The collapse in the stock price of crypto bank Silvergate marks the decline of yet another industry giant since the FTX debacle. Crypto watchers hoping it can’t get any worse may have one market trend on their side.
”Bankruptcy and fraud enforcement – people tend to see those potentially as bottom signs,” a hedge fund manager and short seller told DL News. The fund investor has been watching market developments, but does not have any positions in crypto names.
“On one hand, from a classic perspective, this is a time when you’re looking at what and how to buy,” the hedge fund manager said.
And yet, on the other hand: “If I’m an American, I would not want any crypto exposure that has any nexus in the US.”
The investor is referring to the US regulatory crackdown, which has mounted in recent weeks with Securities and Exchange Commission Chair Gary Gensler slapping actions on Kraken and Paxos. Fears are spreading that such watchdog moves are only the beginning.
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Firms including Coinbase, Paxos and Crypto.com have halted dealings with Silvergate amid worries about the crypto banker’s books and its links to FTX and its sister firm Alameda Research. The jitters sent the shares plunging more than 50% on Thursday.
At the time of its share price collapse, Silvergate was among the most shorted stocks in the US, with short interest above 70%. That means that more than two-thirds of the outstanding shares are sold short.
George Soros is among big investors who may have racked up returns from his fund’s short bet on the stock.
A short seller borrows a company’s shares, sells them in the market, then returns them when the share price falls. The short seller then pockets the difference.
The strategy is risky – while long investors can lose only their initial position, short sellers face share spikes that can exceed their short investments. Another risk for shorts: A stock lender can recall the borrowed stock at any time, forcing the short seller to close the position.
“Is there a chance you get recalled? That’s the worst outcome. The risk of recall is particularly acute when short interest is high, and cost of borrow can be higher,” the hedge fund manager said.
That is playing with fire
Anyone looking to profit off of Silvergate must contend with “both a bank and fraud allegations – that is playing with fire.”
One of those dangers may include Silvergate’s popularity with retail investors, who have in past years burned short sellers by piling into high short-interest names including AMC and GameStop.
The short seller called this a “dash-for-trash risk.”
“High-short-interest stocks were on fire in February. There are concerns, even if you think it’s a zero, what path do you take before you get there?”
Even as recently as Thursday – while Silvergate shares were in freefall – retail investors encouraged peers to squeeze short sellers by buying shares.
Silvergate potentially going bankrupt, pushing prices down a bit more.— Michaël van de Poppe (@CryptoMichNL) March 2, 2023
On the other hand; people piling into positions since the news and no real movement on #Bitcoin.
This might be an assumption people are heavily skewed to the short side here.
Time for a squeeze.
The hedge fund manager opts to stay away from crypto for now. “I put crypto in the too-difficult bucket. In any industry I think, ‘Is this in the too-difficult pile?’ I like to have a black-and-white view. But when it’s grey, I don’t want to waste time.”
Silvergate was contacted for comment.