesla all these years.

The same goes for the bear market bear.  You know your time is short.  You know that your thesis is also built on sand that will harden fast if the business turns.  A pivot, a return of dis-inflation, an acceleration of the business, a takeover, a sudden shift in strategy or even just a boat too heavy with other shorts, and all those arguments you have of why the stock should go down will be useless.

A bear market strips it all to the bone.  It is just a game, with its own internal rules, and those rules are only loosely tied to daily workings of the companies at hand.  If the rules were more closely tied to the business itself, stocks would never go up that much and not come down so much either. 

The opportunity is just in the game and its rules.

Oh well.

We are a year and a half into this bear market, and I continue to mostly stand still.  Had I just sat in cash for this time I would only be marginally worse off.  In the accounts where I can’t short, I would be about the same.   If you factor in the effort, the argument can be made that this would have been the better tact to take.

Where I can short, what is a bit frustrating is that, some 9 months in and 20% lower, I have actually been right about a lot of shorts, but that “right-ness” hasn’t been reflected as much I would have hoped in my overall portfolio performance.

Wondering how this happened, I took on the task of looking back.   What I had shorted back in January, when the bear market was new and not really considered a bear market yet.

My shorts in January were inspired!   Here they are: I went short Adobe at $515, Hubspot at $526, Cardyltics at $67, Salesforce at $218, Carvana at $157, Datadog at $144, Lightspeed at $40, BigCommerce at $33, Atlassian at $319, Fastly at $32, Open Lending at $19, OneSpan at $16, Daqo at $36, Tesla at $308 (split adjusted), Nvidia at $216, Sea at $128, Paycom at $312, Netflix at $400, Quantumscape at $21, Okta at $202, Silvergate at $137 and Amazon at $142 (split adjusted).

Quite honestly, on those names alone you would be hard-pressed to not assume I had shot the lights out this year.   All of these stocks have been decimated.

Yet, I haven’t really shot the lights out.  I’ve done okay, but not as well as it should have been given those names above.

<portfolio snapshot>

So why did my overall portfolio not kill it even when I had made a number of correct decisions like shorting all those stocks above?

That is really what I wanted to think about when I pulled up my short list from January.  What exactly happened?

First, the obvious reason is that my longs did not do that well.   Looking at January transactions, there are some pretty awful stock picks there.   I went long Finance of America at $3, Precision Biosciences at $3.50, Smith Micro at $3.90, Checkpoint Therapeutics at $2.30.  What in God’s name was I thinking!   Yikes!

All these stocks were disasters that fell precipitously from where I bought them.

But this doesn’t really explain things in full, because in all of these cases I did not stick around for the collapse. 

I sold all or part well before they could make too much dent in my portfolio.  If there has been a savings grace for me in this bear market, it is that I have been quick to reconcile with my propensity to be wrong, and have taken action swiftly and without remorse.

But if I can only marginally blame my longs, what can I blame the rest for?

To get an understanding of what happened, I made a spreadsheet and ran the numbers and those January shorts alone.

If held all my January shorts until today instead of doing what I did with them, it would have contributed an extra 7.2% of positive performance.

While I did not run numbers on shorts I initiated for other months, I bet that in total my bypassed gains exceed 10%, maybe even 15%.

With most of these stocks I shorted I was quite confident they were going down.  Yet all these gains were bypassed because I didn’t sit tight.  Why?

Here is the crux of it I think:

Bear markets are a mauling.  But not just for longs.  

The mauling is far more general.  Bear markets are made for a mauling of conviction.   They are indifferent to whether that conviction is bullish or bearish.  All preconceived notions of what the future may hold must be exterminated.

The reality is that if I had stuck with all of these shorts from January until today, they would have added a lot of gains.  But the path from A to B was fraught with temporary losses that proved too great for me to take.

Let’s look at an example.  Hubspot.  I shorted Hubspot on January 6^th at $526.  I shorted again a few days later at $501.

Hubspot is a great example because it was such an overvalued POS in January.  I mean, my goodness, it is just software.   I was quite convinced in January that HUBS just had to go down.  It was extremely overvalued on any metric, it was not really making any money, it spent gobs on stock-based comp that concealed real wage expense and from what I could tell it was not even all that great of a platform.

And in fact, HUBS has gone down.  The stock price is $265 today.  Had I just sat and held that HUBS short, for every $1,000 I had shorted I would have made $500.

Sounds easy.  But here is the trajectory of HUBS.

It is the path where it gets tricky.

Holding that short would have meant watching all my gains wiped away in an early February rally, watching all my gains again wiped away in a March rally, and then, after finally making a killing down to the July lows I would have had to endure a move back to $412 in mid-August, wiping out more than half the gains one last time.

This is not an easy path.  It is a mauling of conviction.

What did I do?

A couple of comments about my actions above.

First, I was clearly skittish about this position.  I was worried it might not work.   More than once I covered only to re-initiate the short in days at basically the same level.  This for a stock that I truly despised and that seemed horribly mis-priced to me.

Second, once it got to $380 in June, I did not short HUBS again even as it fell to $265.  Why?  The answer is in that last cover.

If you squint really hard at the chart of HUBS, you will notice that on June 2^nd HUBS got to $381.18.  This marked the short-term high before another leg down.

I covered my HUBS for the last time at $380.82. That is 36c below the high.

I don’t remember the particulars of that day, but I think it is safe to say that I panic-covered at the top.  I was so disgusted with this decision that I stayed away from the stock from there-on even as it began to fall anew.

If I add it all up, I captured 44% of the gains with HUBS that I might have captured if I had just held the short from January 6^th until today.  When I do the same for my January short book as a whole, it is a little under 50%.

To say it one way, the bear market mauled me out of more than half my winnings.

It brings to mind a well-known quote from the actual Reminiscences:

“After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: It never was my thinking that made the big money for me. It always was my sitting.”

But there is a catch here.  It is hindsight.   In March I did not know that Russia would invade Ukraine and set forth a cascade of events that would lead us to 8% inflation and 4% interest rates just 6 months later.  I did not know the Fed would tighten to this degree.

Most importantly, I did not know that my portfolio would stop going down in mid-June and recover through the summer.

While as I said, I don’t remember the specifics of June 2nd, I will tell you the generalities of where my headspace was.

On June 2^nd the S&P had just finished a rally back to 4,100.  I had been caught more-short than I should have been into that rally.  At the same time, some of what I was long – a number of the biotechs, Finance of America (my god to think I went back to the well twice here!), some of the regional bank stocks – had not done all that well even as the market rallied.   I felt horribly offside.

So I did what I always do when I feel horribly offside.  I sold.  I reduced my longs across the board and I reduced my shorts.  Including Hubspot.

I did not cover Hubspot because I thought the bottom was in.  I covered because too many things were not working and so I had to get back to a place of neutral and re-evaluate.

You could argue it was a mistake.  I mean, from a strictly HUBS-centric point of view it was a mistake. From the Reminiscences point of view, it was a mistake. Again, quoting from the book:

“Men who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after a stock operator has firmly grasped this that he can make big money.”

But now we come back to the “game”.   The concept of a “mistake” is premised that there was some sort of goal that was not achieved in part because of that decision.

What is the goal here?  Is it to be right?  To be able to say I rode HUBS all the way down.   To brag that I nailed a big short?  Who am I saying this to?

This is not a movie.  And no one really cares.

I’m past the point of trying to “make big money”. The only goal is to keep on keeping on. Remember that the fate of Livermore was not a good one.

I want to come out of this bear market in the best position possible for the next bull market.   The only scorecard is the roof over our heads the meals on our table.

It is a game.  The bear market makes that plain.  But the bear market also makes plain that the essence of the game is that it is not a game at all. So know your rules and stick by them, or risk getting mauled.

Snapped

I bought SNAP this morning. I’m thinking this through and so this write-up is my “thinking this through thoughts”. I’m not 100% sold on the idea, but it makes some sense, enough to take a starter position. Here’s why.

First, this has nothing directly to do with the news of that the US government is set to hold a press conference on a “significant national security matter”. I was going to take a position in SNAP this week, I had made up my mind this weekend.

I’ve heard a couple of people on Twitter speculating that this might have to do with TikTok. Of course I have no idea if this is the case. But it wouldn’t surprise me.

Forbes had this article on Friday about TikTok planning to spy on US citizens.

While I don’t know if the announcement today will have anything to do with that, I just can’t see the US/EU letting TikTok sit on everyone’s phone given what is going on in China, especially if we see escalation now that Xi is ensconced in power.

Meanwhile SNAP had another shit quarter. That makes it 3 shit quarters in a row.

But here’s the thing. This isn’t some dying brand. SNAP saw MAU (monthly active users) grow 19% YoY.

SNAP already has 100 million users in North America. So no surprise their growth there is slowing. But ROW growth is up 34% YoY.

This app is becoming more ubiquitous, not less.

What hurts SNAP is that they aren’t making money off those users. Their ARPU (average revenue per user) in Q3 dropped considerably YoY and QoQ.

But you know, I don’t think that is all that surprising. First, ARPU in the US was only down 1%, while EU was down 5% and ROW was down 9%. So how much of this is currency? Second, SNAP is kinda being hit by the perfect storm of negative events.

SNAP ARPU in the US is close to on par with META average ARPU ($8-$9/MAU). In ROW though, SNAP only gets $1/MAU.

We’ve got the end of stay at home, so kids (especially high school and university kids) are probably not engaging as much. We’ve got the Apple IDFA changes – these were purportedly privacy changes Apple made that made it more difficult to get personal info from users and thus more difficult to target ads, and of course you have the TikTok phenom.

The back to school/work comps will pass. The IDFA stuff will also lap next year, and like these guys on the all-in podcast say (they also have a good discussion of some of the negatives at SNAP), Apple’s real goal here is not to protect our privacy but to build their own ad network, something they are doing and getting better at, which is going to help ad revenue. And TikTok – well we’ll see, but I honestly don’t get it. The US is stopping semi-conductor companies from working in China, it is blocking IP from going to China but it is going to let us give all our phone data to TikTok?

SNAP could obviously keep going down. If the trend holds the stock will do not much for the next 3 months and then drop 30% on the next earnings report. I kid… I hope.

At this price SNAP is a $12.5 billion company, which is down from being a $100b company a year ago. It is slightly cash flow positive, it has 360mm active users. You are paying $35 per user. When I look at other platforms like RBLX, META, SPOT, on a per user basis this seems roughly fairly priced to me. I don’t think SNAP is screaming cheap.

But I’m saying that on the “snapshot” of where we are now. I think there are a bunch of things that could go right from here.

Let’s Take a Look at Silvergate Capital

I don’t know if I was the first to start talking about Silvergate Capital but I think I can say that I was ahead of most of the crowd. As is usually the case, I was also one of the first out the door and way too early. I bought Silvergate in September 2020 at $22 and sold it a few months later at $70. It seemed like a crazy win at the time.

But Silvergate just kept on going. The stock was over $200 at one point!!!

It was bizarre to me. This was still a bank after all. And the economics of their cryptocurrency on-boarding platform were okay, but they needed a lot of transactions to make their fees amount to enough to justify the stock price of $200.

Maybe most concerting was simply that this was a bank trading at 4x book value and banks don’t trade at 4x book. Could Silvergate really have found the secret sauce? One that other banks could not replicate?

Well… as it turns out Silvergate sauce is not quite as tasty as we originally thought.

The stock price is down a lot. We’re at $55 now. Below where I sold it two years ago. Trading at 1.4x Tangible Book Value (they were smart to raise capital when the stock was nose-bleed), a decent earnings multiple.

It seems worth a look.

First lets see what we have here. Silvergate is a $1.7b market cap bank. They trade at 11x PE on this year’s earnings, 6.7x on next year’s earnings.

Silvergate makes money from net interest on loans and securities they purchase less what they pay on deposits just like every other bank. What makes them unique are A. their deposits come from crypto players and B. they make money on fees related to their Silvergate Exchange Network, which is the crypto on-boarding platform.

This is all the same stuff they did two years ago. It is really no more or less amazing then it was then, when investors decided it was worth $200+ share.

First, some numbers and notes from their Q322:

• EPS of $1.28
• ROE was 1.04%, ROA was 13%
• Their NIM was up from 1.96% to 2.31% – 36bps
• Cost of deposits rose from 0% to 0.16%
• Book value is $36
• Total deposits was down a touch – from $13.5b to $13.2b
• Digital Asset Customers: Q321: 1,305, Q222: 1,585, Q322: 1,677
• Digital Asset Transfers down big: Q321: $162b, Q222: $191b, Q322: $113b
• Overall net interest income was up $10mm to $84.7mm
• Fee income was down from $8.8mm in Q22 to $7.95mm in Q322 – it was flattish YoY – $8.2mm in Q321
• Interest margin on securities was up a lot: from 1.66% to 2.21%
• They used more broker deposits and more FHLB advances

A couple of things stand out.

First, fee income. Its not up at all YoY. This was supposed to be a growth driver. I was not convinced. I was right to be skeptical.

It could be worse though. If you look at how much transactions were down, you might have expected fee income to be worse. I couldn’t really find anything that explained why fee income held up so well.

Second, digital asset transfers were down a lot in Q322. Digital asset transfers refers to their main fee business, which is moving money back and forth from crypto to US dollars. I didn’t realize it until reading the transcript today, but Silvergate’s biggest customers are stablecoins, USDC for example (they said back in May they don’t bank Tether).

Silvergate is “the regulated stablecoin transactional bank” – so when coin is minted or burned it goes through SEN.

USDC, like the rest of crypto, has been slumping in terms of market cap (not in valuation, since it is pegged to the dollar). There have been less USDC deposits at Silvergate. They said on the call that:

So, I think in the quarter between Q2 and Q3, we saw the total market value of USDC declined from $55 billion to $47 billion, which is about a decrease of 15%. Silvergate average deposits were down about 13% or so

So we know the deposits at Silvergate are tied to stablecoins. Yet if you look at the balance sheet, Silvergate has not seen a noticeable decline in its overall deposits. From my notes above “total deposits were down a touch – from $13.5b to $13.2b”.

How is that possible?

It turns out that while deposits did not decline, digital asset deposits did.  Overall deposits only dropped $262mm. Digital asset deposits dropped $1.4b.

How did Silvergate make up for the difference? Using certificate of deposits (CDs), which skyrocketed to $1b.

That is no problem, except… CD’s carry a 2.07% rate on them, whereas the deposits they replace carry a 0% rate.

The result is that “the average rate on total interest bearing liabilities increased from 1.17% for the third quarter of 2021 to 2.19% for the third quarter of 2022, primarily due to the impact of increased interest rates on short-term borrowings”.

As you can see from the table below, those interest bearing deposits increased rather rapidly QoQ. If they keep increasing like this, they are going to squeeze net interest margin a little eventually.

But there are mitigating factors. Mainly, that Silvergate is not run by crazy crypto bulls. They are run by bankers doing banker things.

Silvergate is a bit funny for a bank because they don’t actually make very many loans. They only have about $1.4b of loans outstanding. Most of their assets are securities.

Silvergate is also very smart by only buying short-dated government securities. If you look at their security book, its almost all coming up in less than 12 months.

Here’s the thing about where Silvergate is at. If you look at the interest they collect, 2.58%, its only a smidge higher than their interest bearing liabilities – 2.19%. On the surface, this could be a big red flag.

But not as much as it might seem. For one, that is only considering interest bearing liabilities, and even though they are losing some non-interest bearing deposits, most are still non-interest bearing. For two, because they have prudently invested in very short dated government securities, they can reinvest at higher rates even as they need to pay higher rates for deposits.

And because there are so few loans, Silvergate doesn’t have to worry too much about default risk. They have no trouble with regulatory capital (their common equity tier 1 capital, a measure of how much capital they have to cover losses, is a rather ridiculously high 41%).

All this makes Silvergate a little uninteresting right now. They seem to be run pretty conservatively, so I don’t think anything is going to blow up here. On the other hand, because their main source of fee income is tied to crypto, it is hard to get excited about buying the stock.

They said themselves on their conference call that their business is based on Bitcoin and crypto volatility. Volatility brings on transactions and they get more fees the more the money moves. Until we get through this bear market I’m not sure we are going to see meaningful upticks in Bitcoin transactions.

The one other interesting thing of not is that they are planning a true dollar token:

We continue to balance our culture of innovation with our prudent risk-based approach to launching new products and are actively engaged with regulators and policymakers in anticipation of launching a regulatory compliant tokenized dollar on the blockchain. Unfortunately, we no longer expect that to happen this year.

The stablecoin they want to issue themselves is tied up with regulatory hurdles. But I can see why they want to have their own stablecoin.

The thing right now is that they don’t have stability in deposits. When transaction volume decreases, stablecoins don’t need to hold as much deposits with them. Silvergate said on the call that “we have always encouraged our customers to take their sort of excess deposits, if you will, or the deposits that they don’t need for issuance and redemption to other banks that do pay interest.”

So in bad times those deposits go away. That wouldn’t be the case if they had their own stablecoin.

You know, all this time everyone talked about how the risk to Silvergate was a big bank getting in the business. That they would eventually get squashed.

That may still be the case in the long-run. But it seems to me that the big risk right now is a long crypto-winter that pulls money out of the bank and eventually causes them to have to shrink.

It would be no spectacular blow up. It would be just slow dimming until the next Bitcoin bull market comes.