What is crypto custody, and why its vital to attract institutions into the digital asset economy.
Cryptocurrency custody solutions are independent storage and security systems used to hold enormous quantities of tokens. Custody solutions are the latest innovations to emerge from the cryptocurrency ecosystem. They have been expected to herald the entry of institutional capital into the industry. Here is a brief primer on why crypto needs custody solutions and the types of custody solutions being offered in the market.
Why offer Crypto Custody services
The offer of Crypto Custody services becomes fundamental to meet the needs of the various market stakeholders interested in using crypto services and capturing the new business opportunities of a market with ample room for growth, considering the recent surrounding developments.
Strong demand from
- Institutional investors: asset storage, brokerage, investment agency, security token management.
- Corporate: asset storage, investment agency.
- Exchange: asset storage.
- Individuals: asset storage, brokerage, investment agency.
- Crypto Miners
There are new business opportunities on the horizon
• Stablecoin/CBDC: custody services can act as a trust for storing Stablecoins and/or Central Bank Digital Currencies.
• Security Tokens: Custody services are essential for tokenized financial products with additional caveats.
• NFT: a rising market where custody services are one of the most important aspects to consider.
Why Does Crypto Need Custody Solutions?
The leading utility of cryptocurrency custody solutions lies in safeguarding cryptocurrency assets. Private keys, which are used to conduct transactions or access crypto holdings, are a complex combination of alphanumerics. They are extremely difficult to remember and can be stolen or hacked. Online wallets are a potential solution, but they have also proven susceptible to hacks. The same is true of cryptocurrency exchanges.
Other solutions include storing private keys offline, on paper, or on a hard disk (or other electronic equipment) that is not connected to the Internet. But losing physical custody (or either the paper or electronic equipment) is a real possibility. In those cases, recovery of the cryptocurrency holdings can be impossible. For individual holders of bitcoin, the possibility of losing private keys is a risk; for institutional investors, though, it represents an even more significant risk. The latter goes to extreme lengths to guard against this danger. Some notable investors have even been known to distribute portions of a paper wallet across numerous storage units in different locations. The other important reason for the existence of cryptocurrency custody solutions is regulation. The regulatory framework for digital assets continues to develop quickly. That’s why banks will need to have practical specialized regulatory and legal advice that will, among other things, position them to be ready to shift and adapt business operations quickly as regulations change. In addition, services offered to participants in the crypto economy may cross the boundary from banking activities to securities activities regulated by the SEC or FINRA. Those are just several of the dynamics that dictate why creating a business in the crypto economy, including acting as a digital asset custodian, requires a comprehensive regulatory strategy.
What Are Cryptocurrency Custody Solutions?
Put simply, cryptocurrency custody solutions are third-party providers of storage and security services for cryptocurrencies. Their services are mainly aimed at institutional investors, such as hedge funds, who hold large amounts of bitcoin or other cryptocurrencies. The solutions generally incorporate a combination of hot storage, crypto custody with connection to the Internet, and cold storage, or crypto custody that is disconnected from the Internet.
Both types of storage have benefits and drawbacks. For example, hot storage is connected to the Internet and, as a result, offers more accessible liquidity. But hot storage options may be prone to hacks due to online exposure. Cold storage solutions provide greater security. However, it may be challenging to generate liquidity from crypto holdings on short notice because of their offline nature. Vault storage is a combination of both types of cryptocurrency custody solutions in which the majority of funds are stored offline and can be accessed only using a private key.
Prominent Players in Cryptocurrency Custody
One of the significant emergent players in the cryptocurrency custody space is Coinbase, the popular digital currency exchange. Coinbase entered the institutional-grade custody solutions area relatively recently, buying up acquisitions like California’s Keystone Capital, a registered broker. In August of 2019, Coinbase acquired the institutional business of storage provider Xapo. Swiss bank Vontobel also launched a Digital Asset Vault aimed at institutional investors in the crypto space. The industry will evolve only after regulators step in and set rules for the playing field.