2019 is the year of building cryptocurrency infrastructure. While the longest winter in the history of the cryptocurrency market continues breaking the record of 2011, the crypto community is striving in many ways to resemble Wall Street. The U.S. stock market, which is the largest in the world, has become the standard in the development of new cryptocurrency asset storage systems. But to what extent does the market need crypto custody services?
There Is More Competition Than on Wall Street
Recently, institutional players have been actively launching custody offerings for cryptocurrencies. Fidelity Digital Asset Services LLC (FDAS), a subsidiary of investment giant Fidelity Investments that administers more than $7 trillion in customer assets, will launch services for storing Bitcoin in March. Next will be Ether.
For Wall Street, the storage service provider is usually a company that is a third party in sales transactions and is not affiliated with any of the participants. Depository Trust & Clearing Corp (DTCC) reigns supreme in the New York stock market, storing 99.9% of all U.S.-issued securities, and is the world’s largest storage service provider. At the same time, the Mises Institute’s Caitlin Long points out that despite the “independence” of DTCC, the situation around Dole Foods showed that shares could sometimes become part of unauthorized economic operations. Shareholders in Dole Foods, for example, once went to claim their rewards after a successful class-action lawsuit against the company and found they owned 33 percent more shares than there were actual shares.
For cryptocurrencies, the process of launching storage services is accompanied by the appearance of many players who will not be a “third party” in sales transactions, which means that the same suspicions may arise that Long has for DTCC.
Along with Fidelity, the Bank of New York Mellon Corp., J.P. Morgan Chase & Co, and Northern Trust are also planning to enter the market. On January 14, the Swiss bank Vontobel has launched its storage service, but there’s a catch: the amount of funds managed by the credit institution is very modest at €109 billion, and it is unknown what portion will be invested in cryptocurrencies. The bank became seriously interested in operations with digital assets only a year ago. Similar projects are being developed by the Japanese financial corporation Nomura, the British company G4S, and the Canadian VersaBank.
Fidelity Is Not Alone in Its Caution
For Fidelity, the world of cryptocurrencies has been known since 2015, the time when the corporation took up mining. But until recently, it had been slow in launching its own crypto trading platform, which was formally launched through a subsidiary company. Moreover, Fidelity currently runs crypto custody services only for a small number of customers, with a total of more than 13,000. The company is behaving cautiously, although, in October 2018, it assured that even “regulatory uncertainty” would not prevent it from moving forward. At the same time, the company has not yet launched a cryptocurrency trading platform. There is custody, but there are no operations for buying and selling digital assets.
Among the ten well-known forecasts for 2019, there is one saying that many banks will come to the cryptocurrency market. Indeed, the organizations mentioned above are also trialing crypto storage services, but for the time being, they mostly refuse to trade in them, promising that it will happen not today but “tomorrow.” Meanwhile, Dan Morehead, the head of the cryptocurrency investment company Pantera Capital, highly appreciated the pilot service from Fidelity. Without the presence of companies with institutional names in the storage services market, institutional investors will not enter the crypto market.
Fidelity does the same thing that Winklevoss family business partner Sterling Witzke described: they are dipping their toes into the crypto water, but are refusing to take the plunge. The same story happened with the investment bank Goldman Sachs, which remained on the sidelines of the cryptocurrency world. As Justin Schmidt, the digital asset head, explained, the bank believes that institutional investors will not enter the digital assets market without custody services for cryptocurrencies, but the organization itself is not ready to deal with this issue due to the lack of regulation.
An Alternative Is Cold Storage: A Device or a Mountainside Vault
Are there alternatives? Cryptocurrencies can be stored in cold storage, which is devices that are not connected to the Internet, meaning they are not vulnerable to hacker attacks. The information on them is fenced with multi-level protection, both with the help of a PIN code, and other “quests” that anyone who wants to retrieve data from the carrier must pass. In fact, the latter is an alternative to the old-school method of storing cryptocurrencies, which was chosen by the Winklevoss brothers, as they wrote the key to a Bitcoin address on paper, then cut it into pieces, and put into boxes in post offices of different states.
Cold storage devices are constantly being modified. Before, they had access to a desktop computer; now, there are options for remote work using Bluetooth, but this already creates additional risks of interception of sensitive information. In addition, data can be “read” from completely “blind” devices, even remotely.
The fact that there is a problem with the vulnerability of cold storage is recognized by one of the companies producing such devices, Trezor, which explains that the attacker must have physical contact for a successful hack. Representatives of Ledger also spoke about “non-critical vulnerabilities.”
To avoid any physical contact of the attacker with the device, some companies in Switzerland and Norway are building “storage for storage.” They create special vaults in the mountains, placing there the technical carriers of the private keys to Bitcoin addresses. Access to these vaults is not only planned to be heavily guarded but also ensures passage only using the owner’s biometric identification when they have to put their hand against a reader. It is worth expecting that, perhaps, Elon Musk will go even further and will be able to organize the storage of access to digital assets on a space station in Earth orbit.
Keeping Funds on Crypto Exchanges Is Risky
Cryptocurrencies can be stored in digital wallets on crypto exchanges, although numerous hacker attacks have led to a loss of confidence in trading platforms. The crypto exchanges themselves are no longer eager to prove the opposite. For example, Binance has chosen a strategy for the formation of financial reserves, which it intends to use as compensation if the attack of some hackers on its platform proves successful.
Crypto exchanges, such as Coinbase and Gemini, have created their own custody services targeted at institutional investors. But when it comes to reputation, Fidelity, as well as large banks, look more attractive, and technically, they are more prepared for large-scale operation.
But small players are also trying to keep up. Mike Belshe, the head of the cryptocurrency company BitGo, which is launching a storage solution, is sure that with its help, trillions of dollars that belong to players of the traditional financial market will come to the cryptocurrencies market. Belshe is convinced that such independent service providers should lead to an outflow of crypto money from its counterparts, crypto exchanges. ItBit is developing a project similar to BitGo.
Meanwhile, crypto exchanges are also ready to declare that they can provide cryptocurrency cold storage services and transfer significant amounts using this method of saving crypto assets, as shown by the Bittrex platform. Cryptocurrency companies (both crypto exchanges and IT startups) have a limitation. If they intend to keep crypto coins worth more than $150 million, then they will need to get permission not only at the state level if it happens in the U.S., but also to have a license from the SEC.
Cryptocurrency repositories have been launched for a long time, but there is no demand for such services as yet. It is no coincidence that the company Prime Trust, which started such a service for Ether and ERC-20 tokens in mid-August of 2018, announced at the end of January that the fee had been reduced to zero. Why are players of the classical world of finance not seeking to use a wide variety of cryptocurrency services?
Apparently, the desire to hard sell storage services to classic finance players may be an attempt to combine the uncombinable. Cryptocurrencies and blockchain have a disruptive character, that is, they are changing the modern global financial system—something that is spoken about a lot in the cryptocurrency community.
Despite hacker attacks, as well as regulatory problems, along with a substantial market collapse, interest in cryptocurrencies is growing. The “tenth wave” of demand for crypto coins is starting in emerging economies with unstable national currencies that are doomed to instability due to lack of reserves, something that the U.S. dollar and a small circle of its “colleagues” do have. And this is only the beginning, in which the slow development and unhurried deployment of custody services do not agree with the modern rhythm of cryptocurrency distribution. Storage services are not bad, but they must speed up.