Investors have experienced a roller coaster of emotions in the market this year. The S&P 500 got off to its worst first-half start to a year in over 50 years. Then, in about the past month, the index has rallied 16% off its recent June lows.
One stock moving higher in that time is Silvergate Capital (SI -8.00%), the bank serving cryptocurrency customers. Investors poured into the stock following a stellar quarterly earnings report -- and analysts think it could soar further from here. Here's why.
Silvergate is an early-mover bank helping cryptocurrency customers move money
Silvergate Capital began serving cryptocurrency customers as early as 2013, before most people knew what a Bitcoin was. The company leveraged its position as a traditional bank and helped cryptocurrency customers navigate a murky regulatory environment.
One of its earliest products was the Silvergate Exchange Network (SEN), a money transfer network that allows cryptocurrency exchanges -- like Coinbase Global and Gemini -- to transfer U.S. dollars between one another efficiently. The bank also offers loans to customers who put up Bitcoin as collateral through its SEN Leverage product.
Why Silvergate welcomes higher interest rates
Persistent inflation and interest rates rising with each Federal Reserve meeting have weighed on risk assets this year. Since the start of the year, popular cryptocurrencies like Bitcoin and Ethereum have lost over 53% of their value.
Silvergate Capital tends to experience fluctuations in its earnings when these assets lose value, and at one point this year, the bank was down 65% year to date. However, Silvergate is in an exciting position where it can benefit from interest rates rising or falling.
For example, although cryptocurrency prices have fallen across the board, Silvergate's net income has grown 80% from last year. This is because of Silvergate's massive balance of non-interest-bearing deposits from its crypto customers.
Silvergate has $13.4 billion in non-interest-bearing deposits, or 99.5% of its total deposits. Silvergate invests this cash in a conservative portfolio of cash and short-term securities so it can benefit from rising interest rates. And since most of these are non-interest bearing, it doesn't pay out increasing interest rates in deposits like most other banks.
In the first half of the year, Silvergate's net interest income grew 126% to $121 million. In its recent regulatory filing, the bank said a 1% increase in interest rates would cause net interest income to increase another 15.7%, and a 2% increase in rates would cause net interest income to increase 31.3%.
Why the bank could benefit when rates go down, too
Silvergate has seen the dollar trading volume on its platform fall this year, causing its transaction revenue to drop 22% in the second quarter compared to last year. This is due to Bitcoin's lackluster performance this year, which could be attributed to rising interest rates, as they impact the prices of riskier assets.
Some investors believe the Federal Reserve could cut rates next year to support a weakening economy. If that were to happen, it would likely be a positive for risk assets like cryptocurrencies, and could increase the prices and trading volumes in these assets -- benefiting Silvergate's SEN product and likely leading to increasing transaction revenue for the growing business.
Here's what analysts think
Analysts covering Silvergate are optimistic. BTIG Research, a research and investment firm, recently initiated a buy rating on the bank with a price target of $135 -- a 36% upside from Silvergate's closing price on Aug. 18. Earlier this year, Bank of America Securities initiated a buy rating with a $200 price target -- a 102% upside.
Silvergate Capital is in a unique position in the crypto industry where it can benefit from rising rates, which typically hurt other crypto businesses. This gives the bank resilience in different economic environments. While its ties to crypto could make it more volatile, I think Silvergate is one of the best stocks you can own in the space if you are willing to hold it for the long haul.