Onomy Protocol
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Onomy Protocol

What Is Digital Asset Custody?

Crypto is entering its latest bull run. Retail users are flocking into the space, whereas leading VCs like Paradigm are deploying billions in capital — not only chasing the gleaming light of irrepressible gains, but also in acknowledgement that the blockchain is going to play a core role in the evolution of our economy at the beginning of this new millennia. To many, the first questions are: How do I store my money? Where do I keep my tokens? How does all of this work?

You may think these types of questions are the preserve of old fuddy-duddies who don’t know their way around Windows, but you’d be wrong. Even high-level institutional investors are asking — as they should. The importance of fund custody and how it works is central even to Satoshi’s first vision of blockchain and the important philosophical value of how it provides total custody of one’s money and how, if we end up surrendering it, blockchain becomes simply a more complex (if more effective) banking system than the theoretical overhaul of the human notions of value and exchange.

The occasional hard libertarian streak in bitcoin’s community comes from this desire to realise potential (what the money you provide can give you) completely in the individual, and have no need for a central-controlled apparatus of state or banking in order to create a world financial currency. For most crypto believers, the decentralised nature of the blockchain is still acceptably diverse enough for it to function as this utopian global value system that puts full power into the individual, or more precisely, into their wallets.

What Are Crypto Wallets?

In crypto, all tokens are held in wallets, which come in two main forms: custodial and non-custodial. Custodial wallets are where you don’t truly ‘own’, in cryptographic terms, the contents of the wallet since you can never access it outside the walled garden of the custodian. On the other side, a non-custodial wallet is what provides users with authorship and autonomy over their funds.

In blockchain terms, a wallet is simply a combination of a public key, which is the wallet’s address, and would be how people send you money and how you identify what a wallet holds on the blockchain, and a private key, which is the way a user can access, move and spend the funds.

What’s In Your Wallet? Public and Private Keys

An interesting difference between a blockchain wallet and a pocket wallet with coins and notes in is that anyone can see what it contains. If you’re new to crypto, you may be surprised how frequently people comment when large transactions are made: “Someone just moved 120 BTC last night”.

This is because, despite popular misconception, transactions can (in general, there are exceptions) be traced and by using a blockchain explorer, you can track how and where money is sent. All blockchain wallets consist of a public key that denotes what the wallet owes and is owed by the blockchain to which it refers. Public keys are not quite anonymous, rather pseudonymous, and the activities of any given wallet can be chronicled, even if the identity of the owner is usually masked.

Protecting Your Private Keys

In order to access this wallet, an individual or company must provide their private keys. The private key is what every single browser extension or wallet app or forum thread (more on those later) will scream at you quite rightfully not to share. There is no good reason for anyone except the owner to ever have access to a private key. In short, the private key is your money. It’s ultimately the only reason any crypto holder has the tokens they do.

This may seem confusing. Aren’t the tokens you buy and store in the wallet? Intuition and common sense say they should be, but that’s a misunderstanding. Blockchains are ledgers where all transactions are stored and verified. Your wallet is simply the proof, through the combination of public and private keys, that transactions notarised on it ultimately credit you, or perhaps more precisely — it.

How to Store Your Wallet

Therefore, if you write down your public and private keys on a piece of paper, you’ve just turned that piece of paper into a wallet. More conceptually, if you memorise both the public and private keys, you’ve just turned your brain into a crypto wallet. Or you could store the keys on a USB device or dedicated hardware wallet. These are called ‘cold wallets’ — they are not connected to the Web 3.0 economy, or the internet at all, but they can be generally hooked up to use the funds within it. You can authorize transactions through a wallet like Metamask by signing using your Ledger device. This ‘airgap’ means that — digitally at least — it’s impossible for any attacker to gain control of your private keys. You could lose every electronic device you own and used to set up your accounts, but as long as you have the keys — whether in a hardware wallet, a piece of paper or in your mind — your wealth is safe; safer than it could be anywhere else.

This kind of wealth-autonomy is quite thrilling for many, and is gradually becoming more exciting for the general population. The financial system of the world today means you don’t truly own your money, the bank does, with its accounts viewable by the national government. There is certainly security in this, but also a surrender involved. It might be slightly gauche to invoke Benjamin Franklin’s quote on security and liberty here, as he opined on a Pennsylvania tax dispute (and arguably in favor of the state), “those who would give up essential liberty to purchase a little temporary safety deserve neither liberty nor safety”.

Hot Wallets and Key Security

Yet the question is begged, what if I lose or forget my keys? Isn’t this all quite risky in its own way? And to be fair, this is a problem. Boating accidents are never too far away. What’s more, if your wallet is on a piece of paper, you still need to connect to the internet to transact.

Hot wallets connected for day-to-day transacting can still be non-custodial. Yes, you’re connected to the internet, so there is some attack-vector on your currency, but an attacker would need your private key all the same. The issue is more that wallets vary in what they can hold. Very few non-custodial wallets can hold multiple currencies across different chains. Wallets can often hold all types of currencies on a particular chain, e.g ERC 20 tokens on Ethereum. A user ends up having funds dispersed across multiple private keys, all with their own risk of being lost, and a myriad jumble of browser extensions, just to be able to interact with the blockchain at a useful, practical level.

The Need for Multiple Crypto Wallets

If seeking to deploy funds across multiple chains, make particular swaps, and leveraging a large DeFi portfolio — as well as making standard things like payments — most users will need a smorgasbord of browser extensions that function as wallets to the various blockchains they are interacting with. As highlighted later on, this is about to change.

Custodial Options and Their Complications

The old warcry of “Not Your Keys, Not Your Crypto” is true. A custodial wallet, like that found on a centralised exchange, means that the organisation where you are ‘storing’ your crypto are actually masters of your coins.

They could — and in irreversible totality — steal all your coins. Even if held to legal account, if they destroyed the private keys to their and thus their customers accounts, or moved the money to a third wallet they did not control, then no legal (or even physical) recourse could get the money back. This is the nature of cryptographic data-value exchange — it’s possible to lose or give away the key and never get it back.

Moreover, there could be a far more innocent problem with handing over possibly large swathes of the nascent crypto economy to one third party — hacks, exploits and human error. Innocent for the custodians, of course, not for those attacking. There has been a predictable commonality to these types of attacks through crypto’s short history, and a lot of money has been lost. Hackers stole $4 billion in crypto crimes in 2019, and $3.2 billion in 2020. The trend has been decreasing slightly, and crypto technology, services and — far more importantly — the literacy of both its user base and the developers working in it, has improved. The most problematic of these types of hacks are centralised exchange hacks, like the Mt Gox exchange incident, where nearly half a billion dollars of bitcoin was stolen at 2014’s prices.

Why Custodial Wallet Options Have Benefits

Custodial wallets are still appealing to many because, as the tokens you control are only IOUs from the third party exchange, they are freely interchangeable amongst the third-parties’ own crypto reserves, and thus complex multi-chain swaps can be executed easily because, in reality, the third party simply holds both of these tokens already and can pay out your account on request.

Also, many average users — fearful of the responsibility and autonomy behind owning their keys, reasonably deduce that a large entity dedicated to cryptocurrency services is far more likely to preserve them responsibly. Indeed, large cryptocurrency institutions do not leave all their customers’ funds in a giant exchange hot wallet.

Yet those funds remain in limbo. Remember, we can track the wallet they were sent to, and only in the recent past has some of those funds begun to move again. Institutions like Binance and Coinbase have cold wallets — figurative locked rooms with pieces of paper on them — which substantiate much of their blockchain wealth. These wallets are doubtless protected by multisignature key sharing schemes and physical security in order to stop one person absconding with all the funds or key loss becoming a threat to their operational capacity.

Why Institutional Investors Want Custodial Wallets

For large institutional investors with no crypto heritage, suddenly changing the natural custody of their funds from traditional instruments held by banks and governments to self-authored cryptocurrency paradigms leads to significant risk. If the CFO, with no experience, suddenly puts the figurative paper in the washing machine and destroys the private key, the company can suddenly go bankrupt.

The reality is likely more pragmatic, but CEOs and hedge fund managers can’t, currently, afford that risk. Metamask Institutional is one company which offers custodial asset management for corporate funds, but there are many more. This type of institutional custody executes several important functions alongside just safe storage of a firm’s digital assets. It also helps ensure transaction compliance and access to permissioned pools, where counterparties are known pseudonymously and institutions can ensure they are not trading with bad actors. Most importantly, just like a retail consumer on an exchange, it reduces the chain of action involved in a typical DeFi involvement process.

However, as we further converge centralized with decentralized finance, even institutionally-held funds need better composability to be plugged into the DeFi economy. While a company like Tesla just holds onto its bitcoin, a traditional hedge fund might be interested in staking, lending, or provisioning liquidity via numerous digital assets, both volatile and stable, and via multiple protocols. Thus, there is a moment where strictly custodial capital management creates friction in efficiently adopting DeFi.

Onomy Access — Building Better DeFi Wallets

As the financial protocol spearheading the convergence of CeFi and DeFi, Onomy places strong emphasis on security and user interfaces. This is where the Onomy Access wallet and the Natural Rights technology come into play. Natural Rights uses proxy re-encryption to simplify private key management through authorized devices and enable single sign-on with QR when managing multiple private keys. Users retain full control over assets deployed on multiple networks, but no longer need to maintain wallets for each individual chain, which is a big step up in improving the DeFi user experience.

Additionally, the wallet allows both retail and institutional users to seamlessly stake their assets or engage in protocol governance, all from a single, yet secure (audited and formally verified) interface that is directly linked with the DeFi money legos.

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Onomy Protocol

Onomy Protocol

1.2K Followers

Offering the infrastructure necessary to converge traditional finance with decentralized finance.