Silvergate Capital (SI), a $5.6 billion asset bank that specializes in serving cryptocurrency clients, has experienced astounding growth since going public at the end of 2019. Currently trading at more than $160 per share, Silvergate is up more than 1,100% since its initial public offering. The bank currently trades at more than 700% tangible book value.

With such a fast start in its early life as a public company, can Silvergate continue to be a great growth company? The answer is complicated, so let's take a look.

First-mover advantage

Growth stocks are supposed to outpace their peers in terms of earnings and stock price appreciation, primarily because they have a competitive advantage in the industry they are in and/or huge potential. Silvergate certainly meets this criteria.

Several years ago, management believed that cryptocurrencies like Bitcoin (BTC 1.42%) would one day be an investable asset, so the bank built its own in-house payments system called the Silvergate Exchange Network (SEN). SEN is a real-time payments network that can clear transactions in U.S. dollars instantly around the clock, 365 days a year, between two users in the network. This is ideal for institutional crypto traders and crypto exchanges because cryptocurrencies trade around the clock.

Picture of bitcoin symbol

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The launch of SEN gave Silvergate a first-mover advantage. The bank has onboarded more than 600 institutional investors, 76 digital currency exchanges, and 286 other customers in the crypto space onto SEN. Parties have to be on the network to transact with one another, so as the network grows it only gets more attractive for others to join. Silvergate executives said they had more than 200 potential clients in their pipeline for SEN at the end of 2020.

SEN has helped make Silvergate very attractive from a bank investing standpoint. The clients on the network bring in large amounts of non-interest bearing deposits that the bank doesn't have to pay anything out on. At the end of 2020, non-interest bearing deposits made up nearly 98% of the bank's total deposits, and the bank's cost of total deposits was 0.01%. These numbers are really unheard of in the industry even in this extraordinarily low-rate environment. SEN is also a good generator of fee income.

Not without risk

Silvergate definitely still has tons of untapped potential. It's going to keep adding new clients to its network, which will continue to drive revenue. It also has a new loan product called SEN Leverage, which is a line of credit in U.S. dollars collateralized by Bitcoin. That product is in early stages and already off to a great start. The bank has also said that rolling out new products to its cryptocurrency client base is part of its strategy, so I certainly think the bank will be able to continue to grow revenue and profitability from here.

But when evaluating Silvergate as a growth stock, understand that there is risk. With each passing day, cryptocurrencies become more mainstream and get closer to becoming ingrained into the traditional financial system. As more institutional traders get involved, banks that do business with these traders are taking notice. Signature Bank and JPMorgan Chase seem to have designed similar real-time payments solutions targeted at the crypto community. Recently, Bank of New York Mellon said it would begin holding and transferring digital assets in the same way it does with bonds and stocks. While Silvergate has the first mover advantage, these are all bigger banks with way more resources.

There is also a growing wave to make real-time payments part of the U.S. financial system. The Federal Reserve is in the process of building its FedNow real-time payments system that would be accessible to financial institutions of every size. The Fed is targeting a 2023 release date.

It's uncertain how much of a threat FedNow might be toward SEN. There is already a real-time payments network in operation called the RTP that many banks, both small and large, have already joined. However, transactions on RTP are limited to $100,000, so I doubt that it is much of a threat to SEN because I would imagine that institutional investors are doing far larger transactions.

And by 2023, SEN will likely have already built up its network greatly, and will be offering more tailored crypto products to its clients that make it much more appealing. But it will be interesting to see how every bank having access to real-time payments might affect Silvergate's growth.

Can it be a growth stock?

Silvergate has a lot of the qualities of a growth stock and is in the early stages of growing its business. But its current valuation is extremely high. It's also a small bank and may need to raise capital down the line. Silvergate actually just recently successfully issued common stock and has plenty of capital right now and plenty of room on its balance sheet for loan growth. However, if it keeps growing like gangbusters, it may need to raise equity down the line, which then dilutes shareholders. 

The company may also be volatile in the short term along with the prices of Bitcoin and other cryptocurrencies, because so much of its business is tied to the usage of these digital assets. I believe the company will continue to grow earnings, and I certainly like the stock, but it will likely be hard to sustain the type of appreciation that the stock has seen over the last six months.