Ultimate Resource On Crypto Custody (#GotBitcoin?)
Cryptocurrency custody provider Legacy Trust is launching one of the first digital assets-based pension plans. Custody Provider Legacy Trust Launches Crypto Pension Plan (#GotBitcoin?)
The Hong Kong-licensed firm announced on Wednesday that the scheme will be on offer to both employees of participating firms and the self-employed, and will offer an underlying portfolio that includes cryptos as well as fiat currencies. It’s also expected to appeal to crypto investors.
Legacy Trust CEO Vincent Chok Said:
“We envisage that this will appeal to businesses who are active in the digital assets space, and who want to offer additional benefits to their employees to retain talent and recognise achievement. What better way to drive employee loyalty while allowing valuable staff to participate in the growth of the company and the digital asset space?”
The plan will be funded by either voluntary contributions or deducted directly from an employees salary. The pension will be paid out after retirement of the scheme member, or to beneficiaries in the event of their death.
Legacy Trust said the plan “addresses various tax concerns for digital assets holders,” though it did not offer any details.
In March, the firm partnered with hardware wallet maker Ledger to offer “institutional-grade” cryptocurrency custody.
By utilizing Ledger’s multi-signature cryptocurrency wallet management product Ledger Vault, Legacy Trust said at the time it would be able to “securely and efficiently” custody clients’ digital assets, such as bitcoin and ethereum-based ERC-20 tokens.
Winklevoss’ Gemini Crypto Exchange Launches Custody Service
The New York-based cryptocurrency exchange Gemini, founded in 2014 by twin brothers Cameron and Tyler Winklevoss, has launched its own custody service, Gemini Custody.
In a press release shared with Cointelegraph on Sept. 10, Gemini states that the newly launched custody solution will allow its customers to check balances, download account statements, initiate withdrawals, and grant auditors view-only access to confirm balances, transactions and activity.
Customers will also be able to trade their assets in custody on the Gemini exchange without waiting for them to be transferred from cold storage.
18 Supported Assets
Gemini Custody reportedly supports 18 cryptocurrencies including Bitcoin (BTC), Bitcoin Cash (BCH), Ether (ETH), Litecoin (LTC), Zcash, as well as the following ERC-20 tokens: 0x (ZRX), Augur (REP), Basic Attention Token (BAT), Bread (BRD), Dai (DAI), Decentraland (MANA), Enjin (ENJ), Flexacoin (FXC), Gemini dollar (GUSD), Kyber Network (KNC), Loom Network (LOOM), Maker (MKR) and OmiseGo (OMG).
CEO of Gemini Tyler Winklevoss said that the much-needed maturation of crypto as an asset class depends on custodial security. He added,
“From day one, Gemini recognized the need for a world-class custody solution that is secure, compliant, and easy to use for individuals and institutions around the world.”
Jeanine Hightower-Sellitto, managing director of operations at Gemini explained that institutional investors have demonstrated a clear and growing demand for crypto, but that some struggle to find a solution that fully meets complex regulatory and security requirements.
Tyler and Cameron Winklevoss recently said that they are open to partnering with Mark Zuckerberg on Facebook’s Libra stablecoin project. Cameron argued that Libra represents a step forward in the mass adoption of cryptocurrency.
Beyond Storage: How Custody Is Evolving to Meet Institutional Needs
The last few years have seen the formation of many crypto-focused hedge funds and venture capital funds, whose collective assets under management total in the billions of dollars: institutional investors including Blockchain Capital, BlockTower, Paradigm and Polychain, among others. These funds know the blockchain ecosystem as well as anyone in the world.
We’re grateful institutional investors who know crypto best are helping to inform the development of our custody product. Clients tell us what they need, and we partner with them to build what they require. Through this process, we’ve learned some lessons worth sharing because they offer meaningful insight into the crypto space and how it’s evolving.
1. Institutional investors want more from their custodian
Because digital assets are bearer assets, most investment activities involve handling the underlying private keys. This means custody plays a much bigger role in crypto investors’ day-to-day operations than in traditional finance. Whatever investors want to do with their assets – buy and hold, exit a major position, actively trade, participate in staking and governance – the custodian will be involved.
As such, institutional investors want custodians to make buying and selling digital assets as easy and painless as possible. What’s typically a multi-step process, including navigating exchanges and OTC dealers, finding the best price, manually transferring crypto from or to custody, is ripe for disruption by custodians. Regulated trading involves custody and custody relies on technology, which means providing even simple financial services (like the ability to buy, hold and sell an asset) requires highly advanced underlying infrastructure in the custody function.
Funds and institutions should be able to focus on their investment strategies without having to worry about security or moving millions of dollars in crypto between addresses. The onus is on custodians to enable their clients to sell or buy directly through custody.
2. Cold storage isn’t working for institutional use cases
Institutional investors are painfully aware of the major hot wallet breaches our industry has suffered and the chilling effect they’ve had on the whole ecosystem. To counteract the risks of online exposure, custodians have attempted to secure assets by generating and managing keys entirely offline through a manual human process called “cold storage.” Holding assets offline is necessary for security purposes, but institutional investors are frustrated with cold storage as it has traditionally been implemented.
Questioning the practicality of cold storage is not something we at Anchorage take lightly: As project leads for the Glacier Protocol, my co-founder and I helped develop a step-by-step method for bitcoin self-custody that relies on cold storage. Cold storage has been instrumental for the broader adoption of decentralized currencies, allowing people with non-technical backgrounds to safely store their crypto assets offline. It was and continues to be a sensible custody solution for many retail investors.
But cold storage comes with serious usability constraints, and institutional investors have complex usability needs that cold storage simply cannot satisfy.
For one, institutional investors have an obligation to their LPs to generate as much yield as possible on their behalf. Cold storage is an impediment to institutions’ ability to quickly execute trades. When a time-sensitive trading opportunity arises, custodians must be able to ensure that a client’s assets are readily accessible for trading at a moment’s notice. Traditional forms of cold storage can entail hours or even days of waiting to withdraw assets, at which point trading opportunities are lost. Institutional custody providers must develop solutions that make offline assets easily accessible and securely tradeable.
Second, institutional investors are demanding staking and governance, two forms of on-chain participation that require the use of private keys for online operations. Some cold storage custodians rely on delegation and proxy contracts, technologies that enable one key or contract to act on behalf of another. But not all projects allow delegated staking, and proxy contracts can increase surface-of-attack and introduce unnecessary risk.
As more projects come to market with mechanisms requiring active participation, institutional investors, which have a major stake in their investments’ health and success, will rely on their custodians to act accordingly and get the most out of their holdings.
3. Institutional investors require solutions designed for multi-person teams
The fact that institutional funds are managed collectively presents its own set of challenges. While “not your keys, not your crypto” has become a common refrain among adherents to the value of self-sovereignty, which individual should ultimately control crypto keys owned by an institutional fund?
We believe the keys must be controlled by a multi-person team. Providers are using different solutions to achieve this result: some use Shamir’s Secret Sharing (a cryptography algorithm that divides keys into multiple parts), others use physical controls. We at Anchorage associate a unique key with each user and require all sensitive operations to be signed by a quorum of user keys.
But multi-person approval is only part of the solution. The custodian must verify institutional intent – in other words, the custodian must ensure that a given operation represents what the client organization wants to do, and not just what a rogue individual or rogue group wants to do. We believe institutional intent is best verified by authenticating each human approver for a given operation, not just verifying possession of a shard or user key; and by enabling institutional investors to configure customizable quorums based on the nature of the operation, since different team members may have different domains of authority.
In sum, the role of custodians is evolving as the crypto ecosystem matures.
Institutional investors have different needs than retail users, while new coins that offer staking and governance demand on-chain participation. If the first wave of custody solutions was designed to help individuals hold and trade bitcoin, then the second wave will be trained on satisfying the needs of institutions and enabling full participation in all cryptocurrencies.
Hawaii Introduces Bill Authorizing Banks To Offer Crypto Custody
The Hawaii State Senate has passed the first reading of a bill authorizing banks to hold digital assets in their custody.
The bill was introduced on Jan. 17 by five state senators, including the only Republican member of the Senate, Kurt Fevella. It passed the first reading on Jan. 21 and was then referred to the committees on Judiciary and Commerce, and Consumer Protection and Health on Jan. 23.
The bill specifies the set of provisions which a bank must adhere to in order to provide custodial services for digital assets. Custodial services cover “the safekeeping and management of customer currency and digital assets through the exercise of fiduciary and trust powers under this section as a custodian and includes fund administration and the execution of customer instructions.”
In order for a bank to qualify as a crypto custodian, it has to adhere to certain standards regarding accounting and internal controls, maintain IT best practices, and comply with federal Anti-Money Laundering and Know Your Customer requirements.
Attempt To Provide Legal Certainty For Digital Assets
In addition to opening up bank regulations to include cryptocurrencies, the proposed law would classify digital assets under the Uniform Commercial Code — a set of federal laws in the United States that aims to provide uniformity in legislation surrounding sales and commercial transactions in the country.
Digital assets would then further be sub-categorized as either digital consumer assets, digital securities, and virtual currencies. All are classified as intangible personal property.
Furthermore, the bill specifies the manner of perfecting a security interest in digital assets and discusses various methods such as smart contracts and multi-signature arrangements.
The proposed legislation also authorizes courts to hear claims relating to digital assets.
With digital assets, their security interest, and bank custodial services defined, the state courts are also given jurisdiction to hear claims in both law and equity regarding digital assets.
Hawaii Loosening The Reins On Cryptocurrency
Hawaii has previously imposed strict requirements on firms dealing with cryptocurrency, causing the Coinbase exchange to cease its operations in the state almost three years ago.
If passed into law, this latest bill would not only give some clarity to classification of digital assets, bringing it in line with several other states. It would also set out a framework by which any compliant bank can act as a crypto custodian, which would potentially see Hawaii take a lead over many states in regulating this aspect of the cryptocurrency industry.
Coinbase Launches International Cryptocurrency Custody Arm
Major United States-based cryptocurrency exchange Coinbase has established an entity in Ireland to expand its crypto custody services to European institutions.
According to a Coinbase announcement published on Jan. 30, the new entity is called Coinbase Custody International and is based out of Dublin.
The firm’s services will be the same as those provided by Coinbase Custody in addition to taking over all the staking activities performed by the exchange.
Coinbase Custody initially began offering staking for select cryptocurrencies in March 2019, and expanded that service to international the following November.
The Advantages Of A Local Operation
While Coinbase Custody has been serving European clients in the United Kingdom, Switzerland, Germany, Finland and the Netherlands since 2018, a new dedicated entity allows for completely localized service.
Per the announcement, this will bring the advantages of local staff, localized service-level agreements and clearer compliance with EU law:
“Europe is our fastest growing geographic segment and our international launch is a direct result of client demand. By offering our services from the same region in which our clients are located, it’s our goal that they will benefit from greater legal and regulatory clarity.”
Coinbase also said that, over the coming months, it plans to add support for more cryptocurrencies and features to its international custody service.
Furthermore, Ireland boasts some of the lowest corporate income tax levels in Europe which, despite the protestations of lawmakers to the contrary, has earned it a reputation as a tax haven. Indeed, the country has the third-lowest corporate income tax rate among OECD countries as of 2019.
Growing Demand For Custody
As cryptocurrencies solidify their position as a new financial asset class, demand for services such as crypto asset custody is increasing.
Rohan Barde, a research and innovation manager at industry expert association Blockchain Zoo, explained that custody services are needed to attract institutional investors who wish to reduce risk and comply with regulatory standards.
The ‘Great Lockdown’ Is Boosting Demand For Bitcoin Custody Solutions
Thanks in part to the uncertainty of the coronavirus crisis and rising bitcoin prices, bitcoin wallet startups have seen a sudden uptick in activity.
For example, over the past two months the Austin, Texas-based bitcoin startup Unchained Capital, with over $50 million in assets under management and $150 million worth of bitcoin transactions processed, garnered several dozen new institutional clients, representing hundreds of individuals. Will Cole, Unchained’s chief product officer, said the custody product Vault saw 340% growth in Q1 2020 as compared to the previous quarter.
“We’ve seen a big uptick in the creation of Vaults,” Cole said. “An event like that [pandemic] makes people think about how they are storing their bitcoin.”
Unchained is working on a wallet update with new privacy features. It allows users to sort UTXO (unspent transaction output) information, which makes it possible to reveal less information about oneself to an external recipient, even while using a public blockchain.
Unchained adviser Christopher Allen, founder of the not-for-profit benefit corporation Blockchain Commons, said the industry still doesn’t have clear terminology that distinguishes the Vault custody solution, where both Unchained and the client have keys to a multisig wallet versus wallets where only the user holds keys. Regardless, there appears to be increased interest in wallets where users hold keys, in some form.
“Custody requires keys that are under your control or under collaborative custody with others. But it isn’t self-sovereign if they can unilaterally block your recovery,” Allen said. “There are many other companies and teams involved who all desire to make multisig easier, more standard, and allow you to choose different approaches or implementations knowing that you are not locked into a single solution.”
Such setups, like Vaults, make sense for companies and families that want to manage significant funds without a single person being in control of the wallet.
These days many of the industry’s large wallet businesses appear to be growing, in terms of both profits and users.
For more private options geared toward individual users, ShapeShift CEO Erik Voorhees said there are far more people using his software wallet solution this year. As such ShapeShift, acquired the Israeli wallet startup Portis for an undisclosed amount in April. This decreased the company’s compliance risks and solidified its position in the industry’s self-custody sector, slightly less lucrative than custodial crypto exchanges yet growing at a comparable rate.
“This is the first recession the world has seen since cryptocurrency existed,” Voorhees said. “We want people to think of ShapeShift as the self-custody interface for all the various crypto services out there.”
Like ShapeShift, Ledger CEO Pascal Gauthier, whose startup is scaling up to meet increased demand for hardware wallets, said his wallet will also allow users to do “all the complex things you can do with a coin” directly through the Ledger Live app.
“We do see an increase in downloads of Ledger Live, our hardware wallet companion app, as we are adding more coins,” Gauthier said. “Nowadays, our main revenue comes from the hardware wallet business. … Our revenue model will evolve to one-off revenues, transactional and recurring revenues thanks to additional services.”
After several years of operation, many incumbent crypto companies now feel pressure to deliver returns for investors. It’s unclear which business models will best suit the crypto economy.
“Every day I think about acquisitions for a minute, then decide against it,” Gauthier said. “Ledger has enough money in the bank, a good business. …There’s a question about where this industry is going and what does that mean for the future.”
Unchained Capital earns revenue from clients who pay for the multisig Vaults or loan services associated with its open source wallets. The startup relies on subscriptions from a small number of wealthy clients for profits, even if it also serves less-lucrative retail users. On the other hand, ShapeShift profits from in-app referrals to exchanges and other services.
Voorhees said he acquired Portis because the startup’s tech allows for a familiar login, akin to Facebook Login, but where users need to actually remember their passwords.
Stepping back, Portis was founded in 2018 and attracted the attention of legendary Israeli tech investor Eddy Shalev. The Block reported Portis nearly shut down in Q1 2020, since co-founder Itay Radotzki quit in January and eight employees were subsequently laid off. Portis co-founder Tom Teman said the venture capital climate changed dramatically in 2020, a sentiment echoed by veterans across the industry, that investors are increasingly demanding revenue from the start.
Yet, a former Portis competitor, Fortmatic CEO Sean Li, said his user-friendly login startup isn’t taking ShapeShift’s approach because he doesn’t “think any business should see themselves as a portal that owns everything in it.” As such his revenue model is business-to-business, rather than monetizing user activity. Li estimated nearly 5,000 developers now use Fortmatic for gateways to their various projects, so his early-stage startup is still on track to make more than $500,000 in revenue this year.
“This prevents the next Facebook or Google situation where one account is associated with a lot of different applications, compromising user security and privacy,” Li said.
On the other hand, Casa CEO Nick Neuman said his subscription-based startup saw an “influx of new clients” since the beginning of March, with a “50% increase in total” bitcoin usage. Like Unchained Capital and other subscription startups above, Casa is primarily focused on bitcoin.
“We’re definitely seeing increased demand for self-custody since the coronavirus crisis began,” Neuman said.
And where there is demand, there is opportunity.
Bitfinex Launches Institution-Grade Custody Services With New Koine Partnership
Bitfinex cryptocurrency exchange has partnered with London-based digital asset custodian Koine to roll out institution-grade custody and post-trade services.
Bitfinex cryptocurrency exchange has partnered with London-based digital asset custodian Koine to roll out institution-grade custody and post-trade services.
On May 13, Bitifinex announced that Koine would be providing the exchange with a series of services that can help professional traders to mitigate the counterparty and settlement risks associated with cryptocurrency trades.
Bitfinex, which caters some of its offerings to professional clients by supporting algorithmic and over-the-counter trading, claims the new suite of services will help to encourage institutional participation in crypto markets.
Koine’s Storage Model Is Neither “Hot” Nor “Cold”
Speaking to Cointelegraph, Phil Mochan, founder and head of strategy and corporate development at Koine, explained how its security model for crypto-asset custody works.
Instead of following the established procedures for either “hot” or “cold” crypto-asset storage, its solution uses three separated pieces of technology, dubbed “Digital Airlocks” as they function similarly to physical airlocks:
“Digital assets enter an outer airlock which might conventionally be called a hot wallet but we refer to as a transit account, as the funds are only held there momentarily before moving to the second airlock, when they are dematerialized onto a separate digital ledger and then transferred into a third airlock which is the vault for assets at rest.”
Noting that the external airlock is still vulnerable to attack, just as a conventional hot wallet would, Mochan stressed that the difference lies in the fact that “the median balance held there is nil, and we are insured for when it isn’t.”
Moreover, the whole process apparently occurs within a “sub-millisecond time frame” and relies primarily on hardware, rather than software.
Blockchain’s “Single Source Of Truth” Removes The Need For Post-Trade Reconciliation
Aside from this approach to secure custody, Koine’s technology is designed to be almost wholly automated, without relying on human intervention, and can purportedly handle over 200,000 transactions per second.
Koine’s post-trade services are designed to remove the need for manual processes by removing blockchain assets from the trade cycle through a process of dematerialization.
Traditional markets — like those for equities and bonds — often dematerialize assets as well, he noted, yet they continue to use a multi-tiered trade model that demands intensive work on reconciliations.
By contrast, Koine’s delivery-versus-payment (DvP) solution uses a distributed ledger as a single “source of truth,” which Mochin likened to the model used by conventional central securities depository entities but without their multi-level custody structures.
Lastly, Koine’s service ensures continuous legal ownership of all crypto assets and (digitalized) fiat currency by custodying all assets involved in trades within a segregated ownership model:
“When a client wants to trade, then Koine locks the collateral of each side of the trade […] before trade execution occurs. This collateral locking is in a sub-millisecond time frame. Post-trade, upon receipt of the settlement instruction from the exchange, Koine conducts a DvP in sub-millisecond time frame.”
Speaking to Cointelegraph, a Bitfinex representative revealed that Koine and Bitfinex are also building an integration that would “enable Koine customers who are also Bitfinex customers to obtain a line of credit on Bitfinex using the tokens held with Koine.”
New Offerings And Old Controversies
As reported, the derivatives platform for Bitfinex has recently launched a new perpetual swaps product that enables traders to speculate on Bitcoin (BTC) dominance.
The exchange also launched its own social network last month, “Bitfinex Pulse,” to encourage communication between traders.
While these new offerings and services proliferate, Bitfinex’s parent firm, iFinex, was served a class action lawsuit for alleged market manipulation at the start of 2020.
BitGo To Provide Custody Services To Indian Crypto Exchange CoinDCX
Cryptocurrency custodian BitGo will provide its services to Indian exchange CoinDCX, offering secure storage and partial insurance for assets traded on the platform.
Cryptocurrency custodian BitGo will provide its services to Indian exchange CoinDCX, offering secure storage and partial insurance for assets traded on the platform.
BitGo — a United States-based firm that claims to process over 20% of all Bitcoin (BTC) transactions — provides an insurance policy covering up to $100 million in value through a syndicate of Insurers in the Lloyd’s of London and European Marketplace.
CoinDCX apparently already began transferring its assets to BitGo’s wallets last week.
With BitGo Custody, all cryptocurrencies on CoinDCX will be secured in omnibus and segregated hot and cold wallets with two-factor authentication for all accounts.
A fraction of funds traded on the CoinDCX exchange will be protected by BitGo’s $100 million insurance policy, including user assets held on CoinDCX’s lending service, DCXLend, and cold assets and funds.
In a statement, Pete Najarian, chief revenue officer at BitGo, noted that “with the recent uptick in trading volumes on Indian exchanges, the need of the hour is for professionalization in the form of fund security in the crypto market.”
BitGo already provides custody services to multiple crypto exchanges including Bitstamp and LGO Markets. This February, it established two separate crypto custodies in Switzerland and Germany and launched an institutional-level crypto lending service in March.
BitGo has also onboarded commercial insurance broker Woodruff-Sawyer & Co (in partnership with Paragon Brokers) to enable clients to insure their assets more flexibly and purchase an excess limit beyond its $100 million policy.
The Current Climate For Crypto In India
Earlier this year, India’s Supreme Court overturned a longstanding ban on banks’ services to crypto-related firms, promising to usher in a more positive climate for the domestic industry.
In an interview with Cointelegraph, CoinDCX co-founder and CEO Sumit Gupta pointed to the recent influx of foreign investments into the cryptocurrency industry, noting that the exchange had secured investments from Polychain Capital, Bain Capital Ventures, and BitMEX operator HDR Global Trading.
“The recent Facebook-Jio deal also signals that global conglomerates are starting to turn towards India as a potential hub to launch crypto-related projects,” Gupta said.
In the aftermath of the positive Supreme Court ruling, well-known trading platforms such as WazirX witnessed a month-on-month growth of over 80% in both March and April.
Gupta noted that CoinDCX has seen 47% growth in trading volumes in the first quarter of 2020, a 10 fold growth in user signups and a 150% growth in daily active users,
However, even after the ban on banks’ dealings with crypto businesses was overruled, some banks were reported to be continuing to deny their services in support of the sale or purchase of crypto assets.
Gupta Told Cointelegraph That:
“Despite the Supreme Court’s ruling, regulation of the cryptocurrency sector within India remains vague—with limited clarity as to what frameworks are likely to emerge in relation to emerging technologies. This has led to a degree of continued hesitancy for traditional actors to engage with actors within the cryptocurrency and digital asset space.’
Several exchanges have also been prompted to collectively pen a letter to the country’s central bank to request more clarity as to whether their operations are subject to the country’s Goods and Services Tax, or GST.
Gupta has previously told Cointelegraph that the exchange is working hard to obtain a favorable verdict on the matter.
External Custody For Crypto Derivatives Aims To Make Collateral Transfers Faster
Crypto derivatives platform Deribit launched a new external custody solution designed to reduce auto-deleveraging risks amid tumultuous markets.
Crypto derivatives platform Deribit is launching a new external custody solution designed to help with faster collateral transfers and reduce auto-deleveraging risks in tumultuous markets.
On May 14, the Panama-based exchange announced its full integration of the new solution, which was developed by London-based digital asset infrastructure provider Clearloop.
Deribit is catering the new solution to professional traders, claiming that such improvements in the crypto derivatives market structure will drive crypto adoption among institutional investors.
How does Clearloop’s custody solution work and what are the implications for traders?
The custody solution is designed to remove the need for asset managers to move their crypto from secure cold storage into hot wallets on exchanges in order to trade.
As well as introducing perceived security risks, transferring collateral between wallets and exchanges can incur delays of up to one hour, depending on the time needed for confirmation on a given blockchain network. Delays can further be compounded due to withdrawal times after the trade is settled.
Instead of this, Clearloop is offering a solution for off-exchange settlement between parties. This works by Clearloop intermediating trades — something it says removes self-custody risks — and providing asset managers with a segregated and insured custody solution.
For any position submitted by a trader, ClearLoop first ensures that both the client and the exchange have enough assets allocated to cover it before it is opened, and then instantly settles between parties once the trade has been closed.
By making the transfer of client collateral faster, Clearloop states that traders will be better protected against the risks of auto-deleveraging and other downsides associated with market inefficiencies. It points to the market mayhem this March:
“On-chain transaction costs increased up to 5 times, and wait time for rapid confirmation was approx. 20 minutes. In fast-moving markets, traders are unable to add or move their margin fast enough to meet margin calls or take advantage of arbitrage opportunities. This limits their ability to trade, exaggerates price move, and can lead to significant trading losses.”
By enabling faster reaction times, traders will ostensibly be able to execute significantly higher volumes per transaction, as well as avoid limitations on the value of the crypto that can be stored in hot wallets, which is typically enforced by exchanges to mitigate security and counterparty risks.
The company stresses that with its solution, assets never leave the custodian environment and that all off-exchange deposits and settlements are closed within milliseconds.
Auto-deleveraging Risks In The Crypto Derivatives Market
As recently reported, some traders on Binance have recently claimed that their winning short trades were unfairly cut short due to the platform’s auto-deleveraging system.
Platforms such as Binance and BitMEX have created insurance funds whose primary purpose is to prevent the auto-deleveraging of successful traders’ positions to prevent the bankruptcy of positions that get liquidated. There has been a recent controversy surrounding BitMEX’s use — or lack thereof — of its fund during a mass liquidation event on its platform in March.
Genesis Trading Buys Crypto Custodian Vo1t In Bid To Become Prime Broker
Digital currency trader and lender Genesis Global Trading is moving toward full-service prime brokerage with the acquisition of crypto custodian Vo1t, the company announced Thursday.
The New York-based trading firm, which is a subsidiary of CoinDesk parent firm Digital Currency Group, acquired Vo1t to begin developing a full suite of prime brokerage services under one roof including lending, trading and custody. The terms of the deal were not disclosed.
“We’re coming at this after having a successful business on the trading and lending side,” said Genesis CEO Michael Moro. “The goal is for clients to be able to do any and all activities with Genesis.”
In traditional finance, prime brokerage refers to a bundle of specialized services offered by investment banks and securities dealers to their hedge fund clients. This is the first time Genesis has disclosed its strategy to become a prime brokerage.
There are a few prime brokers in the crypto space, including New York-based Tagomi, which joined Facebook’s Libra Association in February. Digital asset services firm Bequant also announced a full suite of prime brokerage services and 18 sources of liquidity earlier this month.
Moro wouldn’t put a figure on the number of liquidity providers Genesis is aiming to plug into.
“The answer is as many as we can that we feel good about,” he said. “We’re trading roughly $1 billion of crypto a month, and clearly we have enough liquidity venues for us to trade that much.”
Genesis also announced plans to soon offer a derivatives trading desk, which would start with over-the-counter bitcoin options. It’s also interested in providing capital introduction for family offices that are looking for crypto hedge funds that have the strategies, fee structure and asset exposure to fit their investing needs.
“We’re curating the hedge funds worth talking to, based on the criteria you’re looking for,” Moro said.
Vo1t will also be Genesis’ first London office. The firm, whose name is supposed to remind customers of a bank vault, provides custody, lending, staking and trading products for 35 digital assets. Since 2017, Vo1t has been offering cold storage to firms listed on the Financial Times Stock Exchange, trust companies and other financial institutions around the world. It advertises a 45-minute withdrawal time for assets held in cold storage.
Moro began to pursue a deal with Vo1t last autumn after seeing how many services the startup’s team had produced with few resources. The companies are now in the middle of integrating products.
“We’re going to keep working on the acquisition integration,” he said. “There’s quite a bit of work to be done to absorb this platform and their technology.”
Genesis is also expanding into Singapore after registering with the Monetary Authority of Singapore and will send employees from New York to the new office once it is safe to do so. With 30% to 40% of the firm’s lending business coming out of Asia, the office will give Genesis more flexibility to serve customers in the region.
“Having New York, London and Singapore helps for different time zones,” Moro said. “Especially since crypto trades 24 hours a day … and our clientele is diverse across Europe, Asia and the U.S.”
Bankruptcy Law Can Be Unclear When Crypto Custodians Go Belly Up
The past few years have seen a glut of cryptocurrency exchanges becoming insolvent. But what legal rights do their customers have with regards to the return of their held assets?
A paper recently published by the Law Faculty of the University of Oxford examines the legal risks of depositing cryptocurrency with custodians in the event of insolvency. The paper, featured in a June 1 blog-post by the faculty, also suggests ways that regulation and practice can help to mitigate this risk.
Cryptocurrencies were initially created as a way to be free from the interference of governments, banks and other intermediaries. However, the reality is that a large proportion of Bitcoin (BTC) and other cryptocurrencies is currently held through custodians such as exchanges, rather than by investors themselves.
This creates significant risks related to the possible insolvency of these custodians, and the rights of customers with regard to their held assets in such an event. Exchange insolvencies are common, and it can take years before customers find out what will happen to their funds.
The paper states that customer rights ultimately depend on the applicable insolvency and property law. However a lack of international standards related to the legal status of cryptocurrency, along with the global nature of blockchain-based transactions, can make it hard to determine which laws apply.
Ideally, the paper suggests, priority would be given to the contractual law agreed between custodian and customer, with local law applying at the custodian’s place of corporation serving as a fallback. So a custodian’s terms and conditions should be essential reading before depositing or purchasing tokens.
Pooled Funds Or Segregated Addresses
Cryptocurrency custodians generally store customer assets in one of two ways: a pooled blockchain address, or segregated blockchain addresses.
The former option presents a greater risk, as it makes it more likely that the individual tokens originally deposited by or allocated to a customer will be used for the benefit of another customer.
This can often be crucial in regaining assets in the case of insolvency. If individual assets can be proven to still reside at the blockchain address of the custodian, the customer has a far greater claim to those assets in most circumstances.
Again, information on how deposited tokens may be used should be clear from a custodian’s documentation.
Regulation On Re-Use Could Protect Customers
The paper also suggests that regulation prohibiting or limiting the re-use of customer assets could further protect customers in insolvency situations. Again, holding funds in segregated addresses presents less risk that such regulation is violated.
Such regulations already exist for traditional investments held for customers by brokers or intermediary firms, which must:
“Make adequate arrangements so as to safeguard the ownership rights of clients, especially in the event of […] insolvency, and to prevent the use of a client’s financial instruments on own account except with the client’s express consent.”
Some custodians may already follow such recommendations. So ultimately, according to the paper, the safety of your tokens with an exchange or custodian depends largely on your due diligence in choosing which one to use.
Ball’s In Their Court: Crypto Custodians Waiting On Regulators To Act
Crypto custody firms are mostly treated like traditional assets, ignoring the uniqueness of digital assets and its various complexities.
The business of cryptocurrency custody is getting more competitive and lucrative by the day. The most recent announcement has come from Switzerland, where local family-owned bank Maerki Baumann announced on May 29 that it had expanded its cryptocurrency services through the introduction of crypto custody and trading. The private bank first announced its crypto initiatives in 2019 by extending business account services to blockchain companies.
Thanks to regulatory approval from the Swiss Financial Market Supervisory Authority, Maerki Baumann will initially offer trading and custody services on five major cryptos including Bitcoin, Ether, XRP, Bitcoin Cash and Litecoin. The bank’s announcement came a month after the Capital Markets and Technology Association, also based in Switzerland, published a common industry standard for the management and custody of crypto assets.
Dubbed “Digital Assets Custody Standard,” the document attempts to elucidate how the custody of digital assets differs from that of traditional assets. Having identified the differences, the CMTA then laid down foundational security and operational requirements for crypto custody providers.
Custody For All
It seems that the biggest players in crypto have now turned their attention to the crypto custody sector, as a flurry of deals and partnerships were announced during recent months. For example, crypto exchange Bitfinex announced a partnership with London-based digital asset custodian Koine, while the New York-based crypto lending firm Genesis Capital acquired custody startup Volt. Additionally, crypto derivatives platform Bakkt claimed on May 18 that it had onboarded more than 70 crypto custody clients.
Despite the growing custody-related activities, though, regulations around crypto custody remain vague across different jurisdictions. A recent study published by researchers at Leiden Law School in the Netherlands specifically points to the handling of asset retrieval in the event of insolvency as a problematic area.
While experts believe that crypto regulation is needed, given the uniqueness of crypto assets, many regulators continue to treat coins and tokens almost in a similar fashion to traditional assets.
Traditional Rules And Crypto
To understand why traditional rules are ill-suited for crypto assets, CEO and co-founder of Trustology Alex Batlin believes one should first consider why these rules were enacted initially, telling Cointelegraph:
“The main reason you have the regulations is that, at some point, a custodian made a mistake, or stole money or performed operations they shouldn’t have performed. And these mistakes are typically not easy to spot because most of the record-keeping was always internal to the company.”
For this reason, most rules talk about very stringent record-keeping and transparency, because it’s easier to resolve issues if they are spotted early enough. However, this is based on the premise that only the record-keeping companies have access to the ledgers under custody, and therefore, have to constantly provide means for clients and regulators to audit their internal accounts. “However, the blockchain technology, which powers crypto assets, isn’t haunted by this conundrum since the records are there for everyone to see,” Batlin said.
Digital assets, by design, offer better transparency compared to traditional assets. Still, it’s worth pointing out that the transparency level varies from one custody model to the other. This, along with other unique features such as ownership and immutability makes a case for purpose-built crypto rules.
CMTA’s Standard Presents A Starting Point
The digital asset standard that CMTA proposes breaks down the different models by which custodians may operate. The document focused on two institutional-grade custody models. These include pooled and allocated distributed ledger accounts, or DLAs.
In a pooled model, the custodian pulls client assets together in one or several accounts. This model is what most cold storage custody solutions employ. According to CTMA, this model could take two main forms:
Placing Client-Only Assets In One Or Several Pooled DLAs
Co-Mingling A Custodian’s Own Assets With Client Assets Across One Or Several DLAs
In an allocated DLA model, the custodian dedicates one or several DLAs to a single client. In other words, while each DLA may be dedicated to different assets, it cannot be credited to more than one client. Batlin believes these classifications provide insights into the inner workings of different models, and should help regulators develop suitable rules.
For instance, while clients may be able to track funds in pooled DLAs if they know the addresses, they lack the ability to tell whose funds are being moved and if it’s authorized. That’s different for segregated models in which clients can independently monitor their respective accounts and immediately call out any irregularities.
In addition, with segregated accounts, Anti-Money Laundering compliance is potentially more transparent than with pool accounts. “The regulatory requirements should, therefore, treat co-mingled models differently from segregated accounts,” according to Batlin.
The Risk Of Rigid Regulation
At best, the CMTA’s document can only be a starting point for suggesting how the sector should be regulated. Some industry participants believe that it doesn’t take the latest developments in custody tech (multiparty computation) into consideration. Kevin Lehtiniitty, chief technical officer and chief product officer at Prime Trust, spoke to Cointelegraph about the challenges of dealing with rules in different regions:
“Regulations are very jurisdictional. The way we operate in the U.S. is different from Europe and Japan, thanks to jurisdictional regulations. However, since blockchain assets are truly global assets, they need a global regulatory standard and not a jurisdictional standard. Regulators need to take a patient, measured approach, else they risk stifling innovation.”
An example of this problem ensued at the crypto exchange Liquid after it switched to the MPC custodian solution. The exchange said MPC allowed it to reduce its dependence on cold storage by up to 90% while maintaining a “zero-compromise level of security.” Despite the efficiency gains, the exchange had to keep 100% of the funds of its Japan-based clients in cold storage just because of local law. “This sort of disparity in regulations would make some regions less competitive than others,” Michael Shaulov, CEO and co-founder of Fireblocks — an asset transfer network provider — told Cointelegraph, adding:
“All in all, while the standard is good progress, it doesn’t push for the adoption of the newest technologies and that can leave certain custodians behind with offerings that are not as secure or operationally efficient as in other geographies.”
Current State Of Crypto Custody Regulations Across Different Jurisdictions
In general, present regulations globally treat crypto custodians in a similar manner to traditional asset keepers without taking into account the distinctiveness of crypto. The more advanced regulations only go as far as defining what constitutes crypto custody and/or setting guidelines for storage allocation between online and offline wallets.
The New York Department of Financial Services, or NYDFS, being one of the most prominent and active financial regulators in the world, was one of the first regulators to make a move to put a leash on crypto trading and payment industry by issuing a Bitlicense. Crypto giants Coinbase and Gemini currently hold the license. However, the law, for the most part, only integrates crypto companies into NYDFS’s already robust financial regulation bracket.
The Bitlicense requires custodians to maintain a USD-denominated surety bond or trust account as security against customers’ funds. The NYDFS’s superintendent determines the amount to be held as security. The law does however prohibit custodians from selling or transferring clients’ assets without their permission.
The U.S. State of Wyoming is the only known geographical region with an advanced regulatory framework for crypto custody. The state goes beyond online-offline storage requirements to purpose-built provisions that address the uniqueness of crypto assets. In November 2019, Wyoming revealed a series of opt-in custody provisions that cover crypto-specific topics like ownership, forks, airdrops and staking, which also clarified that custodians cannot use clients’ assets without their approval.
This differs from the custody of traditional assets, in which owners are de facto creditors whose custodians are surreptitiously doing business — lending and rehypothecation, for instance — with customer assets. What’s more, the rule is clear that “all ancillary or subsidiary proceeds” relating to digital assets in custody are credited to the customers, like proceeds from forks, airdrops, staking and any other event that changes the value of an asset.
The country’s top financial regulator, FINMA, is one of the world’s most active regulators in the crypto space. Last year, the Swiss Federal Council published a draft law relating to digital assets. With regard to custody, the focus is mostly on the handling of client assets in the event of bankruptcy.
The draft amends the Swiss Debt Collection and Bankruptcy Act in that insolvency proceedings should exclude client assets even if they’re held collectively across single or several accounts with the custodian’s assets. This seeks to resolve the challenge of proof-of-ownership arising from the fact that crypto assets are bearer’s assets, compared to traditional securities.
Germany egan requiring crypto custodians to obtain a license from Jan. 1, 2020, following the implementation of the 5th Anti-Money Laundering Directive legislation, which mandated EU member countries to subject crypto companies to the same Anti-Money Laundering requirements as traditional financial firms.
Germany’s crypto custody regulations are still evolving, however. The German regulatory body Federal Financial Supervisory Authority has so far only made provisions for defining a custodian and what constitutes regulated custodial activities. It remains unclear whether BaFin will develop rules to accommodate the uniqueness of crypto assets.
After finding itself right in the thick of the 2017 crypto fever, Japan swiftly moved to start regulating crypto activities after the threats of money laundering and terrorist financing became apparent. Any exchange wishing to operate in Japan needs to first obtain a license from the Financial Services Agency, the country’s principal financial regulator. The country presently has 23 FSA-approved crypto exchanges.
In 2020, the FSA expanded its crypto regulatory oversight to include crypto custody via an amendment to the country’s Payment Services Act, under which it regulates crypto exchanges, requiring custodians to register as cryptocurrency exchanges — even if they don’t intermediate the sale and purchase of crypto or buy and sell themselves.
The law also requires custody service providers to keep the majority of customers’ assets offline and in a segregated manner, with no more than 5% of funds kept in hot wallets, and even then, the provider must hold the same amount of crypto of its own in an offline environment as a guarantee.
Safety Check: If Crypto Custodian Fails, Clients May Not Get A Full Payout
Crypto exchanges — not segregating blockchain addresses — could lead to ownership disputes in the event of insolvency, research says.
A recent paper from academics at Leiden Law School suggests that if a crypto exchange or crypto custodian goes bankrupt, investors could well lose control over their stored coins. This happened in Japan’s Mt. Gox exchange collapse, and more recently with the failure of Italy’s BitGrail exchange. Thus, it could happen again.
Indeed, the paper implies that even users of United States-based exchange Coinbase could have problems reclaiming their crypto in the event of insolvency — because Coinbase doesn’t segregate blockchain addresses. So, the question still stands: “Is there a risk you could lose your Bitcoin” if an exchange or custodian goes bankrupt?
“Absolutely, there is a risk,” Edgar Sargent, a partner at Susman Godfrey law firm, who was hired by CoinLab to sue Mt. Gox, told Cointelegraph. Outcomes vary depending on jurisdictions and applicable law, but the default position is that this is a debt incurred by the exchange, and in the event of the firm’s bankruptcy, a Bitcoin (BTC) investor will have to get in line with other creditors, said Sargent.
Evan Thomas, an attorney with Osler, Hoskin & Harcourt LLP, told Cointelegraph: “In the Mt. Gox case, the remaining BTC was treated as assets belonging to Mt. Gox, not assets belonging to customers. So, the BTC could be used to pay debts to Mt. Gox’s other creditors.” However, Coinbase is different from Mt. Gox, presumably because, at the very least, it’s a U.S.-regulated entity.
Moreover, in a 2019 amended user agreement, Coinbase added rules specifically concerning property rights over crypto-assets deposited with the exchange: “Title to digital currency shall at all times remain with you and shall not transfer to any company in the Coinbase Group.”
But that may still not be sufficient to protect users, suggested the Leiden Law School paper, which generally explores the legal risks involved in depositing cryptocurrency with crypto-custodians, such as crypto exchanges, stating:
“Coinbase has full control over the private keys to deposited Bitcoins. It can effectively access crypto-wallets and their content. This may not only increase the risks of hacks or mismanagement, but also lead to disputes about the ownership over crypto-assets deposited with Coinbase, since control over the private key (and therefore the possibility to dispose of Bitcoins) may indicate that Coinbase is the owner of such Bitcoins or that ownership has been transferred to it. In the absence of proper segregation, allocation of cryptocurrencies to individual customers may become problematic.”
U.S.-based Gemini, another crypto custodian, by comparison, guarantees that the crypto assets in its custody accounts will be segregated from any other assets held by Gemini. “This segregation [i.e., Gemini’s] contrasts with the Coinbase contract, which does not promise to segregate customers’ crypto-assets with separate blockchain addresses, but instead allows shared blockchain addresses,” noted the paper.
Cointelegraph sought comment from Coinbase for this story, but the company did not respond before the time of publishing.
The Number Of Bankruptcies
Crypto exchange insolvencies are not especially rare events. “Recent years have witnessed the demise of crypto-exchanges such as Cryptopia (New Zealand), QuadrigaCX (Canada), BitGrail (Italy), Cointed GmbH (Austria) and a host of other crypto-exchanges around the world. These cases reveal that the qualification of the contractual and property law rights of crypto-investors is problematic,” wrote the Leiden Law School authors.
Thomas concurred: “If an exchange/custodian goes insolvent, customers who have crypto with the exchange/custodian may get back nothing.” Depending on the terms and conditions between the user and the exchange, as well as applicable insolvency law, the crypto held with the exchange or custodian could be considered part of the insolvent exchange/custodian’s estate.
Thomas explained further by using the Einstein exchange as an example: “In other words, some of the crypto may be liquidated to pay other debts to employees, lenders, tax authorities, etc., which reduces what’s left for the customers.” Peter Watts, a law professor at the University of Auckland and a Barrister told Cointelegraph:
“If a crypto exchange goes bankrupt, investors could well lose control over their coins — or share of pooled coins — unless the legal jurisdiction governing the exchange recognizes the concept of the trust, and the rules for trusts have been met on the facts.”
The Cryptopia Case
Watts represented account holders in the Cryptopia case. Cryptopia, a cryptocurrency trading exchange formed in 2014 in New Zealand, was placed into liquidation in May 2019 after suffering a serious hack and losing some $30 million worth of cryptocurrency.
As with Mt. Gox, the question arose: “Who owned the remaining cryptocurrency under the control of Cryptopia, estimated to be worth about $111 million (170 million New Zealand dollars).” The matter was brought before the High Court of New Zealand, a dispute that pitted Cryptopia’s creditors — 37 trade creditors and 90 shareholders — against an estimated 800,000 account holders with positive coin balances.
The Court ruled in April 2020 that the remaining crypto should be considered investor’s “property” and returned to those investors for whose benefit it was being held in “multiple trusts.”
As Watts explained to Cointelegraph: “For most of its life, Cryptopia Ltd. didn’t say anything express about a trust in its terms and conditions. But happily, we were able to persuade the Court that a trust could nonetheless be inferred from all the context, including the marketing documents and on-line instructions” — though it would have been much easier if the terms and conditions had expressly recognized the trust relationship. In February 2020, the Singapore Court of Appeal in Quoine Pte Ltd v. B2C2 Ltd ruled the other way in a similar case, as Watts added.
Thomas observed that the fact that crypto is considered “property” — and not something else, like currency — is all well and good, “but the more important question is the legal relationship between the customers, the custodian/exchange and the crypto.” Does the custodian/exchange own the crypto and the customers only have a contractual right to receive delivery of a specific amount of crypto? Is the custodian/exchange holding the crypto in trust for the customers? Or do the customers own the crypto and the custodian/exchange is merely a custodian, like a warehouse holding goods belonging to its customers?
“Depending on the answer, the ability of customers to recover anything in an insolvency could be different.”
There is no clear guidance here. “Rights of customers in insolvency proceedings ultimately depend on the applicable insolvency and property laws,” wrote the Leiden Law School authors, adding: “Determination of the applicable law is therefore critical, but complicated by a lack of harmonized private international law rules that are appropriate for the specific nature of cryptocurrencies and the relations between customers and crypto-custodians.”
The BitGrail Case
Control of private keys is often an important determinant of crypto ownership, according to the paper, and without it, a court may not allow users to reclaim their Bitcoin or other cryptocurrencies in the event of insolvency. This happened in the case of BitGrail, an Italian cryptocurrency exchange, which was declared insolvent in January 2019.
“The court noted that deposited cryptocurrencies were directed towards the main address of the exchange (one single omnibus address), controlled by its founder,” noted the paper. It was impossible to establish to which customer the disappeared crypto-assets belonged, as the paper noted:
“Because of the interchangeability within the omnibus address, the court held: ‘once the users’ cryptocurrencies were directed toward BitGrail’s main address, the currencies […] no longer bore the distinctive elements associated with ownership by a single user, thereby giving rise to a relationship of irregular deposit.”
An attorney from Italy, who wanted to remain anonymous, has been working on behalf of account holders in the BitGrail bankruptcy, which is ongoing, and has confirmed for Cointelegraph that the crypto investors in this instance were being treated as unsecured creditors, “so they won’t receive 100 percent of what they deposited — they might get 20%, or even less.”
The court held that BitGrail was acting like a bank, explained the Italian attorney, so all the deposited BTC and other crypto were regarded as property of the exchange. “It wasn’t like some other exchanges, which might keep your BTC separate, like a work of art, where you get back your BTC in full. Everything was commingled, and the bank has a debt.” The bank is legally obliged to give back an amount equivalent to the deposited BTC — not the same Bitcoin with the same addresses. The Leiden Law School authors noted:
“In the MtGox and BitGrail cases, the courts refused revendication claims [i.e., returning BTC in full to at least some investors], either on the basis that Bitcoin cannot be the object of ownership (MtGox) or due to the commingling of deposited crypto-assets (BitGrail). Under other laws, the result may be different, provided that the customer of a crypto-exchange can prove that individualized Bitcoins deposited with a crypto-custodian have not been spent or re-used.”
How to safeguard investors, then? In the jurisdictions that recognize trusts, it is fairly easy to create a trust that should work to protect investors, Watts told Cointelegraph. “Unfortunately, many exchanges don’t spell out in their terms and conditions that the exchange is a trustee for investors.” Thomas went on to add:
“Any customer who leaves their crypto under the control of an exchange/custodian is taking a risk that they won’t get the crypto back in full if the exchange/custodian becomes insolvent. Customers have to decide whether they want to take that risk.”
Exchanges and custodians would probably prefer to commingle and reuse BTC like a bank does when it loans out its fiat deposits and earns a profit, as opposed to storing it in a vault for years, noted Sargent. If custodians eventually agree to maintain segregated BTC addresses, however, investors probably shouldn’t expect to earn any interest on their vaulted Bitcoin, and on the contrary, they might even get charged for the service.
A Prohibition On Lending Out Custodial Crypto?
The Leiden Law School authors arrived at the conclusion that pooled custody may present higher risks for customers. When BTC is commingled, it suggests that the custodian or exchange is acting more like a bank — blending deposits and possibly making loans — and less like a warehouse or a safe deposit box.
Practically speaking, this means it becomes more difficult in the event of an exchange’s bankruptcy for a user to claim that the exchange is holding their “property.” The investor may have to wait in line with other unsecured creditors.
Investors should be informed ahead of time whether a crypto exchange or custodian plans to use or transfer any of its deposited Bitcoin or any other crypto, the Leiden Law School authors summarized. According to the paper, as a matter of public policy, it might make sense for regulators to “prohibit a crypto-custodian to transfer, sell, pledge or otherwise dispose of, alienate or encumber customers’ crypto-assets, unless upon explicit approval from a crypto-investor.”
With or without specific regulation, such a transfer or reusing deposited crypto is less likely to occur if the cryptocurrency is stored in segregated blockchain addresses rather than in omnibus or pooled addresses.
6M Bitcoin Are Secured by Shared Custody
Almost one-third of the entire Bitcoin supply is secured with a feature that gained adoption after the Mt. Gox heist.
Almost six million Bitcoins (BTC) are stored in multi-signature wallets — nearly one-third of the total supply.
Prevents ‘Exit Scams’
Bitcoin is generally secured with a combination of a public and private key. In order to transact on the Bitcoin network, a user needs to sign each transaction with their private key. This works fine in most use cases, but there are situations where this setup is not ideal.
For example, let’s say the founder of a crypto exchange secures all of the firm’s assets with their private key. This may lead to several problematic situations: what happens if a founder suddenly dies, gets hacked, or decides to engage in an ‘exit scam’? In all of those situations, the exchange would go belly up and users would lose their funds.
In order to alleviate these issues, a soft fork was introduced in 2012 that enabled the use of multi-signature wallets. Bitcoins could now be secured with multiple signatures, where X out of N signatures would be required to spend it. This means that wallets could now be controlled by multiple users, without any one user having the ability to spend the coins on their own.
Mt. Gox Spurred Adoption
The same exchange founder could secure all the deposits with five signatures and require at least three signatures for a transaction. These five signatures could belong to the various company executives. They could even delegate one or more of the signatures to a trusted third party.
We observe that mass adoption of this feature only began in 2015. There is a simple explanation for this — Mt. Gox. After the notorious hack, the community realized that a decentralized system should not rely on a single point of failure.
As most individual holders still do not use this feature, the number of Bitcoins stored in multi-signature wallets could also be used as a good indicator of what proportion of Bitcoin is held by businesses.
Bakkt, Galaxy Digital To Offer Joint Bitcoin Custody Solution For Institutions
Two New York-based crypto companies hope to scoop up growing institutional demand for physical bitcoin.
Announced Wednesday, Galaxy Digital’s trading arm and regulated bitcoin futures provider Bakkt said their new service – which has yet to be named – will offer asset managers and other institutional investors a new “white glove” trading and custody solution.
As part of the collaboration, Galaxy will provide all the trading services and functionalities, leveraging its existing plugins to 30 different exchange venues. Meanwhile, Bakkt will repurpose part of its Bakkt Warehouse, which it used to facilitate physically settled bitcoin contracts, as the service’s custody solution.
Designed to work around the clock, the idea, according to Tim Plakas, Galaxy Digital Trading’s head of sales, is to offer a “safe, efficient and well-regulated route into physical bitcoin access, one that has been already proven successful in the macro hedge fund space.”
“We designed this partnership to service the uptick in demand our two firms have received from traditional asset managers seeking access to physical bitcoin,” Plakas added.
While the idea of two big-name companies teaming up like this may seem like a titillating prospect, both Bakkt and Galaxy Digital have struggled to make much headway this year.
As a merchant bank that invests in crypto companies as well as trades digital assets, Galaxy Digital has failed to make much, if any, revenue since it first launched in January 2018. It reported a net loss of $32.9 million in the final quarter of 2019 and warned further losses from the coronavirus.
It was Galaxy Digital Trading, the branch now hooking up with Bakkt, that was responsible for pretty much wiping out Galaxy’s other revenue streams, losing a total $32.1 million in Q4.
Bakkt, on the other hand, has struggled to attract much footfall. Launching in September 2019 after more than a year of delays, the exchange’s volumes have remained low.
For example, there was a week in January, and two weeks in late February, where not a single one of its options contracts traded. That contrasted with a broader derivative space that reported record volumes during the same timeframes.
So far this week, for instance, Bakkt’s total volume for monthly options contracts was stuck at zero. Bakkt’s futures have seen more volume, reaching record levels last month during Bitcoin’s halving, though it’s now returning to more typical levels.
Custody Battle Pits Institutional Boomers Against Crypto Upstarts
Crypto custodians are in a race to build the next State Street or BNY Mellon.
There are only a handful of these types of large custody banks and most of them have been around for hundreds of years. But crypto is such a striking example of old world meeting new that it offers firms a rare opportunity to break into a market that would simply be impossible under normal circumstances.
“In the traditional world you can’t really build a custodian, it’s not something you can just break into,” said Diogo Monica, co-founder of Anchorage, a Silicon Valley-based custody platform specializing in crypto. “BNY Mellon has been around for 300 years and now, in crypto, we have a chance to actually build a foundational company that is potentially going to last for that long,” added Monica.
It’s an inspirational long view for sure, but how will things evolve over the short term?
Recent acquisitions in the crypto space have seen a bundling together of services such as custody, settlement, lending and trade execution. The latest push along the prime broker route came Wednesday with bitcoin futures platform Bakkt teaming up with Galaxy Digital to combine custodial and trading capabilities.
If crypto is entering a period of accelerated consolidation and following similar lines to the traditional world, firms specializing in standalone custody or trade execution may need to pivot to offer additional services or risk being swallowed up.
An evolution towards something like traditional finance is definitely how regulated crypto custodian BitGo sees it playing out.
“This space is going to consolidate very quickly around big strong reputable brands, much like what happened with State Street, JPMorgan, BNY Mellon,” said BitGo CEO Mike Belshe.
The recent unveiling of BitGo Prime allows the platform’s customers to trade directly from cold storage (where cryptographic keys are held deep inside BitGo’s offline, insured vaults) across a choice of two exchanges and two large over-the-counter (OTC) desks.
This saves firms the rigmarole of opening and funding accounts at various exchanges and moving assets around, said Belshe, declining to name the venues currently connected to BitGo’s incipient trading offering.
“All four are tier-one, top-ranked, regulated businesses you’d recognize. We will start naming them in due course. The plan is to grow that by the end of the year to more than a dozen,” Belshe said.
‘White Glove’ Treatment
Although a one-stop-shop prime broker platform seems to be what many crypto firms now aspire to, it could be about the buzzword rather than a full understanding of the services being provided.
Prime brokerage is more of a financial services function than a tech function, a fact that may be lost on the new breed of crypto pioneers, said Michael Moro, CEO, Genesis Trading, which recently acquired standalone custodian Vo1t. (Disclosure: Genesis is owned by CoinDesk parent company Digital Currency Group.)
“As well as having a large balance sheet, attention to client services is an essential aspect when it comes to choosing a prime broker platform,” said Moro. “I think everyone wants the white glove, high touch service, which is how prime brokerage works in traditional finance. But that’s very different from a tech software model.”
The latter approach is to try and scale the business through technology as much as possible, rather than hiring customer service representatives or business development staff, Moro said.
“In institutional finance, the ability to pick up the phone and speak to your coverage person is so important,” he said. “Being able to speak to a human being, as opposed to clicking a few buttons on a platform, I think will be a differentiator among what prime broker platforms are around in a year or two.”
It’s tempting to write this off as an overly cautious crypto boomer approach, pandering to traditional legacy systems. But to do so could be a strategic error.
A focus on gently transitioning traditional capital markets over to crypto is gaining traction for London-based Koine, which is offering a post-trade solution for digital assets combining custody, settlement and cash management. Koine’s solution has so far been rubber-stamped by regulators in the U.K. and the United Arab Emirates.
“The path we envisage involves the ability to transition from existing infrastructure, rather than a new model everyone must switch to,” said Phil Mochan, Koine’s co-founder and head of strategy.
Building bridges between existing market infrastructure and crypto native exchanges is something Koine is tackling in stages, said Mochan. Bitfinex was the first exchange to publicly announce an integration with Koine, and there are currently 12 other workflow models at different stages depending on the trading venue or OTC desk, he said.
“It’s not going to happen overnight,” said Mochan, framing the technological challenge specifically in terms of old-meets-new. “We find there are operational issues around API work almost everywhere, and that’s because 21-year-olds have built these platforms.”
Over the past couple of years, custody platforms have sought to differentiate themselves by offering new and innovative services such as earning yields on proof-of-stake (PoS) tokens by verifying transactions on a network or participating in governance decisions.
However, Moro of Genesis said that while this might have looked like a product differentiator at one stage, it no longer really counts – since many custodians now offer staking and even exchanges such as Binance have gotten in on the act.
“If you’ll pardon the pun, staking has become like table stakes for holding onto customers’ funds,” said Moro. “I think it’s really hard to differentiate yourself because the barrier to mimicking is not that high.”
But not all staking services are the same, just as not all custody is the same, said Monica of Anchorage, which uses a complex blend of hardware security modules (HSMs), threshold signing and multiple signatures to lock down crypto assets.
“The space is rife with people using manual operations from 10 years ago, where they have to actually go to a vault,” Monica said, adding that cold storage solutions of this type became unworkable under COVID-19 lockdown and social distancing.
On the subject of providing staking services, Monica said: “This stuff is hard to build. It may be table stakes in the sense that nobody wants to store an asset with you unless you can generate yield for it. Nobody wants to drop dividends on the floor in the traditional market so why would that be different in crypto?”
Anchorage’s strategy from day one has been to build everything in-house, said Monica, pointing to the Frankenstein-like assemblage of crypto’s recent crop of aspiring prime brokers.
“This can’t just be bolted on. Everything that touches a cryptographic private key is deserving of the ultimate security and attention,” he said. “The path to prime [brokerage] is not by bolting on different solutions built by different individuals and companies with different backgrounds and philosophies.”
The DeFi Difference
An unavoidable consequence of crypto prime brokerage is further centralization in a sector built on the premise of decentralization. While the prime broker model may bring a concentration of risk plus added costs, asking traditional players to try out new variants like DeFi (decentralized finance) is a big ask.
Nevertheless, the fast-growing world of DeFi is attracting lots of attention since it eschews traditional finance rather than simply trying to replicate it. With that, comes alternative approaches to trading, settlement and also custody.
“We have exactly the same goals but we always try to be slightly less centralized, as much as we possibly can,” said Alex Batlin, CEO of Trustology, a custody platform backed by ConsenSys and Two Sigma Ventures.
“The question is,” Batlin said, “do you wrap it all up like in the old days into a single prime broker with all the risks associated with that, or do you try achieve the same goals but with the lower prices and lower risk associated with decentralization?”
The DeFi custody hypothesis also does away with cold storage: Trustology uses HSMs for near real-time access to assets that cannot be commingled in omnibus accounts.
While the DeFi space is definitely tech-first, Trustology recognizes self-custody without controls is not fit for business or institutional contexts.
“There’s an emerging white space which we are trying to fill,” said Batlin, “We can sign any ethereum transaction or any DeFi protocol fast and segregated, and apply controls.”
Trustology sees decentralized clearing as a viable alternative option, with custodians acting as settlement agents, trying up with protocols like AirSwap. Brokers are also eyeing the billion or so dollars of liquidity locked up in DeFi, said Batlin.
“Brokers are looking to access liquidity and margin on those protocols; asset managers are looking at it the same,” he said. “There are possibly some really interesting plays around committing funds to staking, to collateralized lending, so you get the ability to do a long while being at yield that’s relatively safe.”
While Trustology is focused on Ethereum, Fidelity-backed KNØX is applying its energy towards Bitcoin.
The Canada-based custodian, which holds insurance from mega-broker Marsh, is “philosophically aligned” with Bitcoin and the technologies being built on top, according to KNØX co-founder and CEO Alex Daskalov.
“We have yet to see a custodian that has a tight integration with the Lightning Network, for example,” Daskalov said, referring to the bitcoin scaling solution built for faster payments. “We would love to be there in lockstep with a lot of the tech riding on Bitcoin and layers above it such as Lightning and Liquid.”
Cooperation And Competition
Growth in the traditional trading space is not all about competition, there’s co-operation too, which benefits the whole market. There’s also evidence of this among some crypto custodians and brokers
For example, recently launched prime broker BeQuant, which has its own custody solution, says it is open to working with other custodians in the space, as clients want to spread risk just as they do in traditional finance.
“I think you need those standalone guys,” said Richard Shade, BeQuant’s head of custody. “We are open to working and collaborating with a number of these guys and we are talking to all of them, because we realize our customers may already be using them.”
London-based custodian Copper, which raised an $8 million Series A in February, says it is also happy to collaborate, as well as compete.
“We are happy to work with people on financing and with people on clearing,” said Copper founder and CEO Dmitry Tokarev, who added that the recent funding affords the firm a further 18 months of runway.
Copper’s ClearLoop settlement solution differs from something like BitGo’s, which is geared towards everyone having a BitGo account, Tokarev said.
“We have already asked other custodians to join the network because that is the best solution for clients at the end of the day. The more exchanges and custodians that join the network, the more efficient (and secure) the entire trading ecosystem becomes. It’s better for everyone, not just Copper,” Tokarev said.
It’s not all kumbaya around the crypto-custody campfire, however. When it comes to the crypto prime broker race, BitGo likes to take a jab at arch-rival Coinbase.
Last year, when Coinbase acquired the institutional business of crypto wallet and custody provider Xapo, that brought the San Francisco exchange’s assets under custody to over $7 billion. At that time, BitGo publicly courted former Xapo clients, which were said to have expressed concern over the new arrangement.
Following this train of thought, BitGo’s Belshe said the recent acquisition of Vo1t by Genesis was probably a strategy to take back custody of about $2.7 billion worth of Grayscale Bitcoin Trust assets and bring these under common ownership. (Like Genesis, Grayscale is also a subsidiary of Digital Currency Group.)
“Grayscale was with Xapo and was sold over to Coinbase, for a pretty high premium by the way,” said Belshe. “I’m guessing that DCG, the Genesis team and the Grayscale team want to pull that custody back.”
But Michael Moro of Genesis scotched Belshe’s theory.
“As I evaluated Vo1t, that was not a consideration at all,” said Moro. “I’m actually not even privy to the contract that Grayscale and Coinbase have so I don’t know the terms or how long it lasts. My understanding is it’s longer-term so that wouldn’t be a near-term event, regardless.”
Casa Releases Self-Custody Bitcoin Wallet Focused on Privacy
Crypto custody firm Casa unveiled a new wallet that offers access without a seed phrase and gives users a way to check on their private keys.
New York-based crypto custody startup Casa has released a new wallet for Bitcoin newbies and long-term HODLers.
In a Casa blog post on June 13, the crypto firm that provides a private key management service announced it had created Casa Wallet after an investment from venture capital fund Mantis VC. A software wallet designed around privacy, Casa Wallet allows users to not provide any personal information apart from a first name and email.
In addition, unlike some software wallets like Exodus, Casa said its users do not need to set up an account with a seed phrase — usually a mnemonic phrase needed to regain access to a wallet. According to Casa, users can create a key to store on their mobile device. An encrypted backup is then split across Casa and the OS-specific cloud provider, which wallet holders can retrieve with two-factor authentication.
Casa Wallet also features ‘Key Health’, a function that gives users a way to check up on their private keys, confirms that the wallet is backed up, and checks users’ signatures are authentic.
Not Its First Foray Into Wallets
As Cointelegraph reported in September, Casa released its non-custodial mobile wallet app Sats for both Android and iOS users. Sats can be used without the company’s hardware Bitcoin (BTC) Lightning node.
Coinbase Custody To Hold Assets Backing 21Shares’ Bitcoin ETP
Crypto asset manager 21Shares will use Coinbase Custody to secure the Bitcoin backing its ETP launch on Thursday.
21Shares, an asset manager specialized in cryptocurrencies, has chosen the custody service offered by crypto exchange Coinbase for its Bitcoin (BTC) exchange-traded product.
According to a Wednesday Coinbase announcement, 21Shares will use Coinbase Custody to secure the Bitcoin backing the ETP launching Thursday. The derivative will launch on Deutsche Borse’s Xetra — Germany’s second-largest stock exchange.
The product is purportedly the first physically backed Bitcoin ETP in Europe.
Cryptocurrency Derivatives See Explosive Growth
Cryptocurrency derivatives are seeing new developments increasingly often. In late February, 21Shares also launched an inverse Bitcoin ETP called Short Bitcoin on Xetra. In January, the same ETP also began trading on leading Swiss exchange SIX.
As Cointelegraph reported, cryptocurrency exchange OKEx launched Ether (ETH) and EOS options in early June.
At the time, OKEx CEO Jay Hao said that financial derivatives “play an irreplaceable role in hedging risks and maximizing profit.”
Still, the space recently saw its share of controversy when Qiao Wang —an investor, analyst and the head of product at a crypto market data firm — criticized how the Grayscale Bitcoin Trust is set up. According to him, Grayscale Bitcoin Trust’s system could allow for it to trade at a discount compared to the net asset value of the fund’s assets.
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