The crypto winter has not been friendly to the crypto bank Silvergate Capital (SI -20.00%), with the stock now down more than 60% after a parabolic run during 2020 and 2021.
But the stock got a nice vote of confidence recently when legendary value investor Bill Miller, who runs the Miller Value Partners fund, announced that he purchased Silvergate in the third quarter. While we don't know exactly how much the fund purchased, Miller did say it was the fund's largest new stake in the quarter. Let's take a look at why Miller likes Silvergate and if he's onto something big here.
A high-growth crypto business
Silvergate Capital is a licensed bank regulated by the Federal Deposit Insurance Corporation, but it's far from your traditional lender.
Silvergate was the first bank to develop a real-time payments system called the Silvergate Exchange Network (SEN) specifically intended to better facilitate crypto trading between institutional investors and crypto exchanges. Because cryptocurrencies never stop trading and the U.S. banking system doesn't operate in real time, Silvergate is solving a big pain point for these exchanges and traders.
Image source: Getty Images.
Additionally, these exchanges and traders set up bank accounts with Silvergate when onboarded to SEN and bring lots of non-interest-bearing deposits to the bank. These are deposits the bank doesn't have to pay any yield on, essentially serving as a free source of funding it can invest into higher-yielding interest-earning assets.
Miller came to notoriety when he beat the S&P 500 for 15 years in a row as manager of Legg Mason Value Trust. He got caught holding bad investments in Bear Stearns and AIG during the Great Recession but has come roaring back in recent years. Miller also claims to be one of the largest individual shareholders in Amazon, having taken a massive position in the company in his personal portfolio during the Great Recession. Miller has also been a big believer in Bitcoin and had reportedly put half of his personal portfolio into the digital asset, as of the beginning of this year.
One of the reasons Miller likes Silvergate is because he thinks it will become "the partner of choice for both exchanges and institutions in this rapidly evolving market." After all, Bitcoin seems to get adopted into the mainstream financial system more and more each day, with more Wall Street banks adding crypto financial services. Silvergate does have the first-mover advantage in the space and is continuing to add a healthy stream of customers to SEN despite some deposit outflows and less SEN volume due to the subdued investing activity in the space right now. Silvergate is also planning to eventually roll out a U.S. dollar-backed stablecoin, which management has delayed several times, but could be a significant driver of future deposit and revenue growth.
Finally, Miller notes that most of Silvergate's assets are floating rates and being funded by deposits that don't cost the bank any money. This makes the bank a huge beneficiary of higher interest rates because it will increase the bank's margins as yields rise on the assets Silvergate invests in. Although a crypto winter hasn't been good for the stock and could continue to be challenging, Silvergate's profits have surged this year, which makes it a rare crypto stock that does actually benefit from higher rates.
An attractive entry point
As a value investor, Miller sees a big opportunity here, noting that the market rarely affords the opportunity to invest in a company growing revenue at a 40% compound annual growth rate, while trading at 13 times this year's earnings and only 8 times forward earnings.
I would have to agree with Miller here. Silvergate offers good exposure to crypto without actually holding any digital assets on its balance sheet.
Silvergate also offers the stability of a bank that can hedge inflation under more normal scenarios when the Fed isn't doing large rate hikes every month. When Bitcoin inevitably bounces back, which I think it eventually will, Silvergate will be in a prime position to take advantage.
