Banks are turning away from crypto companies amid regulatory moves that threaten to separate digital currencies from the real financial system.
Banking regulators are concerned about banks' involvement with crypto clients after last year's Sam Bankman and Freed debacle at FTX. The SEC is cracking down on the biggest players in the industry in a crackdown that could reduce their spread. People familiar with the matter said the move alarmed bankers who did not want to do business with clients under the eyes of the SEC.
Bankers are now overestimating any impact on the crypto sector, however small, according to people familiar with their thinking. A number of small banks that have ventured into the crypto space are reducing their presence in the market or severing their ties altogether. Banks that have distanced themselves from cryptocurrency are doing more to distance themselves by closing accounts and removing clients with industry ties.
The Metropolitan Commercial Bank of New York recently announced that it is winding down its cryptocurrency business, citing significant changes in the regulatory environment. Signature Bank has ended its relationship with the largest crypto exchange, Binance. The lender, one of the leading banks in the cryptocurrency space, began cutting ties with cryptocurrency depositors late last year.
Repression crushes crypto companies. Although this sector represents an alternative to banks, these companies still rely on banks to link the financial system to hard currencies such as the dollar and the euro. Without banks, it would be difficult for cryptocurrency companies to pay their employees and allow their customers to deposit and withdraw cryptocurrencies.
"It's very difficult to run a company if you don't have a bank account," said Scott Shaw, President of Signature.
A few years ago, when Bitcoin was gaining popularity, it was difficult for cryptocurrency companies to open bank accounts. A handful of smaller lenders opened their doors to compete with big banks for dollar deposits, often only for the largest cryptocurrency operators they thought were the safest.
These banks do not deal with digital currencies. Instead, they offer corporate accounts to crypto companies. Some, like Silvergate Capital Corporation , have built specialized networks to enable transactions between large investors and cryptocurrency trading.
For some time, banking regulators have been suspicious of cryptocurrency activity. In 2020, the Office of the Comptroller of the Currency said it would allow banks to store cryptocurrencies for customers.
Regulators changed course after the FTX fiasco. In January, three major banking regulators warned that banks were concerned about their crypto relationships. Regulators said there were "serious security and reliability issues" and questioned whether the industry was safe for banks.
“A red light went out and basically said, ‘Banks, if you're going to approach the crypto sector, we're going to be watching you closely,'" CEO Thomas Vartanian said. Center for Fintech and Cyber Security. “Ultimately, banks have to ask themselves whether it's worth getting worse.”
Regulators generally do not tell banks that they cannot do business with customers who are doing legitimate business. Instead, they classify customers as high-risk customers through regular public disclosures so that they are not exposed to undue risks. Then banks often decide those customers aren't worth the regulatory headaches and shut them down.
Citigroup Inc. Swann's Bitcoin account was abruptly closed last November, leaving the Bitcoin trading platform's CEO, Corey Clipston, to struggle to pay the salaries of his 100 employees. He said investment bankers at Citigroup who had offered to work with him tried to intervene but failed. Shortly thereafter, according to Mr. Clipston, his personal accounts with Citigroup closed. He said he was never given an explanation.
Matthew Homer, a former entrepreneur who advises and now invests in crypto companies, said clients are struggling to get bank accounts. A First Republic spokeswoman told Homer that the bank would avoid cryptocurrency-related businesses. Homer said that banking startup Mercury asks if the company is crypto-related during the registration process.
A Mercury spokeswoman said it was conducting more due diligence on these companies due to unregulated circumstances. A spokeswoman for the First Republic declined to comment.
Signature is the most famous bank to leave the cryptocurrency market. Every year starting in 2022, 27 percent of the $109 billion in deposits came from customers using digital assets. Last year, the bank announced plans to reduce the deposit share of cryptocurrency trading to below 15 percent and limit the amount of deposits from any individual cryptocurrency customer.
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Chief Executive Officer Joe DiPaolo said regulators weren't asking them to back down, but that the bank is "good at what we do".
He and Mr. Xu, the bank's chairman, said they have no regrets about getting into cryptocurrency, though they now spend a lot of time reassuring clients about their exposure to other industries. Cryptocurrency customers are finding the blockchain technology behind the popular payment network relevant to companies such as payroll providers and freight forwarders.
Some banks are also sticking to cryptocurrency.
Silvergate bets on cryptocurrency and has no other source of income like signatures. The bank lost cryptocurrency deposits in the last quarter of the year and is cutting jobs to cut costs. SilverGate says it is committed to serving crypto companies.
But the door to new members is closed. Each year from the OCC to early 2021. The two institutions had difficulties obtaining pre-approval for banking licenses. Paxos National Trust and Protego Trust Co. They applied to create banks that store crypto assets for customers and facilitate trading.
Protego's conditional charter has recently expired. "He continues to work constructively with the OCC," Paxos said in a statement on Twitter.
— Mingqi Sun and Justin Baer contributed to this article.
Email Rachel Louise Ensign at Rachel.Ensign@wsj.com and David Benoit at David.Benoit@wsj.com.
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