The Custody Case:

Ali Rahman
Jun 24, 2018 · 4 min read

The question of cryptoasset custody has plagued the crypto world since its inception. Lapses in custody have become an all too familiar story, from early adopters losing hard drives and the collapse of Mt. Gox to more recent events such as the Bithumb hack. Creating an atmosphere which increases the confidence of both retail and institutional investors is necessary to advance the maturity of the space and insure future growth. Many firms are taking leaps in this space. In doing so, they are not only establishing a basic system of custodianship that will mitigate extreme scenarios of lost capital, they are also building necessary confidence in a nascent asset class.

What is a Custodian, and why are they required?

A custodian is a financial institution that holds customer’s securities/assets to minimize the risk of theft or loss. The concept is similar to the relationship between a retail bank and a customer with a checking/savings accounts. A customer deposits various assets, and the custodian acts as an intermediary that provides the custodianship itself, along with services including transaction settlements and account administration.

In the context of cryptoassets, the use of a custodian mitigates several risks. These risks include establishing a qualified custodian of assets (As required by Dodd-Frank Act for any fund holding over $150 million), estate planning, account settlement, and other forms of regulatory compliance.

The concept is straightforward enough. However, there remain debates over the way in which such custodianship for cryptoassets would be handled. Some maximalists question if large institutions should provide custodianship at all.

From an individual perspective, especially from the more libertarian leaning elements of the crypto world, one can see why the argument for self-custody would be prevalent. However, this is not sustainable, or even allowed by regulators, on the level of a large institutional investor, or even a mid-tier hedge fund. Even in the case of a retail investor acting as a self-custodian, many questions come into play. For example, in the event of a death, how would a retail investor be able to insure that their assets would be transferred to their beneficiaries? Especially, if they were the only person holding their private keys? An entire lifetime of investments could be essentially erased rather than passed to their loved ones.

From the perspective of large institutions, custody solutions will not only ensure the level of regulatory compliance required to do business in the space, it will establish the confidence required for large amounts of capital to come into the space.

The space today

Many household names in the crypto space have brought, or are working to bring, custody solutions to market. Firms such as Coinbase Custody, Bitgo (in partnership with Kingdom Trust), Ledger Vault (which has also formed the Komainu Consortium with Nomura Holdings and Global Advisors), and Gemini, are all racing to become the industry leader in custody services. Smaller firms such as Bankex, Seed CX, and SILO, are also looking to take a piece of the market. For the purposes of this article, the focus will remain on the list of larger firms.

Coinbase Custody:

  • Brings with it the obvious cachet of being offered by the one exchange that has name recognition with even a layperson.
  • Currently seeking SEC and FINRA oversight
  • Offers compartmentalized user accounts for firms to ensure seamless integration with various departments
  • Multi-asset support
  • Multi-signature wallets
  • Strong customer support
  • $10 million minimum with an initial fee of $100k, plus10 bps per month

Bitgo/Kingdom Trust:

  • A partnership between traditional custodian Kingdom Trust & Bay area venture Bitgo. The partnership married Bitgo’s software with Kingdom Trust’s custodianship license.
  • Multi-asset support (20 thus far)
  • Multi-signature
  • Compartmentalized users accounts
  • A more complicated fee schedule.

Offers three service tiers:

  • Qualified custody
  • Institutional Custody
  • Self-managed custody

Ledger Vault & Komainu Consortium:

· Ledger Vault

  • Launched in May 2018 with Genesis Trading Global Advisors, LCX, IronClad Capital, XBTO, and Smart Valor as launch customers
  • Offers Hardware Security Module(HSM) and hardware authenticators
  • Multi-signature
  • Rate limiting
  • Time locking
  • Compartmentalized users accounts
  • An official fee schedule is yet to be publically released

· Komainu Consortium

  • A joint venture between Nomura, Ledger, and Global Advisors Holdings Limited
  • Leverages the capabilities of the three firms to offer custody solutions

Gemini

  • Multi-signature
  • HSM based (FIPS PUB 140–2 Level 3 compliant)
  • Compartmentalized users accounts
  • Offers two tiers of custody solutions

Depository account:

  • The standard account that all Gemini customers are given
  • Carries no fees
  • Commingled with other customer assets

Segregated Custody account:

  • Funds are given a unique digital address
  • Annual fee of .964%
  • $100,000 minimum

Should we support custodianship?

While custody solutions for retail investors will vary based on individual needs, the need for industry grade custody solutions for institutional investors is clear. Institutional players and regulators are also in agreement. Institutional investors cannot be trapped in the logistical nightmare of juggling around several wallets per cryptocurrency, and they must satisfy regulators, therefore a turnkey approach is necessary.

Once regulated custodians establish trust in their services, institutional inflows will snowball into the space. This will bring institutions waiting on the sidelines into the market. This effect will especially be felt once established firms that are feeling out the custodianship market enter. Firms such as BNY Mellon, J.P. Morgan, Fidelity & Northern Trust are all looking to enter the custody space.

While the maximalists will argue that increased centralization is the antithesis of what the crypto movement is about, the space needs centralization in custody to progress into a mature asset class. Bringing forth regulated custody solutions to the market will streamline and stabilize the cryptoasset market.

Ali Rahman

Written by

Enchilada enthusiast, Cryptoassets, Economics, Harvard Alum, Dev, Bullish on Bitconnect. Contact: a1irahman@pm.me PGP: 2b416d140a1ed5a565a2a6831b241777431220cb

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