Silvergate Bank’s crisis: A wake-up call for risk management in crypto banking

Silvergate Bank’s crisis: A wake-up call for risk management in crypto banking

The cryptocurrency market has recently been shaken by a significant crisis at Silvergate Bank, a financial institution that specialises in digital assets. The effects of this crisis have been widespread and have caused a great deal of concern among investors. Shares of Silvergate Bank have experienced a sharp drop, hitting an all-time low of $4.86 on Friday, representing a decline of nearly 98% since the institution’s record high close in November 2021. As a result, the market capitalisation of Silvergate Bank has suffered a total loss of over $7 billion. The impact of this crisis has not been limited to Silvergate Bank alone. The wider crypto industry has also been affected, with major players such as Coinbase Global and Ebang International experiencing a noticeable drop of around 1% each. Additionally, even the popular cryptocurrencies Bitcoin and Ethereum have both taken a hit, experiencing a decline of roughly 4.8% over the past week.

The crisis at Silvergate Bank started when the bank delayed filing its annual report. The delay sparked a sell-off of Silvergate’s shares, triggering a domino effect across the crypto market. The situation worsened when Silvergate Bank announced that it had made a risk-based decision to discontinue the Silvergate Exchange Network, it’s crypto payments network. This caused Silvergate’s shares to tumble by nearly 50% on Thursday’s New York stock exchange. The fall in crypto stocks is a reminder that the crypto market is still highly volatile and susceptible to sudden shifts. The fact that one bank’s crisis can greatly impact the entire market is concerning. However, it is worth noting that this crisis does not necessarily indicate a fundamental flaw in the crypto market. Instead, it may be an indication that some players in the market, such as Silvergate Bank, were not adequately prepared for the risks associated with the market.

The Silvergate Bank incident highlighted some significant issues with the bank’s risk management and financial reporting approach. One of the key revelations from the crisis is that Silvergate’s bad debts were not its assets but its deposits. In simple terms, this means that Silvergate had been using its customers’ deposits to invest in risky assets rather than holding those deposits in more secure and stable investments. This is a major red flag for any bank, and it particularly concerns the context of a bank that focuses on digital assets and cryptocurrencies.

It has become evident that Silvergate, a financial institution dealing with digital assets, was not adequately prepared to handle the volatile market. As a result, their customers and investors have suffered significant losses. To avoid such situations, managing risk is critical to dealing with digital assets and cryptocurrencies. Banks must remain vigilant in identifying, assessing, and mitigating potential risks. There are several key areas that banks should consider in their risk management approach.

Firstly, banks should identify various risks of digital assets and cryptocurrencies, including market risks (such as price volatility), operational risks (such as security breaches), legal and regulatory risks (such as compliance with AML and KYC regulations), and reputational risks (such as negative publicity). Once risks have been identified, banks should assess the potential impact and likelihood of each risk. This approach will enable banks to prioritise risks and allocate resources accordingly. Banks should take steps to mitigate risks by implementing robust security measures, conducting due diligence on clients and counterparties, and diversifying their digital asset portfolios. Banks must monitor risks continually and adjust their risk management strategies accordingly. This may involve using risk metrics, conducting stress tests, and staying up-to-date on industry developments.

Alongside risk management, banks should also consider how to report their books when dealing with digital assets and cryptocurrencies. Banks need to accurately report their holdings and transactions in real time because the value of these assets can change rapidly. This may require specialised accounting software and the development of internal processes for tracking and reporting digital asset transactions. Moreover, banks may need to adapt their reporting practices to reflect the unique characteristics of digital assets and cryptocurrencies. For example, banks may need to report on the specific digital assets they hold and the particular risks associated with those assets. Banks may also need to provide more detailed disclosures about their digital asset holdings and transactions to ensure transparency with clients and regulators. Risk management and reporting practices are vital for banks that deal with digital assets and cryptocurrencies. Banks must proactively identify, assess, and mitigate risks while developing robust reporting practices that accurately reflect their digital asset holdings and transactions.

Ultimately, the Silvergate Bank crisis serves as a cautionary tale for banks and investors alike. It highlights the need for proper risk management, financial reporting, and diversification, particularly in the context of digital assets and cryptocurrencies. While the market for cryptocurrencies and digital assets remains volatile and unpredictable, those prepared to take the necessary precautions and invest wisely may still be able to succeed and grow in this exciting and rapidly-evolving industry.

In times of crisis, it is essential to remember the importance of diversification. Investors who have diversified their portfolios may be better able to weather the storm caused by the fall in crypto stocks. Emphasising this again, it is also worth noting that the fall of crypto stocks does not necessarily mean that cryptocurrencies themselves are inherently risky investments. While the crypto market can be volatile, it has also seen significant growth in recent years and is expected to continue expanding in the coming years. As such, investors interested in investing in the crypto market may want to consider doing so through a diversified portfolio that includes a range of different assets.

It is also important for investors to conduct thorough due diligence when selecting investments in the crypto market. This includes researching the background and track record of the companies and individuals behind the investments and analysing market trends and potential risks. By taking a careful and informed approach to investing in the crypto market, investors can better protect themselves from sudden market shifts and crises like the one experienced by Silvergate Bank and the broader crypto industry.

Source: https://www.benzinga.com/23/03/31239033/silvergate-banks-crisis-a-wake-up-call-for-risk-management-in-crypto-banking

Anndy Lian is an early blockchain adopter and experienced serial entrepreneur who is known for his work in the government sector. He is a best selling book author- “NFT: From Zero to Hero” and “Blockchain Revolution 2030”.

Currently, he is appointed as the Chief Digital Advisor at Mongolia Productivity Organization, championing national digitization. Prior to his current appointments, he was the Chairman of BigONE Exchange, a global top 30 ranked crypto spot exchange and was also the Advisory Board Member for Hyundai DAC, the blockchain arm of South Korea’s largest car manufacturer Hyundai Motor Group. Lian played a pivotal role as the Blockchain Advisor for Asian Productivity Organisation (APO), an intergovernmental organization committed to improving productivity in the Asia-Pacific region.

An avid supporter of incubating start-ups, Anndy has also been a private investor for the past eight years. With a growth investment mindset, Anndy strategically demonstrates this in the companies he chooses to be involved with. He believes that what he is doing through blockchain technology currently will revolutionise and redefine traditional businesses. He also believes that the blockchain industry has to be “redecentralised”.

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Experts: “Ethereum killer” needs to work on its governance issues or risk losing users

Experts: “Ethereum killer” needs to work on its governance issues or risk losing users

Just days after the EOS blockchain activated its mainnet on June 14, it froze seven accounts that it suspected belonged to thieves who had stolen funds from users.

Even before the dust began to settle on that news, the people maintaining the blockchain – called block producers – suspended 27 more accounts on June 22, saying in a statement that the “logic and reasoning for this order will be posted at a later date.” Hong Kong-based EOS is a fierce competitor of Ethereum, prompting some to call it an “Ethereum killer.”

Its move to put accounts on hold, without issuing a complete explanation, has led to an outcry from the cryptocurrency community.

Some pointed out how it goes against blockchain’s decentralized nature. But a few optimists have called the move “pragmatic” and supposedly a small sacrifice to make the blockchain secure.

The suspensions have led to a heavy sell-off of the EOS cryptocurrency, leaving investors who participated in its initial coin offering (ICO) – before the product went live – on the losing end.

                     EOS price volatility over the past 7 days / Image credit: Coinmarketcap

Now that its governance methods are facing increased scrutiny, some are wondering if the EOS blockchain can deliver what it promises.

The EOS blockchain is a smart contract platform advertised as a system for decentralized applications (dApps). The tech behind it is said to be a game-changer for the blockchain industry. It aims to create a more scalable network, offering a throughput of up to 6,000 transactions per second, as opposed to the six transactions per second seen on the Ethereum platform.

The EOS protocol was developed by Block.one in 2017. Its record-breaking ICO raised almost US$4 billion, and the EOS cryptocurrency has rapidly grown to become the fifth-largest crypto by market cap.

A constitutional mess

The EOS blockchain’s problems stem from the uncertainty surrounding the chain of command of its “stakeholders.” As such, the lack of a proper governance process has created a constitutional mess.

There are different groups that serve as decision-makers on the EOS blockchain. While 21 chosen block producers keep the platform running, a governing body called EOS Core Arbitration Forum (ECAF) is tasked with resolving disputes.

The problem arose when block producers froze the first seven accounts in a unanimous decision, without getting the go-ahead from ECAF first.

Days later, the reverse happened. ECAF prohibited block producers from processing transactions of the 27 additional accounts, but didn’t immediately clarify the rationale behind the order.

Calling ECAF a mistake, Block.one wants to drop the existing rules and replace them with a new governance framework, with CTO Dan Larimer proposing a version 2.0 of the EOS constitution.

Photo credit: solerf / 123RF

But the team has to act fast before the token’s reputation within the crypto community suffers further damage.

Unexplained decisions could lead to failure

Such a framework will only work if everyone agrees on the rules, says Paul Griffin, director of Singapore Management University’s Masters of IT in Business program.

These rules must then be published and shared with those in the network. And if any changes are made, they must gain everyone’s approval before being implemented. “If there is too much unexplained ruling or censuring, people will stop buying into the EOS cryptocurrency – probably rather quickly,” he warns.

Bobby Ong, co-founder of cryptocurrency data website CoinGecko, says the EOS blockchain needs to resolve its problems quickly and create a process as transparent as possible, or risk losing users.

Freezing accounts without proper authorization is “worrisome,” as Griffin puts it, because “people buying into the cryptocurrency would want to know under what circumstances accounts may be blocked.” He likens this scenario to PayPal suspending accounts while it investigates any suspicious activity, which can be frustrating to users.

Photo credit: logicbomb / 123RF

While a blockchain can be run in a centralized manner, Griffin contends that it makes “no sense as everyone would still have to trust the central authority. They might as well use other technology instead of blockchain.”

He continues, “For people to use the blockchain, there must be trust – which means the governance of the blockchain must be clear and robust. Time will tell if trust is being misplaced or not. And of course, if trust is lost, then the value of cryptocurrency will be lost as well.”

But Ong notes that by agreeing to participate in the EOS blockchain, participants have already implicitly accepted its rules.

“If you are not in agreement with it, you are free to use another blockchain and token. The EOS blockchain by itself is a political system where its ideals are ingrained in its constitution… It is very political in nature [and] there will be more of such situations happening in the future.”

EOS still holds potential

Given the potential of the EOS blockchain, some supporters aren’t willing to give up on it. They see the weeks following the launch as a testing phase.

Anndy Lian, CEO of Singapore-based distributed platform company Linfinity, believes that at the end of the day, the EOS blockchain made the account suspension decisions with its users’ welfare in mind.

“EOS froze those ‘criminal accounts’ to secure and protect people’s property… I believe EOS is doing the right thing.”

Ong observes that having an arbitration process in place ensures that actions will be taken on any suspicious activity. “This means that thieves will not be able to get away with multi-million or billion-dollar hacks to the system.“

“EOS aims to solve scalability at the expense of decentralization. There will be a subset of apps that I believe will grow with the need for less decentralization. All it takes is one dApp on the EOS blockchain to be viral, and opinions will change very quickly,” he concludes.

https://www.techinasia.com/eos-at-risk

Anndy Lian is an early blockchain adopter and experienced serial entrepreneur who is known for his work in the government sector. He is a best selling book author- “NFT: From Zero to Hero” and “Blockchain Revolution 2030”.

Currently, he is appointed as the Chief Digital Advisor at Mongolia Productivity Organization, championing national digitization. Prior to his current appointments, he was the Chairman of BigONE Exchange, a global top 30 ranked crypto spot exchange and was also the Advisory Board Member for Hyundai DAC, the blockchain arm of South Korea’s largest car manufacturer Hyundai Motor Group. Lian played a pivotal role as the Blockchain Advisor for Asian Productivity Organisation (APO), an intergovernmental organization committed to improving productivity in the Asia-Pacific region.

An avid supporter of incubating start-ups, Anndy has also been a private investor for the past eight years. With a growth investment mindset, Anndy strategically demonstrates this in the companies he chooses to be involved with. He believes that what he is doing through blockchain technology currently will revolutionise and redefine traditional businesses. He also believes that the blockchain industry has to be “redecentralised”.

j j j