This might look like yet another one of those badly-run investment companies who got into troubles because of how they did business. After all, after FTX, we saw a number of domino pieces falling one after the other: Genesis, Silvergate, SVB, and so on and so forth.
But, Signature Bank is slightly different. This is why the title of this article mention a “controversy” and not per se a scam, crash, collapse, or anything of that kind. Signature Bank was the last crypto-friendly bank in the United States. Rumors are that the bank was still solvent when shut down by US regulators. Despite their crypto exposure, their main asset were real estate loans, especially concentrated in New York City. So the bank seemed to be pretty well capitalized, and yet… it was forced to shut down their operations. Especially their crypto operations.
So, without further ado, what is the controversy with Signature Bank? And why did they have to shut down their (crypto) operations almost overnight?
Signature: The Real Estate Bank
Despite being crucified for their crypto exposure, Signature became a household name in the financial world thanks to their specialized products for real estate developers and owners. Amongst their most notable customers: Donald Trump and his New York real estate portfolio.
As a matter of fact, Signature Bank was based in New York City and founded in 2000. Their banking business initially focused on small and medium sized business who had limited access to banking services. This included real estate developers, owners, and companies in general. Their real estate branch grew significantly since it was both a way to invest their assets and a way to channel even more deposits towards the bank by working with the real estate owners and moguls à la Trump. This strategy turned out extremely successful. Their assets grew from $ 50 million in 2001, a year after incorporation, to over $ 100 billion dollar in 2023 😳
How Signature Became Crypto’s Best Friend
Signature’s insane growth as a bank is not only a result of their winning real estate strategy. Despite real estate still made up most of their assets (70%), there was a second factor that fueled their growth: the crypto industry.
Signature made their first steps in the crypto industry in 2008, after the Great Financial Crisis. Why? Well, according to founder and CEO Joseph DePaolo, the Great Financial Crisis was a crisis of trust. Bitcoin and a truly decentralized financial world could contribute to eliminate that trust/risk layer by eliminating the “middle men”. In other words, crypto currencies were, and still are, the best example of a means of exchange that is impartial and fair.
Joseph DePaolo positioned the bank as the banking partner for the largest crypto companies in the world. How did they do this? By developing a blockchain-based banking network available 24/7 to their clients. Their network was the Signet.
Signet is a permissioned network build on Ethereum main net. Through Signet, Customers could transfer funds around the world, instantly, at zero transaction fees, and most importantly 24/7.
By 2021, Signature had one thousand crypto companies as customers and processed north of $ 400 billion in transactions per year.
Signature’s Asset Allocation
Signature looked like a well-run bank from what I can gather so far. Differently from their main competitor Silvergate, they only had a 30% exposure in crypo-assets. Moreover, they only held customer deposit in cash. They were not holding any crypto assets, not even as a collateral for company loans.
Signature's Asset Allocation
A sign that their asset allocation was a lot more risk adverse than that of their competitors came after FTX collapse. As a result of that, Signature announced that just 0,1% of their deposits was exposed. In comparison, Silvergate has a total exposure of 10% to FTX and Alameda Research in November 2022!
Regulatory Pressure On The Crypto Industry
As of 2023, US regulators and global financial organizations such as the Financial Stability Board, the Financial Action Task Force, and the Bank for International Settlements started one of the heaviest scrutiny on the crypto industry. The scrutiny is so heavy that in the crypto industry it got the name of “Chokepoint 2.0”. This term was introduced by Nic Carter, partner at Castle Island Ventures, a British investment firm focused on public blockchains.
With the pressure coming from regulators worldwide, Signature announced in December 2022 already that they would scale down their crypto exposure to 10% of their deposit-base. But, instead…
Signature Shuts Down Signet
Boy, that escalated quickly 😑
That bit of regulatory pressure started an inevitable chain of events that forced Signature to shut down Signet and therefore de facto unbanking the US crypto sector. How did we get there?
Despite Signature’s commitment to their clients and despite their commitment to regulators to scale down their crypto exposure, they still got hit by a lawsuit. The regulator sued Signature for having allegedly facilitate commingling of FTX customer funds through their Signet network.
This combination of events led to Signet being shut down leading up to the investigation. More importantly, CEO DePaolo stepped down in the midst of the crisis, indicating something more was going on behind the scenes we might not have been aware of. I suspect this is related to their non-performing real estate portfolio assets. Why? Because real estate portfolios are very sensitive to interest rate movement. However, this remains speculation as I don’t have nearly enough information to understand where the company was financially at this point in time.
What I do know is the following: Signature was the second-largest loan issuers to real estate investors in New York City. Even more importantly, 80% of the loans specifically for commercial real estate projects came from Signature. It is really difficult to estimate how their portfolio was performing at the time they were shut down. But one thing is clear: should Signature default on their clients, this might have a drastic effect on the New York real estate market. In other words, Signature is one of those banks that cannot fail.
Forced Bankruptcy Procedure
Bottom line, Signature was forced to shut down. Or in other friendlier works: restructure. Perhaps not because of ill-management, failed fiduciary duties towards depositors and investors, but because of the implications that a potential default would have on the broader financial system. Remember, here even the entire New York real estate market was at stake. Not only the crypto companies.
What I do find interesting however is what happened during the sale of the company’s assets. The Federal Deposit Insurance Corporation stopped the sale of the company’s crypto business. The Signet is gone for good. Or most likely in the hands of the Federal Reserve.
On the other hand, their banking assets were acquired by Flagstar Bank, one of the largest mortgage servicer in the United States making what is looks like the deal of their professional lives. They acquired $ 38,4 billion in assets, $ 12,9 billion in loan portfolio, and a total of $ 25 billion in liquid securities for $ 2,7 billion. The remaining loan portfolio of $ 60 billion was acquired by FDIC.
Now What?
We clearly have a few obvious winners out of this story. Flagstar made the deal of their professional lives. FDIC added revenues from a $ 60 billion in loan portfolio to their receivables. But what about the many customers in their crypto business? Coinbase and Paxos disclosed they had $ 240 and $ 250 millions (respectively) of their customer funds and reserves at Signature. Apart from that it is not yet clear how big the impact is and whether companies have found a way to move away funds before it was too late.
A few things are clear in this whole story.
- Crypto companies are de facto unbanked in the United States. There is obviously more countries than just the US, but the US remains the largest market in terms of project, venture capital, development, and overall adoption. So all eyes on the European Union (UK included) next. April 18th will be an interesting day to keep an eye on, as the European Union will announce their draft regulations updated after FTX collapse.
- The crackdown will further target stable coins and stable coin issuers.I guess Paxos, BUSD issuer, will be up next given their large exposure to Signature that will raise question on their peg to the USD and overall approach to liquidity and reserves. The crackdown will be initially contained to the United States which means that Tether’s USDT is for now the safest stable coin. This is good news for the crypto market, because USDT is by far the most used stable coins for crypto markets, while USDC and BUSD are used for decentralized finance and economic transactions.
- Possible crypto-friendly countries left, which will most likely not follow the Financial Stability Board’s regulations, are the Middle East and Asia.
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Disclosure
These are unqualified opinions, and this newsletter, is meant for informational purposes only. It is not meant to serve as investment advice. Please consult with your investment, tax, or legal advisor, and do your own research.
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